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https://www.courtlistener.com/api/rest/v3/opinions/4621797/	Occidental Life Insurance Company of California, Petitioner v. Commissioner of Internal Revenue, RespondentOccidental Life Ins. Co. v. CommissionerDocket No. 2630-66United States Tax Court50 T.C. 726; 1968 U.S. Tax Ct. LEXIS 84; August 12, 1968, Filed 1968 U.S. Tax Ct. LEXIS 84">84 Decision will be entered for the petitioner. Petitioner paid over to the estate of a Canadian resident, a former agent of petitioner, renewal commissions becoming due on insurance sold by decedent prior to his death, before it had notice that a United States estate tax was due but unpaid by the Canadian estate. Held, petitioner is not liable for payment of the estate tax due by the Canadian estate out of its own assets to the extent of the payments made to the estate. A. R. Kimbrough and James M. Cowley, for the petitioner. 1968 U.S. Tax Ct. LEXIS 84">86 Marion Malone, for the respondent. Drennen, Judge. DRENNEN50 T.C. 726">726 The Commissioner caused a notice of liability to be issued to petitioner in which a liability of $ 14,317.83 plus interest was determined for assessment against petitioner, which amount was alleged to be petitioner's liability as a fiduciary for U.S. estate tax due from the Estate of Louis Rotenberg (hereinafter called the estate). It has been stipulated that since petitioner has paid over to respondent all amounts accruing to the estate from petitioner since August 29, 1963, and is willing to pay over all amounts accruing after April 11, 1966, petitioner is entitled to a setoff of all said amounts against any liability imposed upon it by the decision rendered herein.The sole issue for decision is whether petitioner is liable as a fiduciary for estate taxes that were due to the United States from the estate in the amount of the estimated renewal commissions that might become payable to the Estate of Louis Rotenberg on insurance policies written for petitioner by Rotenberg prior to his death.50 T.C. 726">727 FINDINGS OF FACTSome of the facts have been stipulated and are incorporated herein by this reference. 1968 U.S. Tax Ct. LEXIS 84">87 Petitioner is a corporation engaged in the business of selling life and other insurance in the United States and Canada, with its principal office in Los Angeles, Calif. Louis Rotenberg was a resident and citizen of Canada who died on December 24, 1961, and had, for some years prior to his death, sold life insurance for petitioner in Canada. Petitioner learned of Rotenberg's death no later than December 29, 1961.At the date of Rotenberg's death, there were a number of petitioner's life insurance policies in force that he had sold. Rotenberg's compensation from commissions on policies sold by him was dependent upon the period for which the policies remained in force and premiums were paid thereon, because renewal commissions were paid with respect to policies for some years after they were sold, providing that the policies were kept in force and premiums were paid thereon. Renewal commissions became payable only as premiums were paid.Rotenberg's last will and testament was admitted to probate in the County of York, Province of Ontario, Canada. His wife and two daughters, all of whom were residents and citizens of Canada, were appointed executrices of his estate. At no time 1968 U.S. Tax Ct. LEXIS 84">88 was petitioner appointed as an executor or other fiduciary for the estate, either in Canada or the United States.Between December 24, 1961, and March 16, 1962, petitioner was asked by representatives of the estate for a valuation of the renewal commissions that were likely to accrue to the account of Rotenberg on petitioner's insurance policies sold by him prior to his death. On March 19, 1962, petitioner responded with an estimate of approximately $ 25,000. However, on March 29, 1962, petitioner's Canadian office questioned that estimate and a revised valuation of $ 14,922.18 (Canadian) was arrived at, which was based on Rotenberg's own persistency experience and was cleared with petitioner's employees who were conversant with this type of valuation problem.On July 16, 1962, the executrices of the estate filed with respondent a Nonresident Alien Estate Tax Return, Form 706NA. The assets subject to U.S. estate tax reported on that return were (a) securities of U.S. corporations held by Rotenberg at the time of his death in street form in Toronto, Canada, of a value of approximately $ 152,833.13, and (b) the estate's claim against petitioner for renewal commissions which might 1968 U.S. Tax Ct. LEXIS 84">89 accrue to the estate, reported in the amount of $ 14,992.18 in Canadian dollars. The return reported a liability to the United States for estate tax in the amount of $ 27,096.92. The estate tax was ultimately 50 T.C. 726">728 assessed in the amount of $ 32,071.56, which the estate apparently did not pay. 1Petitioner was not aware of the fact that the estate had filed the nonresident alien estate tax return; nor was it aware that Rotenberg had any assets subject to U.S. estate tax except the value of the renewal commissions which might become due to the estate from petitioner. Petitioner did not file a Form 705, as prescribed under section 6036 of the Internal Revenue Code. 21968 U.S. Tax Ct. LEXIS 84">90 Pursuant to its policy, petitioner did not pay to the estate any renewal commissions which became due on insurance written by Rotenberg until advised to do so by its legal department, which advice was forthcoming upon release by the Canadian tax authorities with reference to the Canadian succession tax. Between September 18, 1962, and August 29, 1963, petitioner paid to the estate, by 16 checks written either to the estate or to Rotenberg, a total of $ 8,355.78 in Canadian dollars and $ 32.40 in United States dollars, covering renewal commissions that had accrued between December 24, 1961, and August 29, 1963, on policies written by Rotenberg.On August 29, 1963, respondent served on petitioner a notice of levy on all property belonging to the estate for payment of U.S. estate tax. This was the first notice of any kind served by respondent on petitioner with respect to the estate's tax liability and was petitioner's first actual notice of any U.S. estate tax liability of the estate. Respondent served four additional such levies on petitioner, the last being dated April 11, 1966. Pursuant to such levies petitioner made payments to respondent totaling $ 5,699.27 Canadian dollars1968 U.S. Tax Ct. LEXIS 84">91 and $ 31.96 United States dollars from amounts accruing to the estate as renewal commissions subsequent to the date of the first levy. Petitioner has made no further payments to the estate since it was served with the first notice of levy.On March 2, 1966, respondent caused a notice of liability to be issued to petitioner in which a liability of $ 14,317.83 (the estimated value of the renewal commissions -- $ 14,922.18 in Canadian dollars -- stated in United States dollars) plus interest was determined for assessment against petitioner, which amount was alleged to be petitioner's liability as a fiduciary for estate tax due from the estate. The parties stipulated that if it is determined that petitioner is liable for any of the amount claimed, petitioner is entitled to a setoff of all amounts it has paid to the United States under the levies. Petitioner also argues that the estimated value of $ 14,922.18 Canadian dollars is not the 50 T.C. 726">729 amount to be used in determining its liability, if any, because that estimated value must be discounted for the time over which the renewal commissions might become payable to the estate. However, in the light of our conclusions herein we 1968 U.S. Tax Ct. LEXIS 84">92 need not reach the latter issue.OPINIONRespondent's argument on brief in support of his determination that petitioner is personally liable for the estate tax due from the estate to the extent of property owned by or accruing to the estate and paid out by petitioner prior to satisfaction of the estate tax liability is just that, i.e., brief. He argues that liability for payment of estate tax is imposed upon the executor under section 2002 of the Code; that under section 2203 the term "executor" is defined as the duly appointed executor or administrator of the estate, or if there is no duly appointed and acting U.S. fiduciary, then any person in actual or constructive possession of any property of the decedent; that inasmuch as there was no duly appointed U.S. fiduciary acting for the estate, and petitioner was in possession of property owned by the estate, petitioner qualifies as an executor of the estate and was liable for payment of a portion of the estate tax due from the estate; and that, ergo, inasmuch as petitioner paid out funds due to the estate before satisfaction of the estate tax liability, petitioner is personally liable to the United States to the extent of the funds1968 U.S. Tax Ct. LEXIS 84">93 so paid out under section 3467 of the Revised Statutes of the United States (31 U.S.C. sec. 192).We cannot accept respondent's argument. It suffers from "gapitis." Section 20023 of the Code, simply provides that the tax imposed by that chapter, the estate tax, shall be paid by the executor. It imposes no personal liability for the tax on the executor. And while petitioner may qualify under the definition of "executor" contained in section 2203, 41968 U.S. Tax Ct. LEXIS 84">94 that definition applies to the term "executor" only as used in "this title" (title 26, U.S.C.) in connection with the estate tax imposed by "this chapter." Respondent points to no provision in title 26 which imposes personal liability upon the "executor" for the estate tax. 550 T.C. 726">730 Section 2002 provides for administrative purposes that the tax shall be paid by the executor; this cannot be interpreted to impose personal liability for the tax on the executor.Respondent seems to acknowledge that we must look to section 192 of title 31, U.S.C., 6 to determine the personal liability of the executor or other fiduciary. That section provides that every executor or other person who pays, in whole or in part, any debt due by the estate for which he acts before he satisfies and pays debts due to the United States from such estate, shall become answerable in his own person and estate to the extent of such payments for the debts so due and unpaid. We agree that it is to this provision that we must look to determine whether petitioner is personally liable for the estate tax due from the estate -- and it becomes immaterial for this purpose whether petitioner qualifies as a statutory executor for purposes1968 U.S. Tax Ct. LEXIS 84">95 of title 26 under section 2203 of the Code. This finds support in section 6901, of the Code, which provides, in part, that the liability of a fiduciary under section 3467 of the Revised Statutes (31 U.S.C. sec. 192) in respect of the payment of any tax described in subparagraph (A) (which includes the estate tax) from the estate of the decedent shall be collected in the same manner as the taxes with respect to which the liabilities were incurred. (See also sec. 20.2002-1, Estate Tax Regs.)Under section 192 of title 31 petitioner would be personally liable for the estate1968 U.S. Tax Ct. LEXIS 84">96 tax due from the estate only to the extent that it paid "any debt due by the person or estate for whom or for which he acts." Petitioner has paid no debt due by Rotenberg or the estate, and it is very questionable that petitioner could be considered as acting for the estate in any capacity. All petitioner has done was to pay its own obligations to the estate as they became due. It can hardly be said that petitioner was acting for the estate in a fiduciary capacity in making these payments.Section 192 of title 31 is penal in nature and should be limited in its application to those clearly intended to be covered by its provisions. See Irving Trust Co., 36 B.T.A. 146">36 B.T.A. 146; Livingston v. Becker, 40 F.2d 673 (E.D. Mo. 1929); 3 Casey, Federal Tax Practice, par. 12.55. The persons to whom it is made applicable are executors, administrators, assignees, or other persons. While this language is rather general, it has been held to refer to persons to whom the possession and control of property of an insolvent or estate is given who is charged with the duty of applying it to the payment of the debts of the insolvent or 50 T.C. 726">731 1968 U.S. Tax Ct. LEXIS 84">97 estate as the rights and priorities of creditors appear. King v. United States, 379 U.S. 329">379 U.S. 329; Bramwell v. U.S. Fidelity Co., 269 U.S. 483">269 U.S. 483. It can hardly be said that petitioner meets that description.But even assuming that petitioner is an executor or other person as contemplated by section 192 of title 31, we would still hold for petitioner because the operative language of the section would not fix liability on petitioner. Petitioner has not discharged debts due by the estate in preference to taxes due to the United States by the estate. The payments were not made, as respondent suggests, to legatees of the estate; they were made to the estate itself. And it would be an unwarranted effort to force the facts of this case into the language of the statute to say that petitioner fulfilled its own obligation out of assets of the estate, because by paying the renewal commissions to the estate it was paying its own debts. This Court has held that such action does not fall within the statute. Edward G. Leuthesser, 18 T.C. 1112">18 T.C. 1112.We conclude that petitioner is not liable out of its 1968 U.S. Tax Ct. LEXIS 84">98 own assets for the estate tax due by the estate under section 192 of title 31, and that section 2002 of the Code imposes no personal liability on petitioner for payment of the estate tax whether petitioner qualifies as an "executor" under section 2203 or not.It is true that petitioner failed to file the notice of qualification as an executor (Form 705) which it may have been obligated to file under section 6036 of the Code, assuming it qualified as a statutory executor under section 2203 of the Code. However, that section imposes no personal liability for the tax on the executor for failure to file the notice. The penalty for failure to file the notice is specifically provided for under section 7269 of the Code. It is also obvious in this case that respondent was put on actual notice that petitioner had or might come into possession of property of the estate before petitioner made any payment to the estate. The nonresident alien estate tax return filed by the estate, which reported the estimated value of petitioner's future obligation to the estate as an asset of the estate, was filed with respondent on July 16, 1962; the first payment made by petitioner to the estate was on September1968 U.S. Tax Ct. LEXIS 84">99 18, 1962.Both parties either allude to or discuss on brief whether petitioner had notice of the estate's obligation to the United States. Although notice is not mentioned in section 192 of title 31, the cases establish that actual or constructive notice of the obligation to the United States is a prerequisite to personal liability under that section. See 36 B.T.A. 146">Irving Trust Co., supra;Livingston v. Becker, supra; Rev. Rul. 66-43, 1966-1 C.B. 291. We think it is clear from the record that petitioner had no actual notice of the obligation of the estate for U.S. estate tax until it was served with the first notice of levy on August 29, 1963. And we think it is quite doubtful that petitioner could be found to have had 50 T.C. 726">732 constructive notice of the obligation until that time. Petitioner was not aware that Rotenberg had any assets other than its own estimated obligation for renewal commissions that would be subject to U.S. estate tax, and the amount of its estimated obligation, which was not due or payable until earned subsequent to Rotenberg's death, was less than the $ 15,000 1968 U.S. Tax Ct. LEXIS 84">100 of U.S. assets that are exempt from tax in the estate of a Canadian resident under the provisions of the United States-Canada Estate Tax Convention dated February 17, 1961. However, we believe the issue of notice would achieve significance in this case only if petitioner comes within the definition of executor and within the operative language of section 192 of title 31, which we find it does not.We conclude that petitioner is not liable for payment of the U.S. estate tax owing by the estate out of its own assets.Decision will be entered for the petitioner. Footnotes1. The record does not indicate clearly that the U.S. estate tax was not paid by the estate but both parties argue the case as though this was a fact.↩2. All references to the Internal Revenue Code are to the Internal Revenue Code of 1954.↩3. SEC. 2002. LIABILITY FOR PAYMENT.The tax imposed by this chapter shall be paid by the executor.↩4. SEC. 2203. DEFINITION OF EXECUTOR.The term "executor" wherever it is used in this title in connection with the estate tax imposed by this chapter means the executor or administrator of the decedent, or, if there is no executor or administrator appointed, qualified, and acting within the United States, then any person in actual or constructive possession of any property of the decedent.↩5. In his reply brief respondent refers to sec. 6324(a) (1) of the Code in discussing the requirement for notice. Respondent did not argue that petitioner was personally liable for the tax under sec. 6324(a) (2). See Equitable Life Assurance Society, 19 T.C. 264">19 T.C. 264; Patricia B. Englert, 32 T.C. 1008">32 T.C. 1008↩.6. SEC. 192. LIABILITY OF FIDUCIARIES.Every executor, administrator, or assignee, or other person, who pays, in whole or in part, any debt due by the person or estate for whom or for which he acts before he satisfies and pays the debts due to the United States from such person or estate, shall become answerable in his own person and estate to the extent of such payments for the debts so due * * and unpaid. * * *↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621798/	ROBERT M. GREEN, JR., PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Green v. CommissionerDocket No. 13834.United States Board of Tax Appeals12 B.T.A. 1046; 1928 BTA LEXIS 3408; June 30, 1928, Promulgated 1928 BTA LEXIS 3408">3408 The petitioner, having failed to introduce sufficient evidence to enable us to base our decision on section 703 of the Revenue Act of 1928, the fiduciary under the will of the decedent is the only one entitled to deduct Pennsylvania inheritance and Federal estate taxes in the computation of net income for 1921, notwithstanding the decedent specified in his will that the petitioner should pay the tax upon his share of the estate. Milton A. Kamsler, Esq., for the petitioner. Leroy L. Hight, Esq., for the respondent. MORRIS12 B.T.A. 1046">1046 This proceeding is for the redetermination of deficiencies in income tax of $324.04 for the year 1920 and $1,766.52 for the year 1921. The sole question presented for consideration is whether the respondent erred in refusing to allow the petitioner to deduct Pennsylvania inheritance and Federal estate taxes paid by him in accordance with the terms of his father's will. FINDINGS OF FACT. The petitioner is an individual and is a resident of Pennsylvania. Robert M. Green, Sr., father of the petitioner, died testate, and after having bequeathed sums to certain beneficiaries, including the petitioner, provided1928 BTA LEXIS 3408">3409 in his will as follows: I direct that all inheritance and succession taxes on so much of my estate as consists of my interest in the business of Robert M. Green & Sons, shall be paid by my sons Robert M. Green, Jr. and Edgar L. Green, as a condition of the 12 B.T.A. 1046">1047 bequest to them. All inheritance and succession taxes on the balance of my estate shall be paid out of my residuary estate and not deducted from the legacies. The decedent left all the residue and remainder of his interest in the firm of Robert M. Green & Sons to the petitioner and Edgar L. Green, two-fifths thereof to the petitioner and three-fifths thereof to Edgar. On May 20, 1921, Edgar L. Green gave the partnership's check for $2,938.74 to the register of wills in payment of Pennsylvania inheritance taxes, and thereafter on May 21, 1921, a like check for $2,639.45 was given to the collector of internal revenue at Philadelphia, Pa., in payment of Federal estate taxes. In addition to those amounts the fiduciary of the estate paid $6,071.53, $5,063.79 in cash, and the petitioner having a two-fifteenths interest in the remainder of the estate claimed a deduction of that amount (2/15 of $5,063.79) in the computation1928 BTA LEXIS 3408">3410 of his net income for 1921, together with his pro rata portion of the amounts paid by the partnership to the register of wills and to the collector of internal revenue. The total deduction claimed by the petitioner, which was disallowed by the respondent, is computed as follows: 2/5 of $2,938.74, amount paid to Pennsylvania$1,175.502/5 of $2,639.45, Federal estate tax1,055.782/15 of $ 5,063.79, Federal estate tax and State inheritance tax on the remainder of the estate which was paid by the estate in cash675.17Total2,906.45The reason assigned by the respondent for the disallowance of the sums paid by the petitioner is that tax imposed by the Federal and State taxing statutes is upon the right to transfer property and, therefore, the deduction is allowable only from the gross income of the estate. OPINION. MORRIS: Upon motion of counsel for the respondent, and with the express consent of counsel for the petitioner, so much of this proceeding as relates to 1920 is hereby dismissed. Sections 210 and 211 of the Revenue Act of 1921 specify the amounts of normal and surtaxes that shall be levied and collected upon the net income of every individual1928 BTA LEXIS 3408">3411 subject to the tax, and section 214 of the Act specifies the deductions that may be taken in the computation of net income. Subdivision (a)(3) of that section provides for a deduction of, "Taxes paid or accrued within the taxable year except (a) income, war-profits, and excess-profits taxes imposed by authority of the United States, * * ." 12 B.T.A. 1046">1048 The pertinent provisions of section 219 of the Revenue Act of 1921 are: (a) That the tax imposed by sections 210 and 211 shall apply to the income of estates or of any kind of property held in trust, including - (1) Income received by estates of deceased persons during the period of administration or settlement of the estate; * * * (b) The fiduciary shall be responsible for making the return of income for the estate or trust for which he acts. The net income of the estate or trust shall be computed in the same manner and on the same basis as provided in section 212, * * * That section of the Act provides further that in cases coming within the provisions of paragraph (a)(1) above, "the tax shall be imposed upon the net income of the estate or trust and shall be paid by the fiduciary." 1928 BTA LEXIS 3408">3412 It is definitely settled that the estate tax imposed by Title IV of the Revenue Act of 1918, which for our purpose is the same as the Revenue Act of 1921, and the Pennsylvania inheritance tax, are laid upon the transfer of property upon the death of the owner, and not upon the property itself, nor upon the right of succession thereto. ; ; ; and . In , the court, after considering the tax imposed by the Revenue Act of 1918, said: * * What was being imposed here was an excise upon the transfer of an estate upon death of the owner. It was not a tax upon succession and receipt of benefits under the law or the will. It was death duties as distinguished from a legacy or succession tax. What this law taxes is not the interest to which the legatees and devisees succeeded on death, but the interest which ceased by reason of the death. 1928 BTA LEXIS 3408">3413 . The petitioner contends that because of the terms of the will under which he took, the tax payments made by him were on his right to receive the inheritance and that, therefore, the tax is a deductible item in the computation of his net income for 1921, and he quotes article 134 of Regulations 62, promulgated under the Revenue Act of 1921, as authority for his contention. That article of the regulations provides: Estate, succession, legacy, or inheritance taxes, imposed by any State, Territory or possession of the United States, or foreign country, are deductible by the estate, subject to the provisions of section 214, where, by the laws of the jurisdiction exacting them, they are imposed upon the right or privilege to transmit rather than upon the right or privilege of the heir, devisee, legatee, or distributee, to receive or to succeed to the property of the decedent passing to him. Where such taxes are imposed upon the right or privilege of the heir, devisee, legatee, or distributee, so to receive or to succeed to the property, they constitute, subject to the provisions of section 214, an allowable deduction from1928 BTA LEXIS 3408">3414 his gross income. (Italics supplied.) 12 B.T.A. 1046">1049 The petitioner strees the underscored portion of the above article in support of his contention. The word "imposed" as used in the last sentence of the above quoted paragraph is used in the same sense as in the first sentence and has no reference to obligations or conditions imposed upon the heir, devisee, or legatee by the will. In order for a taxpayer to avail himself of the deduction provided for in that sentence the estate or inheritance tax imposed must be by law upon the right to receive the property and not upon the right to transfer it. In the appeal of , where the question was whether the respondent erred in refusing the petitioner the right to deduct from his gross income the amount of Pennsylvania transfer taxes which had been paid during the taxable year by the executor and deducted by him during that year from the share of each petitioner before payment of the transfer, it was held that said amounts were not deductible by the petitioner under the provisions of section 214(a)(3) of the Revenue Act of 1921. 1928 BTA LEXIS 3408">3415 In , the petitioner contended that being the devisee of real estate he represented the estate as to such property, and having paid the estate tax he is entitled to a deduction therefor in the computation of his net income. The petitioner there based his contention upon the law of Illinois, that real estate passes direct to the devisee and not through the hands of the executor. The Board in that case, in holding that the estate tax paid by the devisee to prevent the sale of the realty was not deductible, said: If the Federal estate tax were imposed on the right of a devisee to receive property or on the interest to which he succeeds there might be some merit to the contention made. But it is not such a tax. Since the Federal estate tax and inheritance tax of Pennsylvania are levied upon the transfer of the property of the decedent the fiduciary is the only taxable entity entitled, under the Revenue Acts of 1918 and 1921, to the deductions provided for by the statute, irrespective of the fact that the testator designated who should pay the tax. Since the hearing of this proceeding the Revenue Act of 1928, containing section1928 BTA LEXIS 3408">*3416 703, relating to the deduction of estate and inheritance taxes, has become law. On the record, we can reach no different result, notwithstanding the provisions of that section. Reviewed by the Board. Judgment will be entered for the respondent.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621799/	J. E. MURPHY, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Murphy v. CommissionerDocket Nos. 7137, 26472.United States Board of Tax Appeals9 B.T.A. 610; 1927 BTA LEXIS 2545; December 17, 1927, Promulgated 1927 BTA LEXIS 2545">2545 1. Royalty income from certain oil and gas leases held not to be capital gain as defined in section 206 of the Revenue Act of 1921. 2. Profits derived from the sale of undivided interests in oil and gas underlying land owned for more than two years prior to date of conveyance, held to be capital gain as defined in section 206 of said Act. R. J. O'Connor, Esq., for the petitioner. Donald D. Shepard, Esq., for the respondent. LITTLETON9 B.T.A. 610">610 The Commissioner determined a deficiency in income tax for the year 1922, in the amount of $7,762.99. It is claimed that the Commissioner erred in refusing to compute the tax under section 206 of the Revenue Act of 1921, upon that portion of petitioner's income derived from certain oil and gas leases and from sales and conveyances by petitioner of oil and gas rights in certain properties. Two deficiency notices were mailed for the fiscal year and separate petitions were filed. The proceedings were, upon motion made and granted, consolidated. The facts are found as stipulated. 9 B.T.A. 610">611 FINDINGS OF FACT. The petitioner is and was during the year 1922, a resident of El Dorado, Ark., and filed1927 BTA LEXIS 2545">2546 his return for said year with the collector of internal revenue at Little Rock, Ark.The net taxable income of petitioner for 1922, less capital net gains of $2,750, was $69,895.06, of which amount the sum of $64,987.70, represented net income from the sale or transfer of oil and gas leases and royalty interests. During the year 1922, petitioner executed certain oil and gas leases to divers parties on lands in which he had held an undivided fee simple interest for more than two years prior to the execution of such leases. In this year petitioner also transferred by warranty deeds to divers parties, interests in the oil, gas, and other minerals in and upon lands which he had owned for more than two years prior to the date of each sale. Each conveyance was made subject to an oil and gas lease thereupon granted on the land described. The material provisions of all the leases and warranty deeds were in all respects similar. The material portion of one of the leases follows: THIS AGREEMENT, Made and entered into this the 26th day of July, 1922, by and between J. E. Murphy and Nannie B. Murphy, his wife, of Union County, Arkansas, party of the first part, hereinafter called lessor1927 BTA LEXIS 2545">2547 (whether one or more), and the Simms Oil Co., a corporation, party of the second part, hereinafter called the lessee. WITNESSETH, That the said lessor for and in consideration of NINE THOUSAND DOLLARS cash in hand paid, the receipt of which is hereby acknowledged, and of the covenants and agreements hereinafter contained on the part of the lessee to be paid, kept and performed, have granted, conveyed, demised, leased and let, and by these presents do grant, convey, demise, lease and let unto said lessee, for the sole and only purpose of mining and operating for oil and gas, and laying of pipe lines, and of building tanks, towers, stations and structures thereon to produce, save and take care of said products, and all that certain tract of land situated in the County of Ouachita, State of Arkansas, Northwest quarter of southwest quarter of section twenty-eight Township Fifteen south, Range fifteen west and containing 40 acres, more or less. It is agreed that this lease shall remain in force for a term of from this date, and as long thereafter as oil or gas, or either of them is produced from said land by the lessee. In consideration of the premises the said lessee covenants1927 BTA LEXIS 2545">2548 and agrees: 1st. To deliver to the credit of the lessor, free of costs in tanks or pipe line to which it may connect its wells, the equal one-eighth part of all oil produced and saved from the lease premises. 2nd. To pay the lessor the market value of 1/8 of the production each year, for the gas from each well where gas only is found, while the same is being used off the premises and lessor to have gas free of cost from any such well for all stoves and all inside lights in the principal dwelling houses on said land during the same time by making his own connection with the well at his own risk and expense. 9 B.T.A. 610">612 3rd. To pay lessor for gas produced from any oil well used off the premises at the rate of the market value of 1/8 of the production, for the time during which such gas shall be used, such payments to be made each three months. If no well be commenced on said land on or before the 26th day of July, 1923, this lease shall terminate as to both parties, unless the lessee, on or before that date, shall pay or tender to the lessor, or to the lessor's credit in the Ouachita Valley Bank of Camden, Arkansas, or its successors, which shall continue as the depository1927 BTA LEXIS 2545">2549 regardless of changes in the ownership of said land, the sum of One Dollar per acre per year, while shall operate as a rental and cover the privilege of deferring the commencement of a well for one year from said date. In like manner and upon like payments or tenders the commencement of a well may be further deferred for the like periods in the same number of months successively. And it is understood and agreed that the consideration, first recited herein, the down payment, covers not only the privileges granted to the date when said first rental is payable as aforesaid, but also the lessee's option of extending that period as aforesaid, and any and all other rights conferred. Should the first well drilled on the above described land be a dry hole, then, in that event, if a second well is not commenced on said land within twelve months from the expiration of the last rental period from which rental has been paid, this lease shall terminate as to both parties, unless the lessee on or before the expiration of said twelve months shall resume the payment of rentals in the same amount and in the same manner as hereinafter provided. And it is agreed that upon the resumption of the1927 BTA LEXIS 2545">2550 payment of rentals, as above provided, that the last preceding paragraph hereof governing the payment of rentals and the effect thereof, shall continue in force just as though there had been no interruption in the rental payments. The provisions of one of the warranty deeds follow: KNOW ALL MEN BY THESE PRESENTS: That, We, J. E. Murphy and Nannie B. Murphy, his wife for and in consideration of the sum of Seven Thousand Dollars, to us cash in hand paid by W. A. Haynes and J. L. Haynes, partners doing business under the firm name and style "Haynes Brothers" at Shreveport, La. receipt of which is hereby acknowledged, do hereby grant, sell and convey unto the said W. A. Haynes and J. L. Haynes, partners doing business under the firm name and style of "Haynes Brothers," and unto their successors, heirs, and assigns forever, an undivided one-half interest in and to all of the oil, gas and other minerals in under and upon the following described lands lying within the County of Ouachita, State of Arkansas, to wit: Southwest quarter of Northwest quarter and Southwest quarter of Northwest quarter of Section 28, Township 15 South, Range 15 West, containing in all 80 acres more or less1927 BTA LEXIS 2545">2551 - subject, however to two certain oil, gas and mineral leases, as follows: The SW 1/4 Sec. 28, Twp. 15 S.R. 15 West, leased to T. J. Murphy, by instrument dated July 27th, 1922, and filed for record on July 28th, 1922, but not yet recorded: The SW 1/4 of NW 1/4 Sec. 28, Twp. 15 S.R. 15 West, leased to D. F. Hugus, Trustee, May 22, 1922, by instrument recorded in the Recorders Office of Ouachita County, Arkansas, Record Book 16 Page 247, and now assigned to Standard Oil Co., of La., as shown by instrument recorded Book 16 page 418. And for said consideration we do hereby grant and convey unto the said W. A. Haynes and J. L. Haynes, doing business as partnership under name of Haynes Brothers, their heirs, and assigns, the right to collect and receive under 9 B.T.A. 610">613 the aforementioned leases one half of the oil and gas royalties due under said leases. It being the intention by this instrument to convey to the grantees herein what is commonly known as a one sixteenth royalty or one half of the one eighth royalty to come to the lessors in the leases above described. TO HAVE AND TO HOLD the above mentioned property, together with all and singular the1927 BTA LEXIS 2545">2552 rights and appurtenances thereto in any wise belonging, unto the said W. A. Haynes and J. L. Haynes, as partners under name of Haynes Brothers, and unto their heirs and assigns forever, And we hereby covenant with the said grantees herein that we will forever warrant and defend the title to the above described lands and the rights therein conveyed against the lawful claims of all persons whomsoever, subject to the conditions above mentioned and described. The net income of petitioner from the various transactions above referred to is summarized as follows: Net income from the issuance of oil leases$52,062.70Net income from transfer oil and gas interests12,925.00Total64,987.70On the original return as filed by petitioner, the income from the above sources was computed as $65,472.70, and the tax was computed thereon by petitioner at 12 1/2 per cent of such amount on the theory that such computation was authorized by section 206 of the Revenue Act of 1921. The respondent, in computing the tax, did not consider the income arising from the leasing of the oil and gas rights and the income from the transfer of interests in oil and gas as being a gain from1927 BTA LEXIS 2545">2553 the sale of a capital asset under the provisions of section 206 of the Revenue Act of 1921, and computed the tax under sections 210 and 211 of that Act, thereby arriving at a deficiency of $7,762.99. OPINION. LITTLETON: Petitioner had been the owner of the land and the oil and gas rights for more than two years prior to the execution and delivery of the leases and deeds, and is, therefore, entitled to have his income taxed under section 206 of the Revenue Act of 1921 provided it was gain from the sale of "capital assets" as therein defined. The oil and gas leases are similar to those involved in Henry L. Berg et al.,6 B.T.A. 1287">6 B.T.A. 1287. Upon decision of the Board in that proceeding the action of respondent in refusing to tax income derived from the leases under section 206 is approved. To the same effect see John T. Burkett,7 B.T.A. 560">7 B.T.A. 560, and D. R. McDonald,7 B.T.A. 1078">7 B.T.A. 1078; Rosenberger v. McCaughn, 20 Fed.(2d) 139. In the Berg case, supra, the Board left open the question whether gain from an outright sale of oil and gas underlying land owned for more than two years is "capital gain" as that term1927 BTA LEXIS 2545">2554 is defined by section 206. By each warranty deed petitioner sold and conveyed 9 B.T.A. 610">614 subject to a prior oil and gas lease, an undivided interest in the oil and gas underlying the tract described. Since each conveyance was subject to a prior oil and gas lease, the immediate effect of such conveyance was to assign an interest in the royalty, but it is clear that this right grew out of the absolute sale and conveyance of an undivided interest in the oil and gas. The question reserved in the Berg case, supra, is presented here. Petitioner contends that since he had owned the land under which the oil and gas laid for more than two years prior to each conveyance, he was the owner of such minerals and, therefore, possessed at the date of sale a capital asset. On the other hand, respondent asserts that oil and gas, being of a fugitive nature, are, until reduced to possession at the surface, incapable of private ownership, and following this line of thought he argues that petitioner could not acquire and hold for two years that which no private individual could own. It is obvious that respondent's contention if carried to its logical conclusion would result in the establishment1927 BTA LEXIS 2545">2555 of the rule that oil and gas in place are incapable of private ownership and therefore belong to the public at large. Before discussing this question the legal consequences resulting from the application of such a rule should be stated. Suppose the petitioner had purchased a farm on which oil was subsequently discovered and after such discovery, sold his land and oil rights for a vastly larger amount than he had originally paid for the land. Could it be seriously contended that, since by far the larger portion of the purchase price was attributable to the oil, such price should be divided into two parts and the vendor deprived of the benefit of section 206 to the extent of that portion of the purchase price allocable to the oil? It is obvious that in such case the moving cause for the sale would be the oil and not the land. Assume that the owner should sell the surface to one person and the oil to another. Would there be any difference in the legal aspects of the two cases? What would result if such owner should sell the oil and reserve the land? The last mentioned question is the one involved in this proceeding and the solution thereof depends upon a determination as to1927 BTA LEXIS 2545">2556 the rights of an owner in fee to oil and gas beneath his land. These rights were discussed at length in Ohio Oil Co. v.Indiana (No. 1), 177 U.S. 190">177 U.S. 190. The issue involved in this case is thus stated by the court: The assignments of error all in substance are resolvable into one proposition; which is, that the enforcement of the provisions of the Indiana statute as against the plaintiff in error, constituted a taking of private property without adequate compensation, and therefore amounted to a denial of due process of law in violation of the Fourteenth Amendment. * * The 9 B.T.A. 610">615 statute involved in effect forbade the waste of gas and imposed penalties for its violation. The court, after pointing out that to a certain extent there was an analogy between oil and gas and animals ferae naturae, but that such analogy was subject to certain limitations, said: * * In things ferae naturae all are endowed with the power of seeking to reduce a portion of the public property to the domain of private ownership by reducing them to possession. In the case of natural gas and oil no such rights exists in the public. It is vested only in the owners in1927 BTA LEXIS 2545">2557 fee of the surface of the earth within the area of the gas field. This difference points at once to the distinction between the power which the lawmaker may exercise as to the two. In the one, as the public are the owners, every one may be absolutely prevented from seeking to reduce to possession. No divesting of private property, under such a condition, can be conceived because the public are the owners, and the enacting by the State of a law as to the public ownership is but the discharge of the governmental trust resting in the State as to property of that character. Geer v. Connecticut,161 U.S. 519">161 U.S. 519. On the other hand, as to gas and oil, the surface proprietors within the gas field all have the right to reduce to possession the gas and oil beneath. They could not be absolutely deprived of this right which belongs to them without a taking of private property. But there is a co-equal right in them all to take from a common source of supply, the two substances which in the nature of things are united, though separate. It follows from the essence of their right and from the situation of the things, as to which it can be exerted, that the use by one of1927 BTA LEXIS 2545">2558 his power to speak to convert a part of the common fund to actual possession may result in an undue proportion being attributed to one of the possessors of the right, to the detriment of the others, or by waste by one or more, to the annihilation of the rights of the remainder. Hence it is that the legislative power, from the peculiar nature of the right and the objects upon which it is to be exerted, can be manifested for the purpose of protecting all the collective owners, by securing a just distribution, to arise from the enjoyment by them, of their privilege to reduce to possession, and to reach the like end by preventing waste. This necessarily implied legislative authority is borne out by the analogy suggested by things ferae naturae, which it is unquestioned the legislature has the authority to forbid all from taking, in order to protect them from undue destruction, so that the right of the common owners, the public, to reduce to possession may be ultimately efficaciously enjoyed. Viewed, then, as a statute to protect or to prevent the waste of the common property of the surface owners, the law of the State of Indiana which is here attacked because it is asserted that1927 BTA LEXIS 2545">2559 it divested private property without due compensation, in substance, is a statute protecting private property and preventing it from being taken by one of the common owners without regard to the enjoyment of the others. Indeed, the entire argument, upon which the attack on the statute must depend, involves a dilemma, which is this: If the right of the collective owners of the surface to take from the common fund and thus reduce a portion of it to possession, does not create a property interest in the common fund, then the statute does not provide for the taking of private property without compensation. If, on the other hand, there be, as a consequence of the right of the surface owners to reduce to possession, a right of property in them, in and to the substances contained in the common reservoir of supply, then as a necessary result of the right of property, its indivisible quality and 9 B.T.A. 610">616 the peculiar position of the things to which it relates, there must arise the legislative power to protect the right of property from destruction. To illustrate by another form of statement, the argument is this: There is property in the surface owners in the gas and oil held in the1927 BTA LEXIS 2545">2560 natural reservoir. Their right to take cannot be regulated without devesting them of their property without adequate compensation, in violation of the Fourteenth Amendment, and this, although it be that if regulation cannot be exerted one property owner may deprive all the others of their rights, since his act in so doing will be damnum absque injuria. This is but to say that one common owner may devest all others of their rights without wrongdoing, but the lawmaking power cannot protect all the owners in their enjoyment without violating the Constitution of the United States. * * (Italics ours.) This case was followed in Lindsley v. Natural Carbonic Gas Co.,220 U.S. 61">220 U.S. 61, involving a New York statute; in Oklahoma v. Kansas Natural Gas Co.,221 U.S. 229">221 U.S. 229, involving an Oklahoma statute, and in Walls v. Midland Carbon Co.,254 U.S. 300">254 U.S. 300, involving a Wyoming statute. The court in the Lindsley case based its opinion on the rule laid down in the Ohio Oil Co. case, and added, "But were the question an open one we should still solve it in the same way." From these cases the following rules may be deduced: The right1927 BTA LEXIS 2545">2561 to reduce to possession gas and oil underneath one's land is a property right protected by the Fourteenth Amendment. Oil and gas do not belong to the state but constitute the common property of all owners of the soil that lies above the oil and gas deposit. This common ownership is subject to the right of individual ownership, when the oil or gas is reduced to possession by any one of the common owners. Such common ownership is the private property of the owners of the soil and as such may be protected by statute. All the property rights above enumerated had been acquired and held by petitioner for more than two years prior to the date of each conveyance. Under the facts the Board is of the opinion that the oil and gas conveyed by petitioner to his grantee were "capital assets," as defined in section 206. To hold otherwise would be to give to a relief statute a narrow construction which would do violence to the intention of Congress as expressed both in the words of the section and the report of the Committee on Ways and Means of the House of Representatives. See 1927 BTA LEXIS 2545">2562 6 B.T.A. 1287">Henry L. Berg et al, supra.Petitioner is entitled to have so much of his income as resulted from a gain derived from sales of oil, gas and other minerals, taxed under the provisions of section 206. Reviewed by the Board. 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/4621800/	CONSUMERS NATURAL GAS COMPANY, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Consumers Natural Gas Co. v. CommissionerDocket No, 66870.United States Board of Tax Appeals30 B.T.A. 1263; 1934 BTA LEXIS 1198; July 24, 1934, Promulgated 1934 BTA LEXIS 1198">1198 Where a taxpayer is engaged in the business of producing gas from wells and also of transporting it to consumers, the allowance for depletion of the gas wells under the Revenue Act of 1928 (27 1/2 per centum of the gross income from the property, which shall not exceed 50 per centum of the net before deducting depletion) must be computed by eliminating all income and deductions properly allocable to its business of transportation. Joseph C. White, Esq., for the petitioner. J. E. Marshall, Esq., Frank B. Schlosser, Esq., and E. G. Sievers, Esq., for the respondent. MURDOCK 30 B.T.A. 1263">1263 OPINION. MURDOCK: The Commissioner determined a deficiency of $886.16 for the calendar year 1929. The facts in this proceeding have been stipulated and may be summarized as follows: The petitioner owned and operated an interest in a gas-producing property on the outskirts of Watkins Glen, New York. It also owned pipe lines and other necessary equipment with which it transported the gas produced by it from this property to consumers. The book values of its mains, pipes, and meters used in transporting and selling the gas were as follows at the end of 1929: 1934 BTA LEXIS 1198">1199 Gas mains$44,993.28Service pipes5,200.89Meters14,283.78The distances which the gas was transported varied from less than one mile to more than five miles. The petitioner was engaged solely in the business of producing, transporting, and selling natural gas. During 1929 it sold to consumers 88,568,000 cubic feet of gas, which it had produced and transported to them, and received for this gas $63,104.40. Expenses incurred and depreciation sustained by the petitioner in 1929 in producing, transporting, and selling this gas amounted to $32,217.60. It claimed on its return a deduction of $13,793.01 for depletion. The Commissioner allowed a deduction for depletion of $6,623.93, being 50 percent of $13,247.87, the net income from the property before deducting depletion (gross income of $31,832.22 less deductions of $18,584.35). He followed article 221 (i) of Regulation 74. The petitioner here contends that it is entitled to deduct $15,443.40 for depletion for 1929, being 50 percent of its net income before deducting any depletion. The figure used to represent net income is the difference between the total income of the corporation received from consumers1934 BTA LEXIS 1198">1200 and all deductions to which it is entitled except 30 B.T.A. 1263">1264 that for depletion. The Commissioner contends, however, that income and deductions not directly related to producing gas must be eliminated in computing the deduction for depletion. Section 23 of the Revenue Act of 1928 provides that in computing net income certain deductions shall be allowed including, in the case of gas wells, a reasonable allowance for depletion to be made under rules and regulations of the Commissioner. Sec. 23(1). It also provides that the basis for depletion shall be as provided in section 114. Sec. 23(m). Subsection (b) of section 114 is headed "Basis for depletion." It contains paragraph (3), which is in part as follows: PERCENTAGE DEPLETION FOR OIL AND GAS WELLS. - In the case of oil and gas wells the allowance for depletion shall be 27 1/2 per centum of the gross income from the property during the taxable year. Such allowance shall not exceed 50 per centum of the net income of the taxpayer (computed without allowance for depletion) from the property * . Article 221 of Regulations 74 provides that: * * If the oil and gas are not sold on the property but are manufactured or1934 BTA LEXIS 1198">1201 converted into a refined product or are transported from the property prior to sale, then the gross income shall be assumed to be equivalent to the market or field price of the oil and gas before conversion or transportation. * * In cases where the taxpayer, in addition to producing oil and gas, engages in additional activities such as operating refineries and transportation lines, depreciation, taxes and such expenses as overhead which can not be directly attributed to any specific activity, shall be allocated to the production of oil and gas on the basis of the ratio which the operating expenses and development expenses (if the taxpayer has elected to deduct development expenses) directly attributable to the production of oil and gas bear to the taxpayer's total operating expenses and development expenses. This particular taxpayer was engaged not only in producing gas, but also in transporting and selling that gas. It had assets used exclusively in transporting and measuring the gas for sale to consumers. Depreciation on those assets has been allowed, but they are not subject to depletion. The Commissioner has apparently allocated to the transportation and sales part of1934 BTA LEXIS 1198">1202 the business of this taxpayer a part of its income and a part of its deductions, and has computed the deduction for depletion using only income and deductions directly related or properly allocable to the production part of the business. The petitioner does not attack the method of allocation or the figures used by the Commissioner, but contends that "gross income" means all of the income received by it from the sale of its natural gas and, therefore, no segregation is proper. The deduction allowed by the statute is based upon income from the property.It is 27 1/2 percent of the gross, provided it does not exceed 50 percent of the net before deducting depletion. The words "the property" clearly refer to the particular property which is being depleted, and income from the property means only income 30 B.T.A. 1263">1265 derived from the operation which is depleting that property. ; affd., ; certiorari denied, ; , affirming 1934 BTA LEXIS 1198">1203 ; . This percentage allowance is an arbitrary one and might have been based upon a taxpayer's income from all sources. Instead it is to be computed upon income from the property subject to depletion. Consequently, all income and deductions from or properly allocable to other sources must be eliminated in computing the deduction for depletion. ; . Since this taxpayer had other assets and other parts of its business which it operated profitably, the Commissioner should have eliminated the income and deductions properly allocable thereto. He allowed a deduction for depreciation on the assets used in transporting and selling the gas and there was no reason to allow another deduction based upon income from the use of those assets, particularly where the deduction would be for depletion and those assets were not being depleted. Congress must have intended the deduction to be as uniform as possible, yet the interpretation contended for by the petitioner would permit a producer to increase his deduction over1934 BTA LEXIS 1198">1204 that of his neighbor by using the gas to engage in some related business whereby he obtained additional income. Examples might be multiplied to show the unreasonableness of such an interpretation. The income of this taxpayer in excess of the value of the gas at the well was not income from the property within the meaning of 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/4621803/	GLENN L. SNOW, Petitioner, v. COMMISSIONER OF INTERNAL REVENUE, RespondentSnow v. Comm'rDocket No. 5675-10L.United States Tax Court2011 U.S. Tax Ct. LEXIS 68; April 18, 2011, Decided2011 U.S. Tax Ct. LEXIS 68">68 Glenn L. Snow, Petitioner, Pro se.For Respondent: Martha Jane Weber, Nashville, TN.Robert N. Armen, Special Trial Judge.Robert N. ArmenORDER AND DECISIONThis matter is before the Court on: Respondent's Motion For Summary Judgment And To Impose A Penalty Under I.R.C. Section 6673,1 filed September 23, 2010; petitioner's Objection thereto, filed October 25, 2010; and petitioner's cross Motion For Summary Judgment, filed March 28, 2011.The record establishes and/or the parties do not dispute the following facts.BackgroundAt one time, it appears that petitioner was a law abiding taxpayer. Petitioner filed correct income tax returns for 2005 and 2006 and received refunds for the amounts withheld from his wages that exceeded the taxes due for those years. In March 2008, petitioner changed course. On March 25, 2008, petitioner signed and submitted Forms 1040X, Amended Federal Income Tax Return, for 2005 and 2006 on which he claimed refunds of all taxes paid in those years. Petitioner attached to the amended returns Forms 4852, Substitute 2011 U.S. Tax Ct. LEXIS 68">69 For W-2, for each employer, on which he reduced his wage income to zero and wrote "Payer mischaracterized my personal Private-Sector Pay for labor, as remuneration for federally privileged activity." On receipt of petitioner's purported amended returns, respondent issued Letters 3176 (1) notifying petitioner that his amended returns were considered frivolous submissions subject to sanction under section 6702, and (2) offering petitioner the opportunity to either correct or withdraw them within 30 days. Petitioner did not correct or withdraw his amended returns and respondent thereafter assessed section 6702 frivolous submission penalties for each taxable year.On February 9, 2009, respondent issued to petitioner a Final Notice Of Intent To Levy And Notice Of Your Right To A Hearing with respect to frivolous submission penalties for the 2005 and 2006 taxable years. Petitioner timely submitted a Form 12153, Request For A Collection Due Process Hearing, in which he requested that the Internal Revenue Service (IRS) provide delegation orders and verification of official determination that he is a "taxpayer" and asserted, inter alia, that he had determined that under the U.S. Constitution 2011 U.S. Tax Ct. LEXIS 68">70 he was not required to file a tax return or pay income tax on his earnings.On December 8, 2009, an officer of the IRS Office of Appeals sent petitioner a letter advising him that the arguments raised in his hearing request were frivolous and that a face-to-face hearing would not be granted unless petitioner set forth, in writing, the non-frivolous issues he wanted to discuss at his hearing. On December 15, 2009, petitioner sent respondent's Appeals officer a letter declining a telephonic hearing.On February 9, 2010, respondent issued to petitioner a Notice Of Determination Concerning Collection Action(s) Under Section 6320 and/or 6330 sustaining respondent's proposed levy action for the frivolous return penalties for 2005 and 2006. On March 8, 2010, petitioner filed the petition commencing this case.Respondent then filed the motion for summary judgment presently before the Court. By Order dated September 27, 2010, petitioner was directed to file an objection, if any, to respondent's motion, and he did so. In his Objection, petitioner relies on the same arguments raised in his amended returns, his Form 12153 request for a collection due process hearing, and in the petition.DiscussionSummary 2011 U.S. Tax Ct. LEXIS 68">71 judgment is intended to expedite litigation and avoid unnecessary and expensive trials. Florida Peach Corp. v. Commissioner, 90 T.C. 678">90 T.C. 678, 90 T.C. 678">681 (1988). Summary judgment may be granted with respect to all or any part of the legal issues in controversy "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." Rule 121(b); Sundstrand Corp. v. Commissioner, 98 T.C. 518">98 T.C. 518, 98 T.C. 518">520 (1992), affd. 17 F.3d 965">17 F.3d 965 (7th Cir. 1994); Naftel v. Commissioner, 85 T.C. 527">85 T.C. 527, 85 T.C. 527">529 (1985).Sections 6320 and 6330 provide procedures for administrative and judicial review of respondent's lien and levy actions. In short, any person receiving a notice of a lien filing or a proposed levy may request an administrative hearing with respondent's Appeals Office. The Appeals Office is obliged to verify that the requirements of any applicable law or administrative procedure have been met. Sec. 6330(c)(1). The person may raise at the administrative hearing any relevant issue relating to the unpaid tax or the collection action, 2011 U.S. Tax Ct. LEXIS 68">72 including appropriate spousal defenses, challenges to the appropriateness of the collection action, and offers of collection alternatives. Sec. 6330(c)(2)(A). The person may also raise at the hearing challenges to the existence or amount of the underlying tax liability if the person did not receive a statutory notice of deficiency for such tax liability or did not otherwise have an opportunity to dispute such tax liability. Sec. 6330(c)(2)(B).The record includes Form 4340, Certificate of Assessments, Payments, and Other Specified Matters, for the frivolous return penalties in issue. Such transcripts of account may be used to satisfy the verification requirements of section 6330(c)(1). Roberts v. Commissioner, 118 T.C. 365">118 T.C. 365, 118 T.C. 365">371 n.10 (2002), affd. 329 F.3d 1224">329 F.3d 1224 (11th Cir. 2003). In the instant case, since petitioner did not have a prior opportunity to dispute the frivolous return penalties assessed for 2005 and 2006, petitioner was entitled to raise the underlying liabilities in his CDP hearing. Lindberg v. Commissioner, T.C. Memo 2010-67. However, in the hearing request and in the petition and amended petition, the only arguments petitioner raises concerning respondent's assessment 2011 U.S. Tax Ct. LEXIS 68">73 of the frivolous return penalties are themselves frivolous. "We perceive no need to refute these arguments with somber reasoning and copious citation of precedent; to do so might suggest that these arguments have some colorable merit." Crain v. Commissioner, 737 F.2d 1417">737 F.2d 1417, 737 F.2d 1417">1417 (5th Cir. 1984); see Tolotti v. Commissioner, T.C. Memo 2002-86, affd. 70 Fed. Appx. 971">70 Fed. Appx. 971 (9th Cir. 2003). Suffice it to say:(1) Petitioner is a taxpayer subject to the Federal income tax, see secs. 1(c), 7701(a) (1), (14);(2) compensation for labor or services rendered constitutes income subject to the Federal income tax, sec. 61(a)(1); United States v. Romero, 640 F.2d 1014">640 F.2d 1014, 640 F.2d 1014">1016 (9th Cir. 1981); see also sec. 61(a)(4);(3) petitioner is required to file an income tax return, sec. 6012(a)(1); and(4) the Commissioner and his agents are authorized to enforce the provisions of the Internal Revenue Code, see I.R.C. chs. 78, 80.We likewise reject petitioner's argument that the Appeals officer failed to obtain verification from the Secretary that the requirements of all applicable laws and administrative procedures were met as required by section 6330(c)(1). The record shows that the Appeals officer obtained and 2011 U.S. Tax Ct. LEXIS 68">74 reviewed computerized transcripts of account for petitioner's taxable years 2005 and 2006. Federal tax assessments are formally recorded on a record of assessment. Sec. 6203. "The summary record, through supporting records, shall provide identification of the taxpayer, the character of the liability assessed, the taxable period, if applicable, and the amount of the assessment." Sec. 301.6203-1, Proced. & Admin. Regs.Petitioner has not alleged any irregularity in the assessment procedure that would raise a question about the validity of the assessment or the information contained in the computerized transcripts of account. See Davis v. Commissioner, 115 T.C. 35">115 T.C. 35, 115 T.C. 35">41 (2000); Mann v. Commissioner, T.C. Memo 2002-48.Accordingly, we hold that the Appeals officer satisfied the verification requirement of section 6330(c)(1). Cf. Nicklaus v. Commissioner, 117 T.C. 117">117 T.C. 117, 117 T.C. 117">120-121 (2001). Petitioner has failed to raise a spousal defense, make a valid challenge to the appropriateness of respondent's intended collection action, or offer alternative means of collection. These issues are now deemed conceded. Rule 331(b)(4). In the absence of a valid issue for review, we conclude that respondent 2011 U.S. Tax Ct. LEXIS 68">75 is entitled to judgment as a matter of law sustaining the notice of determination on which this case is based.Respondent also moves for the imposition of a penalty on petitioner pursuant to section 6673(a) (1). Section 6673(a) (1) authorizes the Tax Court to require a taxpayer to pay to the United States a penalty not in excess of $25,000 whenever it appears that proceedings have been instituted or maintained by the taxpayer primarily for delay or that the taxpayer's position in such proceeding is frivolous or groundless. We are convinced that petitioner instituted the present proceeding primarily for delay. In this regard, it is clear that petitioner regards this proceeding as nothing but a vehicle to protest the tax laws of this country and to espouse his own misguided views, which we regard as frivolous and groundless. E.g., Tolotti v. Commissioner, supra.In short, having to deal with this matter wasted the Court's time, as well as respondent's, and taxpayers with genuine controversies may have been delayed. Under the circumstances, we shall grant that part of respondent's motion that moves for the imposition of a penalty in that we shall impose a penalty on petitioner pursuant 2011 U.S. Tax Ct. LEXIS 68">*76 to section 6673(a)(1) in the amount of $3,000.Finally, we turn to petitioner's cross Motion For Summary Judgment. In that motion, petitioner does nothing other than to reprise his prior arguments that he and his wages are outside the scope of the Federal revenue laws. As previously stated, such arguments are beyond the pale.Upon due consideration and for cause, it isORDERED that petitioner's Motion For Summary Judgment, filed March 28, 2011, is denied. It is furtherORDERED that respondent's Motion For Summary Judgment And To Impose A Penalty Under I.R.C. Section 6673, filed September 23, 2011, is granted. It is furtherORDERED AND DECIDED that respondent may proceed with collection for the taxable years 2005 and 2006 as determined in the Notice Of Determination Concerning Collection Action(s) Under Section 6320 and/or 6330, dated February 9, 2010, upon which notice this case is based; andThat petitioner shall pay a penalty to the United States pursuant to section 6673(a) in the amount of $3,000.(Signed) Robert N. ArmenSpecial Trial JudgeEntered: APR 18 2011Footnotes1. All section references are to the Internal Revenue Code of 1986, as amended, 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/4621804/	Ethel Gregg Mann v. Commissioner. Blanche C. Chapman v. Commissioner.Mann v. CommissionerDocket Nos. 58433, 58439.United States Tax CourtT.C. Memo 1957-49; 1957 Tax Ct. Memo LEXIS 201; 16 T.C.M. 212; T.C.M. (RIA) 57049; March 28, 19571957 Tax Ct. Memo LEXIS 201">201 Held, voluntary payments by a corporation to the widows of deceased officers, which payments were intended as gifts and were subject to termination, modification or reduction at any time by the corporation, are not includible in the gross income of the widows. W. R. Wallace, Jr., Esq., Shell Building, San Francisco, Calif., for the petitioners. William F. Chapman, Esq., for the respondent. VAN FOSSAN Memorandum Opinion VAN FOSSAN, Judge: The respondent determined deficiencies in income tax of petitioners for years and in amounts as follows: DocketPetitionerNo.YearDeficiencyEthel Gregg Mann584331951$5,283.8319525,926.2819535,883.95Blanche C. Chapman584391951$1,496.2019521,616.4519531,621.45 The disallowance of a medical deduction by respondent as to the year 1953 in Docket No. 58433 is uncontested. Each of the petitioners filed individual tax returns for the year 1951 with the then collector of internal revenue for the second district of New York and for the years 1952 and 1953 with the director of internal revenue, Lower Manhattan district, New York. We adopt the stipulations1957 Tax Ct. Memo LEXIS 201">202 of facts filed by the respective parties in each of these cases. Additional facts were adduced at the hearing. The sole issue is whether the petitioners are taxable on certain payments made by Grace Line, Inc., which payments, petitioners claim, were gifts from the corporation. [Findings of Fact] Petitioner Ethel Gregg Mann is the widow of Daulton Mann who died May 15, 1941. Petitioner Blanche C. Chapman is the widow of John W. Chapman who died September 8, 1945. At the time of his death, Mann was employed by Grace Line, Inc., as executive vice president of the corporation. Chapman, prior to his death, held the position with Grace Line, Inc., of vice president. For some years previous to death, the salaries of the deceased officers were limited to $25,000 per year by the Maritime Commission. Neither Mann nor Chapman owned shares of stock in Grace Line, Inc. Mann owned 56 shares of common stock of W. R. Grace & Co., the parent company which owned all of the stock of Grace Line, Inc. Upon the death of the husbands, the corporation, Grace Line, Inc., took appropriate steps to pay the widows at the pleasure of the company the sum of $12,000 per year as to Mann and $6,000 per year1957 Tax Ct. Memo LEXIS 201">203 as to Chapman. There was no contract of any kind covering the payments and the corporation could have ceased, modified or reduced the payments at any time. Neither petitioner has ever been employed by Grace Line, Inc., and neither has ever rendered any services to such company. Grace Line, Inc., during all the years in question, claimed the amounts paid to petitioners as deductions on its tax returns under the heading of "General and Administrative Expenses." Except for certain relatively small sums incident to the employment of the deceased husbands and unpaid at the time of their deaths, Grace Line, Inc., owed nothing to either petitioner or her deceased husband. Neither Mann nor Chapman left an estate of substantial size and in each case the widowed taxpayer had a monthly income of approximately $125 to $150 per month. Grace Line, Inc., never received any benefit from the payments made to the surviving widows of the deceased officers. The payments of $1,000 and $500 per month, here involved, were gratuitous payments of the corporation in the nature of gifts to the widows. Opinion The last finding above made substantially disposes of the issue in these cases. A1957 Tax Ct. Memo LEXIS 201">204 voluntary payment, intended as a gift, by a corporation to the widow of a deceased officer or a key employee of a corporation is not taxable income to the widow. Louise K. Aprill, 13 T.C. 707">13 T.C. 707; Alice M. Macfarlane, 19 T.C. 9">19 T.C. 9. This conclusion is true although the voluntary payments were in recognition of the deceased employee's services to the corporation. Estate of Arthur W. Hellstrom, 24 T.C. 916">24 T.C. 916. On the issue here involved, the contention of the taxpayers is sustained. Decisions will be entered under Rule 50.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621805/	J. W. TEASDALE & CO., PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.J. W. Teasdale & Co. v. CommissionerDocket No. 2715.United States Board of Tax Appeals5 B.T.A. 1244; 1927 BTA LEXIS 3647; January 27, 1927, Promulgated 1927 BTA LEXIS 3647">3647 1. A petition appealing from the determination of deficiency in tax for 1920 was not filed within sixty days after mailing of notice of deficiency, and the Board therefore has no jurisdiction to redetermine this deficiency. 2. The petitioner and the Circle Realty Co. and the Losey Real Estate Co. held to have been affiliated in 1919. The Seneca Dried Fruit Co. held not to have been affiliated with petitioner in 1919. 3. Alleged bad debt charged off in 1919 disallowed because worthlessness was not ascertained in that year. W. A. Allen, Esq., for the petitioner. W. F. Gibbs, Esq., for the respondent. LOVE 5 B.T.A. 1244">1244 This proceeding is to redetermine deficiencies in income and profits tax as follows: For 1919, $1,818.82; for 1920, $7,652.77. 5 B.T.A. 1244">1245 The petitioner assigns the following errors: (1) The disallowance by the Commissioner of the deduction as a bad debt of $7,765.13 in 1919. (2) The disallowance of deductions, aggregating $22,060.95, as bad debts and losses in 1920. (3) The refusal of the Commissioner to recognize the Seneca Dried Fruit Co. and the Losey Real Estate Co. as affiliated with petitioner. 1927 BTA LEXIS 3647">3648 The respondent's answer raises the question of the jurisdiction of the Board as to the year 1920, alleging that a petition appealing from the determination was not filed with the Board within sixty days after the mailing of the notice of the deficiency for that year. FINDINGS OF FACT. The petitioner is an Illinois corporation with its principal office in St. Louis, Mo.A notice of deficiency in tax for 1919 was mailed to the petitioner on January 23, 1925. Within sixty days thereafter, to wit, on March 20, 1925, it filed a petition with the Board. This petition, however, was irregular in form and the petitioner was advised that its petition would have to be completed in the manner and form prescribed by the Rules of Practice of the Board. Upon request it was granted time in which to file an amended petition. A notice of deficiency in tax for the year 1920 was mailed to the petitioner on April 9, 1925. Thereafter, the petition, sworn to on August 5, 1925, was filed with the Board. The amended petition, however, relates to the deficiencies for both the years 1919 and 1920. No other petition relative to the deficiency for 1920 was filed. The principal stockholder of1927 BTA LEXIS 3647">3649 petitioner in 1919 and for many years prior thereto was J. W. Teasdale, Sr. He was also a large stockholder of the Circle Realty Co. and the Losey Real Estate Co. It was admitted that the petitioner was affiliated with the Circle Realty Co. In 1919 the stock of the petitioner and of the Losey Real Estate Co. was owned as follows: Shares held.J. W. Teasdale & Co.Losey Real Estate Co.J. W. Teasdale, Sr405273J. W. Teasdale, Jr9375G. W. Teasdale11W. W. Teasdale11Mary E. Teasdale1Emma S. Teasdale16St. Louis Trust Co., for benefit of two sons of J. W. Teasdale, Jr33Total5004005 B.T.A. 1244">1246 J. W. Teasdale, Jr., and G. W. Teasdale, were sons of J. W. Teasdale, Sr., and Emma was the wife of J. W. Teasdale, Jr., and Mary E. was the wife of G. W. Teasdale. The Seneca Dried Fruit Co. was a New York corporation with its place of business at Rochester. The evidence does not show who the stockholders of this company were, but it was controlled by the Teasdales, either directly or through the petitioner. At some time prior to 1911, the petitioner advanced $10,000 to the Seneca Dried Fruit Co. for starting the business, 1927 BTA LEXIS 3647">3650 and the petitioner thereafter advanced other sums of money. It owed petitioner, on June 30, 1911, $19,745.95; and on June 30, 1912, $20,054.17. In the latter part of 1912 or early in 1913, the Seneca Dried Fruit Co. was declared bankrupt, and never thereafter resumed business. At that time it was indebted to the Traders National Bank of Rochester, and payment of the debt was guaranteed by G. W. Teasdale. The assets of the bankrupt were insufficient to pay its creditors. Thereafter, the bank sued G. W. Teasdale and recovered a judgment against him for $1,400, which was paid by the petitioner and the amount debited on its books to the account of the Seneca Dried Fruit Co. In 1919 the debit balance against the last named company on petitioner's books was $17,765.13. In that year $7,765.13 of this sum was charged off as a bad debt. In 1921 the remaining $10,000 was debited to the account of J. W. Teasdale, Sr. OPINION. LOVE: The notice of deficiency in tax for 1920 was mailed to petitioner on April 9, 1925. The sixtieth day after that date was June 8, 1925. There was no petition filed relating to the year 1920 except the amended petition correcting the irregularity1927 BTA LEXIS 3647">3651 in the petition appealing from determination as to the year 1919, which had been filed March 20, 1925. While this amended petition also covered 1920, it was not filed until after June 8, 1925. It is, therefore, at once apparent that there was not a petition appealing from the determination of deficiency in tax for 1920 filed within sixty days after the mailing of notice of deficiency, and, consequently, the Board has no jurisdiction to redetermine this deficiency. The sixty-day period of limitation is fixed by the statute and the Board has no power to extend it. The facts show that in 1919 all but two shares of petitioner's capital stock was owned by J. W. Teasdale, Sr., and a son, and that the remaining two shares were held by a brother and another son. These four persons also owned 350 shares of the stock of the Losey Real Estate Co. out of a total of 400 shares outstanding (or 87 1/2 5 B.T.A. 1244">1247 per cent); and of the remaining 50 shares, 17 were held by the wives of the two sons of J. W. Teasdale, Sr., and 33 shares were held in trust for children of one of the sons. There is no question in our minds that these facts meet the test of the statute that two or more corporations1927 BTA LEXIS 3647">3652 shall be deemed affiliated when "substantially all the stock * * * is owned * * * by the same interests." There is no direct proof of the ownership of the capital stock of the Seneca Dried Fruit Co. It does appear that the members of the Teasdale family controlled this corporation in some manner, but we are not warranted on the vague testimony on this point in making a finding that the ownership or control of the stock was sufficient to deem the corporation affiliated with petitioner. Upon the evidence in the record we can not find that the Seneca Dried Fruit Co. was affiliated with petitioner in 1919. The petitioner seeks to deduct from income in 1919, $7,765.13 which was charged off in that year as a bad debt. This is a part of the debit balance carried on its books against the Seneca Dried Fruit Co., the total in 1919 being $17,765.13. This total (with the possible exception of $1,400) is the balance of the old indebtedness to the petitioner of the Seneca Dried Fruit Co. which existed in 1912 or 1913. The latter went into bankruptcy at that time, and the fact of worthlessness of the debt must have been known at that time or shortly thereafter, as it was testified that1927 BTA LEXIS 3647">*3653 the Traders National Bank could not recover on its debt against the bankrupt and hence sued G. W. Teasdale as guarantor. The only reason given for not charging off this account before 1919 was that the suit of the Traders National Bank was pending and the total amount of indebtedness of the Seneca Dried Fruit Co. to petitioner could not be known until this suit was concluded. We are unable to see how this would affect the fact of worthlessness of the old debt. It does not appear, in any event, why the petitioner paid the amount of the judgment obtained by the bank against G. W. Teasdale. Our conclusion is that the evidence does not show this debt became worthless within the year 1919. Judgment will be entered after 20 days' notice, under Rule 50.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621806/	SUPERIOR TUBE CO., PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Superior Tube Co. v. CommissionerDocket Nos. 16104, 16553.United States Board of Tax Appeals20 B.T.A. 749; 1930 BTA LEXIS 2047; September 10, 1930, Promulgated 1930 BTA LEXIS 2047">2047 The petitioner is entitled to have its tax liability recomputed in accordance with the provisions of section 328 of the Revenue Acts. Phil D. Morelock, Esq., and Dudley Doolittle, Esq., for the petitioner. Arthur H. Murray, Esq., for the respondent. LANSDON 20 B.T.A. 749">749 OPINION. LANSDON: The respondent has asserted deficiencies in income and profits taxes for the fiscal years ended July 31, 1920, and July 31, 1921, in the respective amounts of $166.98 and $1,559. The petitioner alleges that the respondent erred in denying its application for special assessment in each of the years; in disallowing a deduction of $2,656.25 for the fiscal year ended July 31, 1921, for an alleged loss 20 B.T.A. 749">750 upon the cancellation of a lease on real estate; and in disallowing a deduction of $802.69 as an alleged loss upon abandonment of certain spur tracks. These proceedings were previously consolidated by order for hearing and decision. The petitioner is a Delaware corporation organized in July, 1919, to engage in selling and distributing casing, tubing and pipe throughout the oil country. It was organized by three individuals, Hoyle Jones, Joseph D. 1930 BTA LEXIS 2047">2048 Holloway, and Leon W. Kile. Since its organization, Jones has been president and treasurer; Holloway, secretary; and Kile, vice president. Prior to the organization of petitioner, Jones resided at Kansas City, Mo., where he was local sales manager for the La Belle Iron Works, which company was engaged in manufacturing and selling pipe of the kind sold and distributed by the petitioner. Except for a short period when he was in the Army, Jones had been engaged in selling pipe throughout the oil country for more than ten years. He was first connected with the Jacques Steel Co. Kile and Holloway had been connected previously with the Republic Iron & Steel Co. of Youngstown, Ohio, and the Wheeling Steel & Iron Co. of Wheeling, W. Va., respectively, and were also engaged in distributing and selling pipe throughout the oil country. For many years Jones had contemplated the organization of a company to sell and distribute pipe for the leading manufacturers. Shortly after his return from the Army he conferred with Kile, who had by that time organized the Moore-Kile Co., which was engaged in distributing and selling pipe, and after discussing the matter at some length and studying1930 BTA LEXIS 2047">2049 the books of the Moore-Kile Co., tentative plans were made to include it in the new company to be organized. Jones next conferred with Holloway, who was then in Chicago, and outlined his plan for the organization of petitioner. Holloway became interested and through his father, Jacob J. Holloway, who was chairman of the board of directors of the Wheeling Steel & Iron Co., Jones was introduced to a number of men in Wheeling who could provide capital for the new corporation. At a meeting held at the Fort Henry Club it was agreed to organize petitioner with paid-in capital of $300,000. Jones, Kile, and Joseph D. Holloway were to manage the business, while a group of Wheeling business men were ready to furnish the necessary capital. In accordance with the plans formulated at the above meeting, petitioner was organized and 3,000 shares of preferred stock were sold for cash at its par value of $100 per share. Common stock was distributed without payment therefor, one-half to Jones, Kile, and Joseph D. Holloway, and one-half to the purchasers of preferred stock. Of 20 B.T.A. 749">751 the preferred stock, Jones, Kile, and Holloway subscribed for 300, 250, and 350 shares, respectively. After1930 BTA LEXIS 2047">2050 the organization was completed there were outstanding 3,000 shares of preferred stock and 3,000 shares of common stock. Offices were opened by petitioner at Kansas City, St. Louis, Pittsburgh, Tulsa, and Wichita Falls. The Kansas City office was managed by Jones and from his office he arranged for the location of inventories of pipe at advantageous places in the oil fields, negotiated the contracts for the purchase of pipe, supervised the credit arrangements, and supervised in a general way the sales. Holloway was in the Pittsburgh office, where he maintained contact with the mills from which petitioner purchased its pipe, such contact being necessary to obtain prompt delivery of orders. He also supervised sales and distributions throughout the eastern territory. Kile managed the Tulsa office and was in direct supervision of the sales throughout Kansas, Oklahoma, Texas, Louisiana, and Arkansas, where petitioner did most of its business. When petitioner was organized it was agreed that the three managing stockholders would be compensated in part by the issue of common stock and that fixed salaries of the three should be reasonably small. The salaries paid were as follows: 1930 BTA LEXIS 2047">2051 1920Hoyle Jones, president and treasurer$9,613.57J. D. Holloway, vice president and secretary9,613.57L. W. Kile, vice president5,967.74Daisie E. Hubbard1,792.50Total26,987.331921Hoyle Jones, president and treasurer$9,999.96J. D. Holloway, vice president and secretary9,999.96Daisie E. Hubbard, assistant secretary and treasurer3,150.00Total23,149.92Aside from the officers, Jones, Kile, and Holloway, petitioner's organization and personnel included one or two stenographers in Kansas City, two salesmen and one stenographer in Tulsa, one traffic manager and a stenographer in St. Louis, and a salesman and stenographer in Wichita Falls, Tex., and a clerk or stenographer in Pittsburgh, Pa. The total salaries, excluding those paid to officers, amounted to $10,994.01 and $20,348.54, respectively. On August 12, 1919, the petitioner entered into a contract with the Moore-Kile Co., by which the former acquired all the assets of the latter for $75,000, including two leases on real estate at Eastland and Cisco, Tex., valued at $5,000 and $10,000, respectively; real estate 20 B.T.A. 749">752 at Wichita Falls, Tex., valued at $4,000; furniture, 1930 BTA LEXIS 2047">2052 fixtures and other personal property valued at $2,100; and unshipped pipe orders, which the latter had placed with the mills but which would be delivered and paid for by petitioner at a future date, the Bonus price of which was $25,238. During the period immediately following the war, pipe was in great demand throughout the oil-producing territory. Selling was no problem, but it was almost impossible to procure deliveries from the mills. Because of the former connections of Jones, Kile, and Holloway, they were able to secure pipe when other companies could not do so. Although much of the pipe handled by petitioner was purchased outright, a substantial part of the total amount sold was furnished on a consignment basis by the La Belle Iron Works, for which company Jones had previously worked. Payment for such consigned pipe was made only after it had been sold. The following is a statement of petitioner's profits for the fiscal year ended July 31, 1920: Total gross profit from sales$338,306.02Total net profit from sales278,550.28Total sales of consigned goods184,833.19Total cost of consigned goods138,103.27Gross profit from sales of consigned goods46,129.921930 BTA LEXIS 2047">2053 The pipe acquired by petitioner on the unfilled orders purchased from the Moore-Kile Co., was sold at a profit of $101,116.08, which is computed as follows: Total unshipped tonnage acquired from Moore-Kile Cotons 5,231Total sales of 5,231 tons$705,354.08Total cost of 5,231 tons paid to manufacturers579,387.92Gross profit126,354.08Less contract price paid to Moore-Kile Co. for purchase of unfilled orders25,238.00Gross profit101,116.08Early in 1921 conditions changed in the oil business. The supply of oil had greatly increased and drilling operations were reduced, which reduced the demand for pipe. Petitioner's business declined to such an extent that it closed several of its storage yards and abandoned facilities for handling pipe throughout Oklahoma and Texas. Included in the assets acquired from the Moore-Kile Co. under the above contract were two leases, one known as the Eastland lease, and the other as the Cisco lease. Both leases were adjacent to the railroad and petitioner had bought spur connections. The Cisco lease cost petitioner $10,000. Amortization of $7,343.75 has been allowed previously by the respondent as deductions. 1930 BTA LEXIS 2047">2054 In 1921 the lease 20 B.T.A. 749">753 became worthless and the petitioner sustained a loss of $2,656.25. The Eastland lease cost petitioner $5,000. The respondent has allowed a deduction for the fiscal year ended July 31, 1921, for the unamortized cost. During the fiscal year ended July 31, 1921, the petitioner sustained a loss of $802.69, which represents the depreciated costs less salvage value of a spur track on the Eastland lease. The respondent has computed the petitioner's income and invested capital as follows: Income for fiscal year ended July 31, 1920Net taxable income$278,913.28Invested capital230,114.29Excess-profits tax98,078.91Total tax115,926.90Percentage of net income to invested capitalper cent 121Percentage of excess-profits tax to net incomedo 35Percentage of total tax to net incomedo 41.6Income for fiscal year ended July 31, 1921Gross sales$1,529,689.36Net income86,162.09Invested capital417,648.58Excess-profits tax10,476.59Total tax17,400.63Percentage of net income to invested capitalper cent 21Percentage of excess-profits tax to net incomedo 12.1Percentage of total tax to net incomedo 201930 BTA LEXIS 2047">2055 We think the facts proved in these proceedings disclose abnormalities affecting petitioner's invested capital and income which entitle it to special assessment. Cf. ; ; ; and . Reviewed by the Board. Further proceedings may be had under Rule 62(c).MARQUETTE, SMITH, VAN FOSSAN, and MATTHEWS dissent.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621808/	JOSEPH J. TALLAL, JR., Petitioner v. COMMISSIONER OF INTERNAL REVENUE, RespondentTallal v. CommissionerDocket No. 19237-80.United States Tax CourtT.C. Memo 1984-486; 1984 Tax Ct. Memo LEXIS 186; 48 T.C.M. 1082; T.C.M. (RIA) 84486; September 11, 1984. 1984 Tax Ct. Memo LEXIS 186">186 Petitioner was a limited partner in Cumberland, which was a limited partnership formed on Oct. 27, 1976, to lease and mine coal property in West Virginia. On Oct. 28, 1976, Crescent, which was controlled by the general partners of Cumberland, subleased certain coal mining rights from Black Rock and agreed to pay an advanced royalty of $2,700,000, payable $1,200,000 in cash and $1,500,000 by a nonrecourse note. Also on Oct. 28, Cumberland subleased the same coal mining rights from Crescent, and agreed to pay Crescent an advanced royalty of $4,975,000, payable $1,975,000 in cash and $3,000,00 by a nonrecourse note. Petitioner became a limited partner on or about Dec. 27, 1976, at which time the transactions were closed. Cumberland never sold any coal, and made no payments of interest or principal on the note. On its information return for 1976 Cumberland claimed a deduction for the full amount of the advanced royalty. Petitioner claimed a loss of $72,396 as his distributive share of Cumberland's losses in 1976. Held,Cumberland was not engaged in the coal mining activity with the primary objective and intent of making a profit, so the advanced royalties are not deductible under sec. 162(a), I.R.C. 1954, 1984 Tax Ct. Memo LEXIS 186">187 and petitioner is not entitled to deduct his distributive share of Cumberland's losses. Robert K. Dowd,Peter S. Buchanan, and Wade H. Hufford, for the petitioner. Val J. Albright,Raymond L. Collins, and Mark L. Puryear, for the respondent. DRENNENMEMORANDUM FINDINGS OF FACT AND OPINION DRENNEN, Judge: Respondent determined a deficiency of $26,474 in petitioner's 1976 Federal income tax. The deficiency resulted from the disallowance of a loss of $72,396 which petitioner claimed as his distributive share of the losses of The Cumberland Group, a limited partnership formed in 1976 Purportedly to lease and mine certain coal property in West Virginia. The following issues are presented for decision: (1) Whether the coal mining activity of the partnership was an activity engaged in for profit; (2) Whether section 1.612-3(b)(3), Income Tax Regs, as amended by T.D. 7523, 1978-1 C.B. 192, applies to prevent the deduction in 1976 of certain advanced royalties claimed by the partnership; (3) Whether there occurred an improper retroactive allocation of partnership losses to petitioner; (4) Whether a $3,000,000 nonrecourse note of the partnership, issued as partial payment of advance royalties, 1984 Tax Ct. Memo LEXIS 186">188 should be recognized for Federal income tax purposes; (5) Whether and to what extent the $4,975,000 claimed by the partnership as an advanced royalty constitutes an ordinary and necessary business expense of the partnership for 1976. FINDINGS OF FACTSome of the facts have been stipulated and are so found. The stipulation of facts and the exhibits attached thereto are incorporated herein by this reference. Petitioner Joseph J. Tallal, Jr. resided in Dallas, Texas when he filed the petition in this case. He and his wife, Pamela, timely filed a joint Federal income tax return for 1976 with the Internal Revenue Service Center at Austin, Texas. 1In 1976, petitioner was a personal financial manager. He advised clients on matters such as retirement and estate planning. He also advised clients on tax matters. Petitioner has no college degree. Prior to his investment in The Cumberland Group, he had no experience with the coal business. On or about December 28, 2 1976, petitioner contributed $30,000 1984 Tax Ct. Memo LEXIS 186">189 in cash to The Comberland Group (Cumberland), a California limited partnership, and received a 1.5 percent limited partnership interest. Petitioner had learned about Cumberland from a friend, Steve Hayes, who helped organize and promote the partnership. Cumerland was formed on October 27, 1976. The general partner was Pacific Associates, a California general partnership consisting of Peter S. Buchanan, Steven L. Hayes, Donald Koppel and Richard S. Pritzker. The original limited partner was Jeffry G. Wagner. 3 Cumberland reported its income using the accrual method of accounting and a calendar year. Cumberland was conceived and organized by Buchanan, Hayes and Koppel. None of them 1984 Tax Ct. Memo LEXIS 186">190 had any experience in coal mining prior to their involvement in the transactions herein. Buchanan was a practicing attorney in California, who was a certified specialist in tax law. 4 He handled Koppel's personal tax matters. Koppel was a vice president of the San Francisco Newspaper Company. He had been in the newspaper business since 1962. Koppel had a B.S. degree in mechanical engineering from the Georgia Institute of Technology. Before entering the newspaper business, he served in the Army as an engineer involved in missile research, and later was employed as a consulting engineer in South Africa. He had no knowledge of mining engineering. Hayes received a B.A. degree from the University of Arkansas in 1969. From 1970 through the summer of 1976, he was either employed by or a consultant to various businesses in Los Angeles and Dallas. As a consultant, he gained experience raising money for various business ventures. He also advised clients about investments in tax shelters involving movies. Hayes had known Buchanan since 1973, and the two ahd worked together on several movie projects. 1984 Tax Ct. Memo LEXIS 186">191 5 Hayes entered law school at Southern Methodist University in the fall of 1976. In July 1976, Buchanan, Hayes and Koppel organized Pacific Associates, a general partnership, through which they intended to pursue a venture purportedly involving the leasing and mining of coal. Although this partnership was somewhat informal, they agreed generally that Buchanan and Hayes would be responsible for the legal and financial aspects of the venture, while Koppel would investigate various coal properties. Although Koppel continued to be employed full-time in the newspaper business, he testified that he made several trips to Southeast during the summar and fall of 1976 in order to investigate coal properties. At times he was accompanied by Hayes or Buchanan. During the course of his search, Koppel was referred to Frank Gaddy, a professional coal mining consultant in Huntington, West Virginia doing business as Gaddy Engineering 1984 Tax Ct. Memo LEXIS 186">192 Company. Gaddy was retained by Pacific Associates to provide engineering services in connection with the search for coal property. Some time in the late summer or early fall, Pacific Associates contacted Martin Pomerance, a tax lawyer in a New York firm that was known to have expertise in coal ventures. The partnership retained Pomerance's firm to represent it in negotiating coal leases and to structure the proposed venture. In September, Buchanan, Hayes and Koppel acquired all the stock of a California corporation previously owned by Koppel and changed its name to Crescent Coal Company (Crescent). The three men also served as officers and directors of Crescent. Later, in October, Richard Peitzker became a partner in Pacific Associates and a shareholder, officer and director of Crescent. Pritzker had degrees in accounting and law. Through Pomerance or others in his law firm, Hayes was introduced to Gary Spirer, who was said to possess desirable coal property in West Virginia. Spirer and Rodman Thompson were the two partners in Black Rock Coal Company (Black Rock), a West Virginia partnership. During October, Hayes and Spirer had discussions concerning the possibility of Crescent 1984 Tax Ct. Memo LEXIS 186">193 acquiring a leasehold interest in certain coal reserves in Mingo County, West Virginia. Hayes had learned from Pomerance that Gaddy had prepared an engineering report in 1972 that indicated that the Mingo County property contained more than six million tons of coal reserves. The Mingo County coal property was a 464 acre tract 6 known as the "Low Gap Tract," which was owned by Cotiga Development Corporation (Cotiga). Cotiga, a Delaware corporation, was a large land holding company. 7 Spirer's partner in Black Rock, Rodman Thompson, was also a vice president of Cotiga. The Cotiga-Black Rock LeaseOn October 5, 1976, Cotiga and Black Rock executed a a written agreement (the "Lease") under which Cotiga granted Black Rock the right to mine and remove "all of the coal 1984 Tax Ct. Memo LEXIS 186">194 in all seams" of the Low Gap Tract. The Lease was for a term of fifteen years, but provided for an automatic renewal for an additional ten year period if, at the expiration of the original fifteen years the coal had not been exhausted. Under the Lease, Black Rock was required to pay Cotiga a "minimum annual rental" of $10 per acre ($4,640), without regard to the amount of coal mined and removed from the property. In addition, the Lease required Black Rock to pay tonnage royalties in amounts which varied according to the mining method employed. 8 The "minimum annual rental" could be recouped from the tonnage royalties in the event that coal was produced. The Lease also required Black Rock to initiate mining operations within one year, and "energetically prosecute such operations so as to achieve reasonable coal production." The Cotiga-Black Rock lease envisioned sublease 1984 Tax Ct. Memo LEXIS 186">195 agreements, first between Black Rock and Crescent, and then between Crescent and an unidentified limited partnership controlled by the "affiliates" of Crescent. Specifically, the Lease provided that Black Rock shall have the right to re-sublet the leashold estate hereby created to Crescent Coal Company, which in turn shall have the right to further re-sublet the leasehold estate hereby created to a limited partnership in which affiliates of Crescent Coal Company are the general partners . . . 9Sometime during October, Hayes received a telephone call from an attorney in Pomerance's law firm who informed him that they expected the Internal Revenue Service to make an announcement on October 29 which would concern the tax implications of the proposed coal venture. Hayes testified he was told that "if you don't want to have wasted all of your time up to now, you had better see if you can conclude these transactions." 101984 Tax Ct. Memo LEXIS 186">196 On October 27, 1976, Cumberland was formed as a limited partnership under the laws of the State of California, having as its general partner Pacific Associates and its limited partner Jeffrey G. Wagner. Pacific Associates, Crescent and Cumberland each had the same mailing address in San Francisco. The Black Rock-Crescent SubleaseOn October 28, 1976, Black Rock and Crescent entered into an agreement (the Original Sublease) whereby Crescent subleased the coal mining rights to the Low Gap Tract held by Black Rock under its lease with cotiga. Except for the royalty provisions discussed below, the terms of the Original Sublease were identical to those of the Lease, and Crescent obtained the rights to all of the coal in each seam underlying the 1984 Tax Ct. Memo LEXIS 186">197 coal property. Under the Original Sublease, Crescent was to pay to Black Rock an "advanced or minimum royalty." 11 of $2,700,000. Crescent was "unconditionally" obligated to pay this amount, irrespective of whether Crescent mined any coal from the tract. The "advanced or minimum royalty" was to be paid by $1,200,000 cash and by a $1,500,0000 nonrecourse promissory note. The $2,700,000 advance royalty was subject to recoupment over the term of the sublease out of the tonnage royalties which would otherwise be payable to Black Rock on any coal actually mined, removed and sold by Crescent. The Original Sublease initially provided for an "overriding tonnage royalty" of seven percent of the gross selling price of each ton of coal mined by deep-mining methods, and eight percent of the gross selling price for each ton of coal removed by strip-mining or auger-mining methods. 1984 Tax Ct. Memo LEXIS 186">198 However, on December 29, 1976, Black Rock and Crescent entered into an agreement to amend the Original Sublease. Under the amended sublease, Crescent was required to pay tonnage royalties, based on a percentage of gross selling price per ton, of 7-1/4 percent for deep-mined coal, 8-1/4 percent for stripmined coal, and 9 percent for auger-mined coal. The amended Original Sublease also provided that Crescent would perform all of Black Rock's obligations under the Lease, with the exception of any royalties payable to Cotiga, which remained the obligation of Black Rock. The $1,500,000 nonrecourse promissory note payable to Black Rock under the Original Sublease was executed by Crescent on December 29, 1976, at the time of the closing of the sublease agreements herein. The note provided for eight percent interest on its unpaid balance and was payable $120,000 on December 31, 1977, with thirty-six quarterly payments thereafter of $59,000 each, the first of which would be due March 31, 1978 and the last of which would be due December 31, 1986. The note also provided for an eighteen month grace period for any late installment before Black Rock would have the right to declare Crescent in 1984 Tax Ct. Memo LEXIS 186">199 default. The note was secured only by the coal rights held by Crescent under the Original Sublease. At the time the note was executed, Crescent and Black Rock executed a document entitled "Deed of Trust and Security Agreement" by which Crescent granted Black Rock a security interest in the mining rights to the Low Gap Tract. Pomerance was designated as trustee under the deed of trust. The note provided with respect to this security agreement: This note is secured pursuant to a certain security agreement dated of even date herewith between [Crescent] and [Black Rock] . . . under which [Crescent] has pledged certain collateral . . . and this note is payable out of collateral only. The Original Sublease, dated October 28, 1976, was executed by Rodman Thompson for Black Rock. Thompson's signature was notarized by a Notary Public in Chester County, Pennsylvania. 12It is not clear who signed for Crescent. 13 Neither Buchanan, Hayes, Koppel, Pritzker or Pomerance executed the document. Although Koppel was to be responsible for selecting the coal property, he testified that he never met Thompson in 1976. Hayes testified that he first met Thompson in either late October or early November. 1984 Tax Ct. Memo LEXIS 186">200 The Crescent-Cumberland SubleaseOn October 28, 1976, Crescent and Cumberland entered into an agreement (the Sublease) whereby Cumberland subleased from Crescent the coal rights held by Crescent under its sublease agreement with Black Rock. Unlike the Original Sublease, the agreement between Crescent and Cumberland specified six discrete seams of coal which Cumberland would be entitled to mine. 14The agreement provided: Subject to all of the conditions set forth herein [Crescent] hereby subleases to [Cumberland], and [Cumberland] hereby subleases from [Crescent], all of [Crescent's] rights and privileges to mine, extract and remove the Stockton, Coalburg, Winifrede, Upper Ceder Grove, Lower Cedar Grove and Alma coal contained on, in or under [the Low Gap Tract] . . . subject to Crescent entering the 1984 Tax Ct. Memo LEXIS 186">201 Original Sublease on or before December 31, 1976. Under the Sublease, Cumberland was obligated to pay Crescent a nonrefundable "advanced or minimum royalty" of $4,975,000.15 The advanced royalty was payable $1,975,000 in cash and the balance by a $3,000,000 nonrecourse promissory note. The agreement specified that the note would bear interest at eight percent and was payable $240,000 on December 31, 1977 with thirty-six equal quarterly payments of $118,000 commencing March 31, 1978 and ending December 31, 1986. The advanced royalty was subject to recoupment over the term of the Sublease out of the first $4,975,000 of production royalties that would otherwise be payable to Crescent. The Sublease required 1984 Tax Ct. Memo LEXIS 186">202 Cumberland to pay Crescent production royalties of nine percent of the sales price of all coal mined, removed and sold from the Low Gap Tract. The Sublease contained the following provision: 3. Conditions Precedent to Consumation of Sublease.[Crescent] shall be required to deliver to [Cumberland] or its designated representatives the following documents and instruments on or before the Closing Date: (a) A coal mine operating agreement with respect to [the Low Gap Tract] with a reputable and financially responsible coal mining organization approved by [Cumberland], which approval shall not be unreasonably withheld, pursuant to which the coal mine operator will agree (i) to mine and remove from Upper Cedar Grove, Lower Cedar Grove and/or Alma coal seams as agreed to by [Cumberland], not less than 7,500 tons per month, not later than May 1, 1977, to mine and remove 1984 Tax Ct. Memo LEXIS 186">203 not less than 15,000 tons per month, not later than September 1, 1977 and to mine and remove not less than 20,000 tons per month by March 1, 1978, and to deliver such coal to the distance of the U.S. Steel Corporation Cleaning Plant at Thacker, Mingo County, West Virginia, for a term of not less than three years commencing January 1, 1977 and ending December 31, 1979, all at a compensation not to exceed $14.25 per clean ton of coal, exclusive to West Virginia Business and Occupation Tax, and (ii) [Cumberland] shall have the right to purchase any equipment which such coal mining organization uses with respect to the coal mining operation at [the Low Gap Tract] upon such terms as are mutually acceptable to [Cumberland] and said coal mining organization. (b) A revised Engineering Report by Gaddy Engineering Company or such other reputable independent engineering firm of recognized standing in the locality in which [the Low Gap Tract] is situated specifying that [the Low Gap Tract] has Recoverable Proven Reserves of such coal as defined in the Original Sublease, meeting the specifications set forth in the original Engineering Report of Gaddy Engineering Company. * * * The Sublease was 1984 Tax Ct. Memo LEXIS 186">204 executed in San Francisco by Koppel (as president of Crescent and as general partner in Cumberland) and Buchanan (as secretary of Crescent and as general partner in Cumberland). 16 The agreement expressly provided that it would be construed and interpreted in accordance with California law. On December 29, 1976, the closing date of the Sublease and the Original Sublease, Cumberland executed a nonrecourse promissory note in the amount of $3,000,000, on terms as provided in the Sublease. With the exception of the principal amount and the amount of the periodic payments, the terms of the note were identical to those of the note executed by Crescent under the Original Sublease. The note allowed an eighteen-month grace period for the payment of installments. The note was secured by all the assets and property of Cumberland, including the coal rights it held under the Sublease. 17 On December 29, 1976, Hayes and Buchanan executed a "Deed of Trust 1984 Tax Ct. Memo LEXIS 186">205 and Security Agreement" under which Cumberland granted Crescent a security interest in the collateral (the assets of Cumberland). Jeffrey G. Wagner, the original limited partner who withdrew from the partnership on December 27, was appointed as trustee. Like the note delivered to Black Rock by Crescent, the note provided: This note is secured pursuant to a certain security agreement dated of even date herewith between [Cumberland] and [Crescent]. . . under which [Cumberland] has pledged certain collateral . . . and the note is payable out of collateral only. In November 1976, Frank Gaddy revised the study of the coal reserves on the Low Gap Tract which he originally had prepared for Cotiga in 1972. 18 The original report estimated that there were 6.6 million tons of recoverable coal reserves on the tract. Because 1984 Tax Ct. Memo LEXIS 186">206 of his determination that no mining had occurred on the tract since 1972, Gaddy made no substantive revisions of the report, and merely had it retyped. Gaddy was paid $3,500 for his services to Cumberland in 1976. The revised report was formally delivered by Crescent to Cumberland, in accordance with the terms of the Sublease, and its content was summarized in the Private Placement Memorandum distributed by Cumberland on December 10, 1976. Also by the time of the distribution of the Private Placement Memorandum, Cumberland had reached an agreement (the Mine Operating Agreement) with B-Rock Mining Company (B-Rock), according to which B-Rock would be retained as an independent contractor to perform contract mining and transportation services on the Low Gap Tract.B-Rock was a West Virginia corporation organized in 1976 by Rodman Thompson, Gary Spirer and Rayburn Wolford, who were its officers, directors and sole shareholders. 191984 Tax Ct. Memo LEXIS 186">207 Thompson and Wolford had substantial experience in the coal business. The Mine Operating Agreement was for a term of three years had provided that B-Rock would receive $14.25 for each ton of coal mined, removed and delivered to a specified preparation plant in Mingo County. B-Rock was obligated to produce 80,000 tons of coal in 1977, 175,000 tons of coal in 1978, and 200,000 tons in 1979. 20 B-Rock was required to supply all necessary mining equipment, provide working capital of $200,000, and obtain a line of credit of $100,000. The agreement also provided that Cumberland would have the right to purchase the mining equipment from B-Rock upon the termination 1984 Tax Ct. Memo LEXIS 186">208 of the agreement or a willful breach of its terms by B-Rock. The Mine Operating Agreement was formally executed on December 29, 1976. On December 10, 1976, an "Amended Private Placement Memorandum" 21 (the prospectus), describing Cumberland and the proposed coal venture, was distributed to potential investors, including the petitioner. The prospectus proposed to sell forty units of $50,000 each. 22 The prospectus contained discussions of the various subleases and other agreements; risk factors associated with the investment; certain conflicts of interest inherent in the venture (especially the general partners' control of Crescent); the nature of the coal reserves; the proposed mining operations; and the federal income tax consequences of an investment in the partnership. The largest section of the prospectus, comprising roughly half of the document, was devoted to the income tax aspects of the venture. The prospectus stated that the discussion of the income tax issues had been reviewed and approved by Pomerance's law firm, and that on the closing date the firm would deliver to the partnership an opinion concerning the classification of Cumberland as a partnership for federal income 1984 Tax Ct. Memo LEXIS 186">209 tax purposes and the deductibility of the "advanced or minimum royalty" payment. 22 The firm was counsel to both Cumberland and Pacific Associates. Some of the "risk factors" discussed in the prospectus included the possibility of the decline of market prices of coal; the absence of any output contract for the purchase of coal produced from the Low Gap Tract; the possibility that the mine operator may not be able to conduct operations profitably given increasing expenses and labor problems; the complete reliance on the mine operator given the general partners' lack of experience in coal mining; and the impact of current and prospective environmental laws and regulations governing mining. The following caveat appeared in bold type on page two of the prospectus: 24Moreover, on October 29, 1976 the Service suspended two Revenue Rulings and proposed a modification of a Treasury Regulation, all of which relate to the federal income tax treatment of advanced 1984 Tax Ct. Memo LEXIS 186">210 or minimum royalty payments made pursuant to coal or other mineral leases. The proposed regulation, by its terms, does not affect the deductibility of advanced or minimum royalty payments that are made pursuant to leases that either were binding on the payor of the royalty prior to October 29, 1976 or were required to be executed by the payor pursuant to a written contract that was binding on the payor prior to such date. As a result of uncertainty as to whether the partnership cna qualify for the foregoing exception, counsel to the partnership is unable to express an unqualified opinion that the advanced or minimum royalty payment to be made by the partnership on the closing date will be deductible by the partnership for its 1976 taxable year. . . . [emphasis supplied]. The Private Placement Memorandum did not contain any financial projections regarding the proposed coal mining activities of Cumberland. However, Hayes and Pritzker prepared a ten-year financial projection of the partnership's operations, based on certain 1984 Tax Ct. Memo LEXIS 186">211 assumptions regarding the expected levels of production, costs of production, and sales price of coal. 251984 Tax Ct. Memo LEXIS 186">212 For 1976, based on the deduction of the $4,975,000 advance royalty and no coal production, Hayes and Pritzker projected a net loss of $4,975,000, a "net after tax cash flow" of $412,500, and a "cash on cash return after tax" of 121%. 26 For later years they projected steady operating profits, beginning in 1977 at $149,160, rising to $618,304 in 1978, and rising steadily thereafter with a projected net operating profit of $950,272 in 1986. 27 A "spread sheet" containing these financial projections was provided to petitioner at the time he was considering in investment in Cumberland, and he discussed it with Hayes. Although the tax write-off was discussed, petitioner was also interested in an investment that would provide an "income stream," and he found the coal venture attractive because of the possibility that the energy crisis could lead to an increase in coal prices. Petitioner relied 1984 Tax Ct. Memo LEXIS 186">213 on the spread sheet and Gaddy's report on the coal resources in deciding to invest in Cumberland. On December 27, 1976, the partnership agreement was amended to reflect the withdrawal of the original limited partner and the admission of thirty-four new limited partners who collectively contributed $2,000,000 of capital to Cumberland. Most of the investors contributed $50,000 for a full "unit," and received a 2.5 percent interest in the profits and losses of the partnership. Petitioner contributed $30,000 and received a 1.5 percent interest. The amended partnership agreement allocated ninety-five percent of all net income or loss of Cumberland to the limited partners and five percent to the general partner until "payout." 28 After payout the net imcome or loss was to be allocated sixty percent to the limited partners and forty percent to the general partner. However, the deduction claimed with respect to the $1,975,000 cash portion of the advance royalty was allocated one-hundred percent to the limited partners. Pacific Associates, as general partner, contributed $20,000 of capital to the partnership. 1984 Tax Ct. Memo LEXIS 186">214 29 In addition to its respective share of partnership profits and losses, Pacific Associates was to receive, for management services, one dollar per ton of coal produced, and for general and accounting services, one dollar per ton of coal produced. As of December 27, 1976, Cumberland's assets consisted of $2,020,300 cash and the mining rights it received under the sublease. Pursuant to the Sublease however, Cumberland paid Crescent $1,975,000 as the cash portion of the advance royalty. In addition, Cumberland incurred $5,000 of organizational expenses. Cumberland retained $40,300 as working capital. 30The sublease agreements involving Black Rock, Crescent and Cumberland were closed on December 29, 1976. On that date, Cresent executed the $1,500,000 note payable to Black 1984 Tax Ct. Memo LEXIS 186">215 Rock; Cumberland executed the $3,000,000 note payable to Crescent; Crescent and Cumberland executed the deeds of trust granting security interests in the coal rights to their respective sublessors; the Black Rock-Crescent sublease was amended as hereinbefore discussed; and the Mine Operating Agreement was executed. Two additional agreements were executed on December 29. Cotiga, Black Rock, Crescent and Cumberland executed an "Access Agreement," which allowed Cumberland access to the Low Gap Tract for the purpose of conducting mining operations. Cumberland also executed a "Coal Brokerage Agreement" with Black Rock Sales, a West Virginia partnership controlled by Thompson and Spirer. 311984 Tax Ct. Memo LEXIS 186">216 Under this agreement, Black Rock Sales agreed to "use its best efforts to assist the Partnership to obtain [sic] output contracts for the purchase of coal . . ." Black Rock Sales was to receive an unstated 32 percentage of sales monthly as a commission, but only if the average sales price of the coal for a given month exceeded $25.50 per ton. Crescent received $1,975,000 from Cumberland pursuant to the Sublease. Crescent made the following disbursements from those funds: $1,200,000 to Black Rock as the cash portion of the advance royalty under the Original Sublease; $150,000 in "finder's fees" to persons who solicited investors in Cumberland; $60,000 to Pomerance's law firm; $150,000 to pay Federal income taxes for 1976; $70,000 in compensation and expense reimbursements to the officers of Crescent; 33 and $3,500 to Gaddy for the revised report on the coal reserves. Crescent also represented to Cumberland that it would retain $200,000 in reserve in the event that Cumberland required additional capital. The disposition of the remaining $141,500 is not clear; nor is there any evidence that Crescent made any loans to Cumberland with the $200,000 purportedly retained for that purpose. Hayes testified that Crescent maintained a cash balance of $250,000 in 1978, but could not account 1984 Tax Ct. Memo LEXIS 186">217 for the disposition of the funds after that date. 34 Crescent did not have a substantial cash balance at the time of the trial. In early 1977, Gaddy prepared a mining plan for the production of coal from the Alma seam on the Low Gap Tract. In that connection, he obtained that necessary permits from various regulatory authorities in order to conduct mining. Gaddy experienced delays because of changes in certain laws and regulations governing mining and because of a flood in Mingo County. At various times in 1977 and 1978, strikes by members of the United Mine Workers Union and "wildcat" coal miners curtailed coal mining in Mingo County. 1984 Tax Ct. Memo LEXIS 186">218 Sometime in the spring of 1978, mining equipment was moved to the opening of the Alma seam. 35 Gaddy visited the site when the equipment was present, and recalled seeing two sets of mining equipment.All of the equipment was portable. The equipment was moved off the site sometime during the fall of 1978. It is not clear who owned the mining equipment. Gaddy believed that it was owned by B-Rock Mining. 36 Gaddy also indicated that the equipment may have been moved from the site for security purposes, because of the strikes. Gaddy estimated that the mining 1984 Tax Ct. Memo LEXIS 186">219 equipment he saw at the Alma seam was capable of producing 18,000 tons of coal per month, if both sets were operated on a two-shift basis. Coal was mined from the Alma seam sometime between June and September 1978. Production ceased during a time when striking coal miners picketed the mine. No mining was conducted after September 1978. A total of 14,000 tons of coal were produced from the Low Gap Tract. 37Gaddy had been in business as a coal mining consultant since 1968, when he founded Gaddy Engineering Company. He had a master's degree in mining engineering, and was a registered engineer in several states. He was a member of various professional societies and was past president of the West Virginia Coal Mining Institute. He had been involved in coal mining since 1948. Gaddy Engineering employed eighteen people and had more than two hundred clients. Gaddy's revised report on the coal reserves of the Low Gap Tract contained no substantive changes from his original report which he had prepared for Cotiga in 1972. 1984 Tax Ct. Memo LEXIS 186">220 38 The report estimated that there were 6.6 million tons of recoverable coal in six mineable seams on the coal tract: SeamRecoverable Reserves (in tons)Stockton20,000Coalburg211,000Winifrede1,514,000Upper Cedar Grove1,533,000Lower Cedar Grove1,633,000Alma1,702,000TOTAL6,613,000The estimates of recoverable reserves in Gaddy's report were based on recovery rates of sixty-seven percent for deep mining, and eighty percent for surface mining.Gaddy's plan for mining the Alma seam, however, projected recovering eighty-five percent of the coal in place. His practice was to use a slightly lower recovery rate when calculating reserves, as a margin of safety. He generally insisted on a recovery rate of at least eighty percent when he managed coal property. 39 Gaddy also testified that a production rate from the Alma mine of 20,000 tons per month was feasible, 40 that $14,25 per ton was a reasonable fee to pay B-Rock, and that the sales price of coal in Mingo County in 1976 ranged from twenty-five to twenty-nine dollars per ton on a shipped-ton basis. He also estimated the value of the coal reserves in place to 1984 Tax Ct. Memo LEXIS 186">221 be between $ .75 and $1.25 per ton. The Low Gap Tract was described in Gaddy's report as "characterized by steeply sloping hillsides, with little or no bottom land for farming . . ." The Stockton seam lay close to the ridge of a 1,980 foot mountain. The report stated that: [The Stockton seam] is particularly suitable for surface mining methods providing the slopes of the hillside are not too steep. No effort has been made in this study to ascertain the steepness of the hillsides and all surface mining could be rendered unmineable by present day regulations governing this method of mining. Gaddy could not explain why a similar caveat was not included with respect to the surface mineable reserves in the Winifrede seam. 411984 Tax Ct. Memo LEXIS 186">222 The original 1972 report stated that the Upper Cedar Grove and Alma seams had been mined previously. In preparing the report for Cumberland in 1976, Gaddy did not change any of the estimates of recoverably reserves because he concluded that there had been no coal mining on the Low Gap Tract since 1972. Gaddy did not inspect the various seams to confirm this assumption. However, he managed property in Mingo County, was frequently in the area between 1972 and 1976, and never observed any mining on the tract. It was later discovered that the Upper Decar Grove seam had been completely mined out by 1976. It was also discovered that the Stockton seam had been mined, and that the Alma seam had been mined to a greater extent than previously believed. Gaddy testified that the report contained "mistakes" and "inconsistencies." Gaddy subsequently revised his estimate of recoverable reserves on the tract downward by three million tons. 42Gaddy was 1984 Tax Ct. Memo LEXIS 186">223 named as a defendant, along with Cotiga, Black Rock, B-Rock, and other parties, in a suit filed by Cumberland in 1980 or 1981, concerning the Low Gap mining venture. Gaddy did not participate in any of the hearings or settlement negotiations, and did not pay any money to Cumberland as a result of the suit. Gaddy testified that he "assumed that somebody questioned the report." Respondent introduced into evidence a report on the Low Gap Tract coal reserves prepared by W. G. Hooper, a valuation engineer. 43 Hooper conducted a field examination of the property in September, 1978. His report stated: Current operations, until shut down by a United Mine Workers strike, consisted of refurbishing the portal, haulage-way and ventilation system at the Bee Rock mine where the taxpayer was attempting to reopen the Alma coal seam. The Alma seam was apparently mined, by prior operators, about 200 feet further into mine than indicated on underground maps supplied to taxpayer. 441984 Tax Ct. Memo LEXIS 186">224 Hooper applied different assumptions concerning recovery rate and the mineability of certain seams, and concluded that the tract contained 3,355,000 tons of recoverable coal. Hooper assumed a fifty percent recovery rate for coal mined by deep-mining methods, whereas Gaddy assumed a sixty-seven percent recovery rate. Gaddy testified that a fifty percent recovery rate was "extremely conservative" and "unrealistic" in Mingo County. Hooper concluded that the Stockton seam was too thin to be mined.He also concluded there were insufficient intervals 45 between the various Coalburg seams to allow mining of all three seams. Gaddy disputed both of these conclusions. Hooper's report stated: The Coalburg coal sequences could possibly be mined at some time in the future but certainly would need exploration prior to any development . . . The area is highly timbered, in rugged terrian and would also require considerable work and expense to make accessible to mining 1984 Tax Ct. Memo LEXIS 186">225 operations. Hooper's estimates of the thickness of certain coal seams, coal acres, and recoverable reserves differed from Gaddy's as follows: Coal BedGaddy's EstimatesHooper's EstimatesAverageCoalRecoverableAverageCoalRecoverableHeightAcresReserves xHeightAcresReserves xStockton64"320yyyCoalburg68"3121139"35z 215Winifrede74"2021,51436"150405Upper Cedar Grove42"3741,53338"300865Lower Cedar Grove38"4411,63336"350145Alma40"4361,70232"3959256,6133,355Hooper's estimate of 3,355,000 tons of recoverable reserves included an estimate of 865,000 tons in the Upper Cedar Grove seam. It was later discovered that the Upper Cedar Grove seam had been completely mined out. When adjusted for this development, Hooper's report estimates 2,490,000 tons of recoverable reserves. Hooper concluded that in 1984 Tax Ct. Memo LEXIS 186">226 order to recoup the $4,975,000 advanced royalty from the Alma seam the price of coal would have to approximate sixty dollars per ton over the life of the reserves. 46 The report stated that in order to develop other seams "substantial additional costs would be incurred to explore, rehabilitate, increase mining equipment and develop this potential." 47 Cumberland did not have specific plans to mine additional seams, other than Alma, in 1978. 48In 1980 or 1981, Cumberland sued Cotiga, Black Rock, B-Rock, Gaddy, Thompson, Spirer, and Pomerance's law firm. 491984 Tax Ct. Memo LEXIS 186">227 Cumberland ultimately received $650,000 from the law firm and $500,000 from Cotiga in a settlement of the suit. At the time of settlement, Cotiga took possession of the Low Gap Tract. Cumberland made no payments of principal or interest on the $3,000,000 nonrecourse note payable to Crescent. However, on its Federal income tax returns for 1976 through 1980, Cumberland accrued and deducted $1,101,072 of interest on the note. Cumberland filed a U.S. Partnership Return of Income (Form 1065) for its short taxable year beginning October 28, 1976 and ending December 31, 1976. This return claimed total deductions of $4,975,166, consisting of the $4,975,000 advance royalty and $166 of amortization of the $5,000 organizational expenses. Cumberland reported no income for 1976. Cumberland claimed losses on its 1977 through 1980 partnership returns as follows: YearLoss1977$239,0611978257,8251979284,6971980304,215These losses were attributable solely to interest accrued and deducted on the $3,000,000 note payable to Crescent. On his 1976 Federal income tax return petitioner claimed a loss of $72,396 as his distributive share of the losses of Cumberland. In a notice of deficiency 1984 Tax Ct. Memo LEXIS 186">228 dated July 11, 1980, respondent disallowed the $72,396 loss in its entirety. Respondent determined that the deduction for the advance royalty was disallowed because it had not been established that the transaction between Cumberland and Crescent contained economic substance. Alternatively, respondent determined the advance royalty was not currently deductible because it had not been established that the Sublease was binding, or that it imposed substantial and non-illusory obligations on Cumberland, prior to October 29, 1976. By Amendment to Answer to Second Petition, respondent asserted additional alternative grounds for the disallowance of the loss. Respondent contends that the obligations, liabilities or debts giving rise to the deductions were incurred prior to the time that petitioner became a member of Cumberland, and may not be retroactively allocated to him. Respondent also contends that the liability incurred with respect to the advance royalty is speculative, contingent and nonbinding, and therefore petitioner cannot claim any portion of the liability as part of his adjusted basis in the partnership. OPINION Petitioner claimed a loss of $72,396 as his distributive share 1984 Tax Ct. Memo LEXIS 186">229 of the losses of Cumberland in 1976. Cumberland, a limited partnership, was formed on October 27, 1976 by Buchanan, Hayes, Koppel and Pritzker, purportedly to lease and mine certain coal property in Mingo County, West Virginia. Those four individuals, doing business as Pacific Associates, were Cumberland's general partners. Cumberland's reported loss for 1976 was attributable almost entirely to its deduction of an advance royalty in the amount of $4,975,000, paid (by $1,975,000 cash and a $3,000,000 nonrecourse promissory note) to Crescent, from which Cumberland subleased the coal mining rights to the Low Gap Tract. Crescent was also controlled by Buchanan, Hayes, Koppel and Pritzker. On the same day (October 28, 1976) that it subleased the coal rights to Cumberland, Crescent subleased the identical rights from Black Rock, and agreed to pay Black Rock an advanced royalty of $2,700,000 (payable $1,200,000 in cash and $1,500,000 by a nonrecourse promissory note). Earlier in October, Black Rock had leased the same coal rights from Cotiga under an agreement that obligated Black Rock to pay an annual rental fee of only $4,640 per year. Petitioner was admitted as a limited partner 1984 Tax Ct. Memo LEXIS 186">230 in Cumberland on December 27, 1976 and contributed $30,000 for a 1.5 percent interest in the partnership's profits and losses. The sublease agreements between Cumberland, Crescent and Black Rock were closed on December 29, at which time Cumberland paid Crescent $1,975,000 in cash (out of the $2,000,000 contributed by the limited partners) and executed a $3,000,000 nonrecourse promissory note, which was secured principally by the coal mining rights. After paying the advance royalty and organizational expenses, Cumberland retained only $40,300 as working capital. Although a modest amount of coal was mined in 1978 during operations to open the Alma mine, Cumberland never sold any coal. The partnership reported no income in 1976, and only small amounts of interest income in its taxable years 1977-1980. Cumberland never made any payments to Black Rock of interest or principal on the note, but deducted accrued interest on the note for taxable years 1977-1980. Respondent makes various alternative arguments supporting his disallowance of the loss claimed by petitioner. Respondent's primary argument is that Cumberland was not engaged in any coal mining activity with a bona fide objective 1984 Tax Ct. Memo LEXIS 186">231 of making a profit, but was created merely as a tax shelter for the limited partners who, by virtue of the large advance royalty "paid" mostly with nonrecourse debt, claimed deductions in 1976 for losses far exceeding their cash contributions. Before turning to this issue, however, it may be helpful to outline the issues concerning the amended regulations under section 612, 50 which provide a framework for analyzing the transactions herein. 51A royalty interest, for Federal tax purposes, is a right to minerals in place that entitles the royalty owner to a specified fraction, in kind or in value, of the total production from the property, free of expense of development and operation. F. Burke and R. Bowhay, Income Taxation of Natural Resources, par. 1984 Tax Ct. Memo LEXIS 186">232 2.03 (1982). Royalties have been described as akin to rent and are deductible by the payor as a trade or business expense under section 162(a)(3). Burnet v. Hutchinson Coal Co.,64 F.2d 275">64 F.2d 275 (4th Cir. 1933); Surloff v. Commissioner,81 T.C. 210">81 T.C. 210, 81 T.C. 210">232 (1983); c.f. section 62(5); section 1.62-1(c)(8), Income Tax Regs.Although a royalty by its very nature must be linked to the production of the mineral, it has long been recognized that, in certain circumstances, royalties paid in advance of actual production are deductible when paid, as long as the payments are subject to recoupment out of (credited against) production royalties otherwise payable at the time the mineral is produced. 64 F.2d 275">Burnet v. Hutchinson Coal Co.,supra. Normally, advance royalties are paid pursuant to a lease requiring annual minimum royalty payments which are designed to approximate the amount of royalties that would accrue at a certain level of production. The agreement might provide that the advance royalty payments are recoupable not only out of production within the year paid, but also in later years if actual production falls short of the projected level in a given year. See, e.g., 64 F.2d 275">Burnet v. HutchinsonCoal Co.,supra.1984 Tax Ct. Memo LEXIS 186">233 Such an annual minimum royalty provision benefits the lessor because it operates as an economic incentive to the lessee to commence production as quickly as possible. The advance royalty must be distinguished from the lease bonus, which is a payment made as an inducement for the lessor to enter into the lease, and is not recoupable out of future production.A bonus is not deductible when paid but must be amortized over the life of the lease. Fitzsimons v. Commissioner,37 T.C. 179">37 T.C. 179 (1961); F. Burke and R. Bowhay, Income Taxation of Natural Resources, pars. 4.02,18.22 (1982); Sec. 1.162-11(a), Income Tax Regs; c.f. section 1.612-3(a)(3), Income Tax Regs.Prior to the amendment in 1977 of the regulations under section 612, concerning the treatment of advance royalties, 52 it was clear that payments made pursuant to an annual minimum royalty, as described above, were deductible in the year paid even if no production (or insufficient production to recoup the royalty payment) occurred during the year. However, it was not clear to what extent payments of "lump sum" advance royalties -- royalties paid at the outset of the lease, with no requirement for uniform annual payments over the lease 1984 Tax Ct. Memo LEXIS 186">234 term -- were deductible in the year of payment. The relevant portion of sec. 1.612-3(b), Income Tax Regs, prior to amendment, read as follows: * * (b) Advanced Royalties.(1) If the owner of an operating interest in a mineral deposit . . . is required to pay royalties on a specified number of units of such mineral . . . annually whether or not extracted . . . within the year, and may apply any amounts paid on account of units not extracted . . . within the year against the royalty on the mineral . . . thereafter extracted or cut . . . * * * (3) The payor, at his option, may treat the advanced royalties so paid or accrued in connection with mineral property as follows: (i) As deductions from gross income for the year the advanced royalties are paid or accrued * * * [emphasis supplied] The language of the old regulation, 1984 Tax Ct. Memo LEXIS 186">235 specifying that the advance royalties were required to be paid "annually," would seem to preclude the deduction of lump sum payments. See Redhouse v. Commissioner,728 F.2d 1249">728 F.2d 1249, 728 F.2d 1249">1251 (9th Cir. 1984), affg. Wendland v. Commissioner,79 T.C. 355">79 T.C. 355 (1982); Wendland v. Commissioner,supra,79 T.C. 355">79 T.C. 383-385; Pomerance, Coal-leasing arrangements offer substantial tax-shelter benefits,44 J. Tax'n 350 (1976). 53 However, a revenue ruling published by respondent in 1974 indicated that such a lump sum advance royalty would be deductible. Rev. Rul. 74-214, 1974-1 C.B. 148. It is that ruling upon which petitioner relies heavily in this case, despite the fact that it was quite clear, two months prior to the closing of the transactions herein, that respondent regarded Rev. Rul. 74-214 as an erroneous interpretation of the law. At the same time he announced the proposed amendment of the regulation (discussed below), respondent also announced the suspension of the ruling. On October 29, 1976, respondent announced a proposed amendment of section 1.612-3(b), Income Tax Regs.1984 Tax Ct. Memo LEXIS 186">236 News Release IR-1687, October 29, 1976. The amended regulation established the general rule that a payor of advance royalties must treat them as deductions from gross income for the year the mineral product, with respect to which the advance royalties were paid or accrued, is sold. However, an exception to this rule was provided in the case of advanced mineral royalties paid or accrued pursuant to a "minimum royalty provision"; such a payor has the option to treat the advance royalties as deductions in the year they are paid or accrued. A minimum royalty provision was defined as a provision that "requires that a substantially uniform amount of royalties be paid at least annually over the life of the lease." The news release also announced the suspension of Rev. Rul. 74-214. See generally Wendland v. Commissioner,supra,79 T.C. 355">79 T.C. 378-379; Elkins v. Commissioner,81 T.C. 669">81 T.C. 669, 81 T.C. 669">674-676 (1983). News of the impending announcement by the IRS of the proposed amendment to the regulation apparently caused significant acceleration of the transactions involved in this case. Hayes testified that he received a telephone call in late October from Pomerance's law firm and was cautioned that "if 1984 Tax Ct. Memo LEXIS 186">237 you don't want to have wasted all of your time up to now, you had better see if you can conclude these transactions." The reason for haste was that the IRS announcement indicated that the amended regulation would not apply to royalties required to be paid pursuant to a mineral lease which was binding prior to October 29, 1976. 541984 Tax Ct. Memo LEXIS 186">238 The general partners of Cumberland, accordingly, scrambled to draft and execute the relevant agreements by that date. 551984 Tax Ct. Memo LEXIS 186">239 It is obvious that securing the large advance royalty deduction in 1976 was the primary stimulus for the formation of Cumberland. In December, 1977, respondent issued the final version of the amended regulation, retroactive to October 29, 1976. T.D. 7523, 1978-1 C.B. 192. 561984 Tax Ct. Memo LEXIS 186">240 Respondent at that time also revoked Rev. Rul. 70-20, 1970-1 C.B. 144, and Rev. Rul. 74-214, 1974-1 C.B. 148. See Rev. Rul. 77-489, 1977-2 C.B. 177. The amendment of this regulation has spawned a considerable amount of litigation in this Court, as various taxpayers have attempted to avoid the application of the new provision to coal mining ventures organized in late 1976. We have rejected arguments that respondent's procedure used to amend the regulation violated the Administrative Procedure Act, the legislative reenactment doctrine, or constituted an abuse of discretion. 79 T.C. 355">Wendland v. Commissioner,supra;Wing v. Commissioner,81 T.C. 17">81 T.C. 17 (1983). On another occasion we rejected respondent's interpretation 1984 Tax Ct. Memo LEXIS 186">241 of the portion of IR-1687 concerning the retroactivity of the proposed amendment, an issue argued by the parties in this case. In 81 T.C. 669">Elkins v. Commissioner,supra, we held that the "party" required tobe bound by a mineral lease or a written contract prior to October 29, 1976 was the partnership and not the individual limited partner. More recently, we held that a limited partnership's obligations under a coal sublease were "illusory" within the meaning of IR-1687, so that the transaction was subject to the amended regulation. Gauntt v. Commissioner,82 T.C. 96">82 T.C. 96 (1984). The issue of whether Cumberland's obligations were "not substantial or were illusory as of October 29" has also been argued in this case. The assumption underlying the litigation of these various procedural issues, both in prior cases and in the instant case, seems to be that a taxpayer who is able to bring his coal venture within the ambit of the old regulation is entitled to a deduction of the advance royalty, even if the payment(s) in question does not constitute an annual minimum royalty. We question the validity of such an assumption. As we have indicated, the old regulation did not appear to endorse the deduction 1984 Tax Ct. Memo LEXIS 186">242 of lump sum advance royalties. See Redhouse v. Commissioner,supra728 F.2d 1249">728 F.2d at 1251; Wendland v. Commissioner,supra,79 T.C. 355">79 T.C. 383-385. Such a deduction plainly is contrary to the well established principle of tax accounting that a prepayment which creates an asset having a useful life that extends substantially beyond the close of the taxable year must be deducted over the years to which the expenses relate. See e.g., Commissioner v. Boylston Market Assn.,131 F.2d 966">131 F.2d 966 (1st Cir. 1942); University Properties, Inc. v. Commissioner,45 T.C. 416">45 T.C. 416 (1966), affd., 378 F.2d 83">378 F.2d 83 (9th Cir. 1967); section 1.461-1(a)(2), Income Tax Regs; Rev. Rul. 77-489, 1977-2 C.B. 177 (noting that amended regulation section 1.612-3(b)(3) requires a result consistent with this principle). It is also possible that a lump sum payment made under circumstances such that its recoupment out of production is, at best, a highly speculative proposition, may be treated as a bonus rather than an advance royalty according to the principle that the substance and not the form of a transaction is determinative for Federal tax purposes. See P. Maxfield, Taxation of Mining Operations, par. 3.03[3][a] (1981); c.f. 37 T.C. 179">Fitzsimons v. Commissioner, supra.1984 Tax Ct. Memo LEXIS 186">243 Although Rev. Rul. 74-214 indicated that a lump sum advance royalty payment would be deductible in the year paid, it is well established that respondent has the power to amend or withdraw a revenue ruling to correct a mistake of law, and that ordinarily such an action, even if applied retroactively, does not constitute an abuse of discretion. Automobile Club of Michigan v. Commissioner,353 U.S. 180">353 U.S. 180 (1957); Wendland v. Commissioner,supra,79 T.C. 355">79 T.C. 384; Manocchio v. Commissioner,78 T.C. 989">78 T.C. 989, 78 T.C. 989">1000-1001, affd. 710 F.2d 1400">710 F.2d 1400 (9th Cir. 1983). Petitioner's purported reliance on Rev. Rul. 74-214 is especially tenuous in light of the fact that the ruling was suspended, and the proposed amendment to the regulation was announced, two months prior to the closing of the subleases and petitioner's entry into Cumberland. Our observation in a prior case is equally pertinent here: "[T]he situation smacks more of petitioners rushing in to take advantage of respondent before he can finalize his amendment to the regulations." Wendland v. Commissioner,supra,79 T.C. 355">79 T.C. 384-385. The parties in this case have devoted much attention to the issues concerning the applicability of amended section 1.612-3(b)(3), Income Tax Regs., 1984 Tax Ct. Memo LEXIS 186">244 especially the question of whether Cumberland's obligations under the sublease were not substantial or were illusory. See 82 T.C. 96">Gauntt v. Commissioner,supra. As the above discussion indicates, we doubt that, even under the old regulation, petitioner would be allowed to deduct the advance royalty in 1976. However, we decline to decide the case on this basis, given our finding (discussed below) that the venture was not engaged in with a bona fide objective of making a profit. In that regard, we think that the above discussion is quite relevant insofar as it illustrates the extent to which the desire to obtain the large advance royalty deduction in 1976 influenced the structure and timing of the transaction herein. With these considerations in mind, we turn to the profit objective issue. It is well established that in order to constitute the carrying on of a trade or business under section 162(a), Cumberland must have entered into the coal venture "in good faith, with the dominant hope and intent of realizing a profit, i.e., taxable income, therefrom." Hirsch v. Commissioner,315 F.2d 731">315 F.2d 731, 315 F.2d 731">736 (9th Cir. 1963), affd. a Memorandum Opinion of this Court; Brannen v. Commissioner,78 T.C. 471">78 T.C. 471, 78 T.C. 471">501 (1982), 1984 Tax Ct. Memo LEXIS 186">245 affd. 722 F.2d 695">722 F.2d 695 (11th Cir. 1984). While a reasonable expectation of profit is not required, the partnership's profit objective must be bona fide. Box v. Commissioner,80 T.C. 972">80 T.C. 972, 80 T.C. 972">1006 (1983), affd. by order (2d. Cir. January 23, 1984), affd. sub nom. Barnard v. Commissioner,731 F.2d 230">731 F.2d 230 (4th Cir. 1984), affd. in unpublished orders, 57734 F.2d 5">734 F.2d 5-9 (3d Cir. 1984); Dreicer v. Commissioner, 78 T.C. 642, 78 T.C. 642">646 (1982), affd. without opinion, 702 F.2d 1205">702 F.2d 1205 (D.C. Cir. 1983). "Profit" in this context means economic profit, independent of tax savings. 81 T.C. 210">Surloff v. Commissioner,supra at 233; Fox v. Commissioner,82 T.C.1001 (1984).In determining whether a partnership is engaged in a trade or business, the profit objective analysis must be made at the partnership level. Brannen v. Commissioner,supra,78 T.C. 471">78 T.C. 505; Siegel v. Commissioner,78 T.C. 659">78 T.C. 659, 78 T.C. 659">696-698 (1982); Fox v. Commissioner,80 T.C. 972">80 T.C. 1006-1007. The intent of the individual limited partners is not determinative of the collective partnership intent, as the limited partners have no control 1984 Tax Ct. Memo LEXIS 186">246 over the activities of the partnership. Rather, the proper focus is generally on the activities and intent of the general partners and promoters. Resnik v. Commissioner,66 T.C. 74">66 T.C. 74 (1976), affd. per curiam 555 F.2d 634">555 F.2d 634 (7th Cir. 1977); Fox v. Commissioner,80 T.C. 972">80 T.C. 1007-1008; Surloff v. Commissioner,81 T.C. 210">81 T.C. 233. Thus, even if petitioner, as the record suggests, may have invested in Cumberland with the hope that it would be profitable, he is not entitled to deduct his loss unless we find that the general partners organized and operated the partnership with a bona fide profit objective. The general partners of Cumberland, Buchanan, Hayes, Koppel and Pritzker, constructed an elaborate network of agreements between various newly-formed entities in order to create the appearance of a bona fide coal mining venture. It becomes apparent, however, upon an examination of the manner in which these agreements were executed, the terms of the sublease agreements, and the economic realities of the proposed coal mining, that Cumberland was not conceived or operated with the dominant objective of making a profit from mining and selling coal. When the paper facade is peeled away, Cumberland is 1984 Tax Ct. Memo LEXIS 186">247 revealed to be a mere tax shelter designed to enrich the general partners and provide sizable tax deductions for the limited partners. None of the general partners had any experience in coal mining, or made any effort to educate themselves in such matters. Buchanan and Hayes, however, did have substantial experience in arranging tax shelters. Buchanan was Koppel's personal tax lawyer, while Hayes (later to become a tax lawyer) had previously worked with Buchanan on tax shelters involving movies. The attempt to depict Koppel, who had a mechanical engineering degree but who made his career in the newspaper business, as the technical expert in Pacific Associates is indicative of the transparency of the venture. That the primary motive behind the formation of Cumberland was to secure attractive tax write-offs is evident from the general partners' initial step -- engaging the services of Pomerance, an attorney recognized as an expert in organizing tax shelters. See Surloff v. Commissioner,81 T.C. 210">81 T.C. 234. It appears that Pomerance, or other in his firm, served as the intermediary between Pacific Associates, Cotiga, and Gaddy. Despite petitioner's attempt to portray Koppel and Hayes 1984 Tax Ct. Memo LEXIS 186">248 as engaged in an extensive investigation of various coal properties, we are not convinced that any such effort was made. We note that at the time they purportedly conducted this search for coal properties in the Southeast, Koppel was employed fulltime by a newspaper in San Francisco, and Hayes entered law school in Dallas. It is also evident that no actual negotiations occurred between the parties to the subleases. Although Koppel and Hayes represented themselves as responsible for obtaining the coal leases, Koppel never met Thompson, a principal in Cotiga and Black Rock, during 1976, and it is doubtful that Hayes met him prior to the execution of the sublease agreements in late October. Hayes conceded that Pomerance was primarily responsible for determining the terms of the agreements, including the amounts of the advanced royalties. See Fox v. Commissioner,80 T.C. 972">80 T.C. 1009; Flowers v. Commissioner,80 T.C. 914">80 T.C. 914, 80 T.C. 914">934-935 (1983); Dean v. Commissioner,83 T.C. 56">83 T.C. 56 (1984); Fuchs v. Commissioner,83 T.C. 79">83 T.C. 79 (1984). Obviously there was no arm's length dealing between Crescent and Cumberland, which were both controlled by Buchanan, Hayes, Koppel and Pritzker. The manner in which the sublease 1984 Tax Ct. Memo LEXIS 186">249 agreements between Black Rock, Crescent and Cumberland were executed also belies the existence of any bona fide arm's length dealing. It is obvious that, in the haste to produce agreements prior to October 29 (the date of the IRS announcement of the proposed amended regulation), the attention to the substance of the agreements was somewhat lacking. 58 The percentages of the production royalties specified in the Black Rock-Crescent sublease were inconsistent with those in the Cotiga-Black Rock lease. It is not clear who, if anyone, executed the sublease on behalf of Crescent. 59 The fact that Crescent was incorrectly listed as "Crescent Mining Company" in the sublease suggests that the parties had some difficulty keeping straight the various entities that they created in connection with the venture. It is difficult to explain the disproportionately large advance royalty required to be paid by Cumberland to Crescent other than as a means of inflating the deductions for the limited partners. The rapid escalation 1984 Tax Ct. Memo LEXIS 186">250 of the amounts of rentals and royalties payable under these agreements is astounding.On October 5, Black Rock agreed to lease the coal property from Cotiga, and was required to pay a minimum annual rental of only $4,040. Black Rock then proceeded to sublease the rights to Crescent on October 28 for a lump sum advanced royalty of $2,700,000. Crescent then subleased the rights to Cumberland for a lump-sum advanced royalty of $4,975,000. We find it difficult to take seriously petitioner's argument that these inflated advance royalties, "paid" mostly with nonrecourse notes, were intended by the parties to act as an economic incentive to mine coal. Rather, this appears to be merely another variety of a scheme employing a series of transactions which are intended to inflate the value of the property, by the use of nonrecourse debt, with the sole purpose of obtaining greater tax benefits. See 81 T.C. 210">Surloff v. Commissioner,supra;80 T.C. 914">Flowers v. Commissioner,supra;78 T.C. 471">Brannen v. Commissioner;supra; 83 T.C. 56">Dean v. Commissioner,supra;83 T.C. 79">Fuchs v. Commissioner,supra.That the advance royalties here were determined "without a true regard for the profitability of the activity" (see Brannen,78 T.C. 471">78 T.C. 509) is 1984 Tax Ct. Memo LEXIS 186">251 all the more evident from a consideration of the coal reserves and the mining prospects, below. Although it is the activities and intent of the general partners that indicate whether a partnership is engaged in an activity with a bona fide profit objective, our inquiry is not necessarily so confined. A partnership is entitled to rely on the expertise of third parties, and may contractually assign various duties and responsibilities associated with the activity to such parties. Flowers v. Commissioner,80 T.C. 914">80 T.C. 932. Petitioner relies heavily on the analysis of the coal reserves prepared by Gaddy and the Mine Operating Agreement with B-Rock, in support of his contention that the profitability of the proposed mining was assured. Based on Gaddy's estimate of recoverable reserves, an estimated sales price of $23 per ton, mining costs of $14.25 per ton and yearly production levels as provided in the Mine Operating Agreement, Hayes and Pritzker prepared a ten-year financial projection of Cumberland's operations which showed consistent net income from operations after the first year. While these various assumptions and projections may appear plausible on the surface, and may in fact 1984 Tax Ct. Memo LEXIS 186">252 have persuaded some of the limited partners to invest in Cumberland, we do not think they withstand close scrutiny. Although Gaddy appears to be a qualified mining engineer, there are several facts which call into question the general partners' good faith reliance on his report. In the first place, we note that the report originally was prepared in 1972 for Cotiga, the fee owner of the Law Gap Tract. The general partners made no effort to verify the accuracy of this report. We question whether anyone seriously contemplating a coal mining venture such as this would rely solely on a reserve report prepared four years earlier for another party to the transaction. It should also have been apparent that Gaddy's purported "revision" of the report in 1976 was nothing more than a cosmetic retyping. If Cumberland were seriously interested in a profitable coal mining operation, it would seem that a more thorough inspection of the property would have been undertaken in order to assure that no further mining had been conducted during the four year interval. As it turned out, the Low Gap Tract had been mined to a much greater extent than Gaddy's report indicated, and he subsequently revised 1984 Tax Ct. Memo LEXIS 186">253 his estimate of reserves downwards by three million tons. Gaddy's report was merely an estimate of the recoverable coal reserves on the Low Gap Tract. It did not address the economic feasibility of mining coal from the various seams. The number of tons of recoverable reserves is meaningless without a thorough study of the methods that would be required to mine the coal, the costs of such mining, and the prospects for selling the final product. As we observed in a prior case: Operating a coal mine profitably requires not only minable seams of coal but also miners and machinery to mine and remove the coal from the mine or the face, water and electricity, access roads to and from the entries, tipples and cleaning plants that are nearby and are capable of handling the coal, good roads or railroads from the tipple or cleaning plant to the point of distribution, and customers who will buy the coal at a price that will yield a profit. It must also be recognized that there may be strikes, mine closings because of weather, safety hazards, or other reasons, and that there may be variations in the costs of mining and transporting the coal, and the selling price of coal. [Surloff v. Commissioner,81 T.C. 210">81 T.C. 235.] 1984 Tax Ct. Memo LEXIS 186">254 There is no evidence that the general partners prepared any study of the economic feasibility of mining coal from the Low Gap Tract. Rather, they based their projections of Cumberland's profitability on a series of assumptions derived from various agreements that lacked economic substance. As we have indicated, Gaddy's report on the coal reserves ultimately proved to be seriously deficient. His estimate of 6,613,000 tons included several seams that had been either wholly or partially mined. Respondent's expert, Hooper, estimated the recoverable reserves to be 3,355,000 tons. When adjusted to take into account the undisclosed exhaustion of the Upper Cedar Grove seam, Hooper's estimate falls to 2,490,000 tons. We do not attempt to resolve the differences between these reports, which are based on different assumptions regarding the thickness of the coal seams, the number of "coal acres" contained in each seam, and the percentage of coal that could be recovered by various mining methods. Although Gaddy appears to be a qualified mining engineer, the significant deficiencies in the report, as well as the manner in which the report was "revised" in 1976, weaken the credibility of his report 1984 Tax Ct. Memo LEXIS 186">255 and testimony. On the other hand, Hooper's report does not adequately explain the basis for certain assumptions, and he was unable to testify at trial. However, we think that the arguments over the "correct" estimate of coal reserves simply divert attention away from the more fundamental question of whether, regardless of the amount of recoverable reserves, Cumberland had any bona fide intention of mining and selling coal. Petitioner contends that it was reasonable to rely on Gaddy's report in 1976, and that the more than six million tons of coal reserves estimated to exist on the tract were more than sufficient to recoup the advance royalty at a selling price of $23 per ton. 60 According to petitioner, this satisfies the "requirement" of Rev. Rul. 74-214, that the coal reserves must be "substantially in excess" of the amount required to recoup the advance royalty. Once again, we think this argument strays from the relevant line of inquiry. We have already indicated that this entire venture appears to have been planned to capitalize on an apparently erroneous interpretation in Rev. Rul. 74-214 of the old regulation governing the deduction of advanced royalties. We think Gaddy's 1984 Tax Ct. Memo LEXIS 186">256 report on the coal reserves was accepted, without any further inquiries by the general partners (or Pomerance), precisely because it meshed so well with the paper facade designed to create the appearance of a bona fide mining venture. The significant issue is not the amount of reserves that may have existed on the Low Gap Tract, but whether Cumberland had the intention and capability to create a profitable mining operation. It does not require too much analysis to come to the conclusion that there was little substance to any of these agreements. It is not clear how the projected $23 per ton sales price for the coal was derived. The testimony was inconsistent on this point; Hayes testified that it was determined by Gaddy and Pomerance's law firm, while the Private Offering Memorandum indicates that this price was confirmed by Black Rock Sales. It was not explained why a New York law firm specializing in tax shelters would be competent to render an opinion on the price of coal in Mingo County, although this explanation of the origin of the sales 1984 Tax Ct. Memo LEXIS 186">257 price is consistent with Pomerance's apparent control over the terms of the various agreements. The important fact regarding the projected sale of coal, however, is that neither Cumberland, Pomerance or Black Rock Sales ever obtained an output contract for the production from the mine. 61 This is not ordinarily a step to be overlooked in planning a coal mining operation. See Surloff,81 T.C. 210">81 T.C. 235. There is no evidence that B-Rock mining, which was apparently formed contemporaneously with the agreements herein, was anything more than a paper corporation designed to add a veneer of economic reality to Cumberland. 62 There is no reference in the record to any employees of B-Rock, other than Thompson, Spirer and Wolford. Thompson and Spirer also controlled Black Rock and Black Rock Sales. Although petitioner introduced into evidence photographs of mining equipment, there is no evidence other than Gaddy's evasive testimony that this equipment was owned by B-Rock.Gaddy, in fact, contradicted Koppel's assertion that all of the photographs 1984 Tax Ct. Memo LEXIS 186">258 were taken at the Alma site. There is also no evidence that B-Rock was sufficiently capitalized to conduct mining. 63 Most significantly, however, neither Thompson or Spirer -- who purportedly were in charge of the mining operation and presumably would have the most knowledge of the salient facts surrounding the venture -- testified at trial. Petitioner relies almost entirely on the testimony of Gaddy, who conceded that he never managed the operation and in fact never entered the mine. Black Rock Sales, on which Cumberland purportedly relied, pursuant to the Coal Brokerage Agreement, to arrange the sale of its coal, was an equally evanescent 1984 Tax Ct. Memo LEXIS 186">259 entity. Of it we are told, in the Private Offering Memorandum, only that it was a newly formed partnership and that neither of its principals had any experience in the brokerage of coal. In their haste to finalize the various agreements prior to the end of the year, the parties neglected to fill in the blank in the Coal Brokerage Agreement which was reserved for the percentage commission that Black Rock Sales was to earn in this capacity. A similar oversight was the fact that the production levels specified in the Mine Operating Agreement did not match those specified in the Crescent-Cumberland sublease.Such inattention to important details permeated virtually all of the agreements, and is indicative of the unbusinesslike and hurried fashion in which they were executed. See Fox v. Commissioner,80 T.C. 972">80 T.C. 1012. Another indication that Cumberland lacked a bona fide profit objective is the fact that it was seriously undercapitalized. See Surloff v. Commissioner,81 T.C. 210">81 T.C. 235, 237. After paying the advance royalty and organizational expenses, the partnership retained only $40,300 as working capital. Obviously, if B-Rock failed to meet its obligations under the Mine Operating Agreement, 1984 Tax Ct. Memo LEXIS 186">260 Cumberland itself was in no position to undertake mining. This risk was noted in the Private Placement Memorandum. Petitioner attempts to dismiss this problem by noting that B-Rock was required by the agreement to maintain working capital of $200,000. Aside from the circularity of this reasoning, there is no evidence, as we have discussed, that B-Rock was so capitalized or in fact had any substance beyond the Mine Operating Agreement. There is also no evidence concerning the disposition of the $1,200,000 paid to Black Rock as the cash portion of the advance royalty. Of the $775,000 retained by Crescent, most was used for the Payment of finder's fees to investment advisors, legal fees to Pomerance's law firm, Federal income taxes, and compensation and expense reimbursements to Buchanan, Hayes, Koppel and Pritzker. None of those funds were used to finance the coal mining. The most telling evidence of the actual prospects for the coal mining is that only about 14,000 tons of coal were mined from the Alma seam before operations were terminated and the equipment was moved from the site. None of this coal was sold. We are not persuaded by petitioner's argument that, but for unanticipated 1984 Tax Ct. Memo LEXIS 186">261 events such as floods and miners' strikes, the mining would have been successful. This appears to be a convenient way to circumvent the fact that none of the parties to these transactions seriously contemplated the full scale mining of coal. Moreover, any reasonable plan to mine coal would anticipate such difficulties, which appear to be normal risks associated with coal ventures. 64As we have indicated in prior cases, the existence of large nonrecourse notes in circumstances where it is unlikely that the notes will be paid is itself an indication that the primary objective of the partnership was to provide tax deductions rather than earn an economic profit. Surloff v. Commissioner,81 T.C. 210">81 T.C. 237-235; Flowers v. Commissioner,80 T.C. 914">80 T.C. 937. The nonrecourse notes used to "pay" the advance royalties under these subleases clearly had no economic substance, and were used solely to accelerate and inflate the deductions of the limited partners.651984 Tax Ct. Memo LEXIS 186">263 Surloff v. Commissioner,81 T.C. 210">81 T.C. 237-238. As our discussion above indicates, these lumpsum advance royalties bear little resemblance to the annual minimum royalty provisions 1984 Tax Ct. Memo LEXIS 186">262 which serve a legitimate business purpose in bona fide mineral-leasing transactions. Our observation in a prior case is pertinent to these transactions: It would have been foolhardy for any lessee to actually obligate itself, in advance of even any preparation to mine, to pay a tonnage royalty on every ton of coal that the consultants estimated might be mined from the property. It is obvious that the only purpose for the advanced royalty notes was to support a deduction for advanced royalties paid or accrued for tax purposes. Nothing was ever paid on the notes and it was not intended in reality that anything would be paid on them. The tonnage royalties would have been the source of any payments for the coal mined, not the notes. No interest was paid on the notes. The notes were window dressing, and were not payments of royalties. [Surloff v. Commissioner,81 T.C. 210">81 T.C. 237-238] In summary, we think it is clear that these various agreements were nothing more than a paper facade, and that the general partners had no intention of ever conducting a profitable coal mining operation. While the parties went to great lengths to form various entities and link them together with a chain of agreements creating the appearance of bona fide transactions, there is little substance 1984 Tax Ct. Memo LEXIS 186">264 beneath the surface. No one seriously analyzed the validity of the various assumptions regarding levels of production, mining costs, and sales price of coal, upon which the financial projections were based. The multitude of "risk factors" ominously outlined in the Private Placement Memorandum seem to have been ignored in preparing the optimistic forecasts of profitability. See Flowers v. Commissioner,80 T.C. 914">80 T.C. 936. We cannot accept the general partners' purported reliance on newly created entities such as B-Rock and Black Rock Sales as a substitute for a bona fide effort to mine coal. "At some point, naivete becomes a purposeful refusal to analyse the facts, perhaps due to the expectation that the tax benefits, alone, will justify the investment." Flowers v. Commissioner,80 T.C. 914">80 T.C. 940. We find little in this venture to justify the allowance of any deduction under section 162. Having concluded that the partnership was not engaged in the activity with the requisite profit objective, we need not consider the alternative grounds for the disallowance of these deductions.Accordingly, Decision will be entered for the respondent.Footnotes1. Pamela Tallal is not a party to this proceeding as a result of this Court's ruling that the notice of deficiency was not timely mailed to her. Tallal v. Commissioner,77 T.C. 1291">77 T.C. 1291↩ (1981).2. This date was stipulated by the parties as the date of petitioner's entry into Cumberland. However, the amendment to the partnership agreement reflecting the admission of the new limited partners is dated December 27, 1976. Petitioner's check for $30,000 payable to The Cumberland Group was dated "11-28-76."↩3. Wagner withdraw from the partnership on December 27, 1976, at which time the certificate of limited partnership was amended to reflect the addition of new limited partners, including petitioner.↩4. Buchanan is also one of the attorneys representing the petitioner in this proceeding.↩5. In the Private Placement Memorandum describing Cumberland, Buchanan is identified as the general partner in a limited partnership owning rights to a movie entitled "Seven Beauties." Hayes is described as having been "engaged in finance and tax plainning since 1970."↩6. The Cotiga-Black Rock lease described the coal property as a 404 acre tract. However, both reports of the parties' expert witnesses, as well as the Private Placement Memorandum of Cumberland, describe the tract as 464 acres. There is no explanation for this discrepancy. The record as a whole indicates that 464 is the correct figure. ↩7. Although incorporated in Delaware, Cotiga apparently was operated out of Pennsylvania.↩8. For each ton of coal removed by deep-mining methods Black Rock was required to pay Cotiga the greater of 7 percent of the net selling price of the coal F.O.B. the mine or $ .50 per ton; for strip-mining, the greater of eight percent or $ .75 per ton; and for auger-mining, the greater of nine percent or $ .75 per ton.↩9. On October 28, 1976, the Lease was amended to include in this sublease provision a specific reference to The Cumberland Group.↩10. Hayes testified that he was not told specifically what the IRS was expected to announce. On October 29, 1976 the IRS announced proposed regulations under sec. 612 which would prevent the deduction of certain lump-sum advanced royalties unless the mineral product with respect to which the royalty was paid was actually sold during the taxable year. News Release IR-1687, October 29, 1976. Final regulations were adopted in December, 1977, retroactive (with certain exceptions) to October 29, 1976. Sec. 1.612-3(b)(3), Income Tax Regs, as amended by T.D. 7523, 1978-1 C.B. 192. See P. 43. infra.↩11. This is the terminology used in the agreement. The same terminology was used in the sublease agreement between Crescent and Cumberland, infra. By using this terminology, we do not imply any legal conclusion as to the treatment of these items under sec. 1.612-3(b)(3), Income Tax Regs↩, or any other provision of the Code.12. The same Notary Public notarized the amendment of the lease between Black Rock and Cotiga, dated October 28, 1976, which was signed by Thompson for both Black Rock and Cotiga. ↩13. he signature line on the document incorrectly identifies the lessee as "Crescent Mining Company" rather than "Crescent Coal Company." An illegible signature appears over the handwritten title "atty in fact."↩14. There is no explanation for the greater specificity of the Crescent-Cumberland sublease. The Cotiga-Black Rock lease and the Black Rock-Crescent sublease contained no reference to these specific coal seams. While on its face this appears to be a restriction on Cumberland's mining rights, the record as a whole indicates that these six seams comprise all of the coal reserves on the Low Gap Tract, and that Cumberland received all of the coal rights that Crescent received from Black Rock.↩15. The provision of the agreement concerning the payment of the advanced royalty was worded in the future tense. The agreement reads in pertinent part: 2. Consideration for Sublease* * * (b) [Cumberland] will be obligated, upon execution of this Sublease, to pay [Crescent] an advanced or minimum royalty of $4,975,000. . .↩16. The sublease stated that the Original Sublease between Crescent and Black Rock was "annexed hereto and made a part hereof." However, both agreements are dated October 28, 1976 and were executed in different states (California and Pennsylvania).↩17. The coal rights comprised the bulk of Cumberland's assets; after payment of the cash portion of the advance royalty and organization expenses, the partnership retained only $40,300 in cash as operating capital. The record does not support petitioner's contention that under the mining agreement, infra,↩ it received an "equity interest" in $700,000 worth of mining equipment.18. The original 1972 report was the report referred to in the sublease provision entitled "Conditions Precedent to Consummation of Sublease," supra.↩19. B-Rock Mining Company should not be confused with Black Rock Coal Company, the original sublessor, which was also controlled by Thompson and Spirer. However, it is not clear that the separate identities of these affiliated entities were strictly observed. Petitioner's brief implies that the cash received by Black Rock from the royalty under the original sublease may have been intended in part to finance B-Rock's mining activities.20. This is less than the level of production specified in section 3(a) of the Sublease, supra.↩ The production rates required by the Sublease would produce 90,000 tons in 1978, 230,000 tons in 1979, and 240,000 tons in 1980.21. There is no reference in the record to any "original" private placement memorandum. ↩22. Petitioner was allowed to purchase a 3/5 share for his $30,000 capital contribution. ↩22. No such opinion of the law firm was submitted into evidence.↩24. The section of the prospectus concerning the income tax aspects of the venture contained a more detailed discussion of the treatment of the advanced royalty.↩25. The production rates and the direct mining costs ($14.25 per ton) were taken from the Mine Operating Agreement. The projection also allowed one dollar per ton each for "contingent mining cost," general and accounting expenses, and general partner's fee. Interest on the promissory note was also included. It is not completely clear how the sales price of $23 per ton was derived. Hayes testified that this was determined by consulting with Gaddy and the New York law firm, but the prospectus states that Black Rock Sales advised Cumberland that this was a competitive price. Gaddy testified that the sales price in Mingo County at that time was from $25-29 per ton on a shipped-ton basis. 26. This figure is derived as follows: The capital (cash) contribution of $2,000,000 produces a tax deduction (due to the note) of $4,975,000, which yields $2,412,500 of cash to the limited partners (assuming a 50 percent tax rate). (The "cash flow" produced by the deduction is less than 50 percent of $4,975,000 because part of the losses were allocated to the general partners). ↩27. These projections were based on coal production of 80,000 tons in 1977, 175,000 tons in 1978, and 200,000 tons in 1979 and each year thereafter, and a constant $23 per ton sales price. The projection also assumed that the mining agreement with B-Rock would be extended, on the same terms, beyond its three year term.↩28. The time at which distributions to the limited partners equals their capital contribution.↩29. Pacific Associates also contributed $50,000 for one unit of Cumberland as a limited partner.↩30. Under the Mine Operating Agreement, B-Rock was required to maintain working capital of $200,000. It is not clear whether it was so capitalized. The Private Offering Memorandum states that Crescent agreed to make loans of up to $200,000 to Cumberland, but there is no provision to this effect in the Sublease agreement.↩31. Black Rock Sales purported to be an entity separate from Black Rock Coal Company and B-Rock Mining Company, also controlled by Thompson and Spirer. It is not clear when Black Rock Sales was organized. The Private Placement Memorandum described it as "newly formed" with "no previous experience in the brokerage of coal." 32. The space reserved for the percentage figure was left blank in the agreement.↩33. Hayes testified that he received $10,000 in travel reimbursements and $12,000 compensation, and that Crescent spent a total of $40,000 in fees to the officers and $30,000 for expense reimbursements. Koppel testified he received no payments from Crescent in 1976, 1977 or 1978. The Private Offering Memorandum estimated that Crescent would incur approximately $75,000 in expense reimbursements. ↩34. Some of these funds may have been used to pay legal expenses incurred in 1980 or 1981 when Cumberland sued various parties connected with the coal venture.↩35. Petitioner introduced into evidence photographs of mining equipment, purportedly taken at the Alma mine opening. The equipment pictured was not installed or positioned so as to conduct mining. Gaddy testified that some of the photographs could not have been taken at the Alma opening, based on the width of the coal seam. He identified others that were taken at the Alma mine. Koppel testified that the photographs were taken at the Alma site in 1978. ↩36. Gaddy's testimony was somewhat evasive on this point. When asked whether Thompson told him that he owned the equipment, he replied "That is my understanding of our conversation."↩37. It does not appear that any coal was ever sold by Cumberland. On its partnership returns for 1976-1980, Cumberland reported only minor amounts of interest income.↩38. The original report was actually written by Howard Egan, an employee of Gaddy.↩39. Gaddy did not manage the mining of the Alma seam. He was unaware of how much coal was actually mined, as he had not been in the mine or seen any production records. ↩40. This is somewhat inconsistent with Gaddy's testimony that the equipment he saw at the mine was capable of producing 18,000 tons per month on a two-shift basis.↩41. Gaddy testified that mining techniques developed after the report was prepared made certain mountaintop coal seams more easily mineable, with a higher recovery percentage.42. It appears that the additional mining was discovered in 1978, when Gaddy obtained certain mining maps which he had not seen when he prepared the original report. It is not clear when Gaddy revised his estimates.↩43. Hooper was unable to testify during the proceeding. Petitioner's counsel was afforded an opportunity to cross examine Hooper at a later time, but declined to do so. ↩44. Hooper's report refers to the "Bee Rock," rather than the "B-Rock," mine. The photographs of the Alma mine site also show a sign above the mine opening displaying the words "Bee Rock" above a picture of what appears to be a bumble bee. There is no explanation for this discrepancy.45. An "interval" is the distance between two seams of coal.Hooper stated that an interval of fifteen feet was insufficient to allow mining of both seams. Gaddy testified that intervals of eight feet have been mined in Mingo County.↩x. Thousands of tons. ↩y. Determined to be too thin to mine. ↩z. Coalburg "A" and Lower Coalburg seams. Gaddy's report did not distinguish among any separate seams in the Coalburg bed.↩46. This conclusion is based on Hooper's estimate of 925,000 tons of recoverable reserves in the Alma seam. ↩47. Gaddy testified that his report was not an economic study of the feasibility of mining coal on the Low Gap Tract. ↩48. Gaddy testified that "we had some general discussions about eventually mining some of the upper seams."↩49. Hayes testified that Cumberland was advised to "sue everyone" because of potential problems with the statute of limitations. The suit against the law firm alleged misrepresentation and conflict of interest. Hayes could not remember the charges against Gaddy, but said it might have involved a "discrepancy" in the report.50. All section references are to the Internal Revenue Code of 1954, as amended, and in effect in 1976. ↩51. After the trial in this case was concluded, respondent filed a motion requesting that we sever, for the purposes of briefing and decision, the issue of whether sec. 1.612-3(b)(3), Income Tax Regs, as amended by T.D. 7523, 1978-1 C.B. 192↩, applies to prevent the deduction in 1976 of the advance royalty. We denied respondent's motion.52. Section 612 and the regulations promulgated pursuant thereto generally concern the basis for which cost depletion is allowed for various economic interests in minerals in place. However, sec. 1.612-3(b) (prior to the 1977 amendment) and sec. 1.612-3(b)(3) (as amended by T.D. 7523, 1978-1 C.B. 192↩) also provide rules concerning the deduction of advance royalties.53. We note that the author of this article, Martin Pomerance, was the attorney primarily responsible for structuring the transactions herein.↩54. IR-1687 provided in pertinent part: Under the proposed amendment, the treatment of advanced royalties would be revised, effective October 29, 1976, unless the advanced royalties are required to be paid pursuant to a mineral lease which (i) was binding prior to that date upon the party who in fact pays or accrues such royalties, or (ii) was required, pursuant to a written contract, to be executed by the party who in fact pays or accrues such royalties, provided that such party establishes, to the satisfaction of the Secretary or his delegate, that under all the facts and circumstances the contract was binding upon such party prior to that date. For purposes of clause (ii) above, a contract will in no event be considered to be binding upon such party if the obligations imposed on such party prior to October 29, 1976 were not substantial or were illusory. 55. The hurried manner in which the sublease agreements were executed is evident from several facts: None of the principals of Crescent appear to have executed the Original Sublease; both the Sublease and the Original Sublease were dated October 28, and were executed separately in Pennsylvania and California, even though the Sublease purportedly annexed a copy of the Original Sublease; the Original Sublease incorrectly refers to "Crescent Mining Company" rather than "Crescent Coal Company; and the royalty provisions initially included in the Original Sublease were inconsistent with those in the Lease, thus requiring a later amendment. Furthermore, although Hayes and Koppel represented themselves as the persons responsible for locating the coal property and negotiating the agreements, it appears that neither met Thompson, a principal in Cotiga and Black Rock, prior to the time the agreements were executed. It is reasonable to infer from these facts and the record as a whole that most of the "negotiations" probably occurred between Pomerance, Thompson and Spirer, who had had prior business dealings, and that Pacific Associates relied entirely on Pomerance to structure the transactions and draft the agreements, with a view towards making the best possible case for a deduction of the advance royalties. Hayes, in fact, conceded that the terms of the sublease agreements were determined primarily by Pomerance, which confirms the inference that no meaningful negotiations between the parties to the agreements occurred.56. The relevant portion of the final regulation, sec. 1.612-3(b)(3), reads as follows: * * * (3) The payor shall treat the advanced royalties paid or accrued in connection with mineral property as deductions from gross income for the year the mineral product, in respect of which the advanced royalties were paid or accrued, is sold. . . However, in the case of advanced mineral royalties paid or accrued in connection with mineral property as a result of a minimum royalty provision, the payor, at his option, may instead treat the advanced royalties as deductions from gross income for the year in which the advanced royalties are paid or accrued. . . For the purposes of this paragraph, a minimum royalty provision requires that a substantially uniform amount of royalties be paid at least annually either over the life of the lease or for a period of 20 years, in the absence of mineral production requiring payment of aggregate royalties in a greater amount. * * *57. Sub nom. Krasta v. Commissioner,Hook v. Commissioner,Rosenblatt v. Commissioner,Leffel v. Commissioner, and Zemel v. Commissioner.↩58. See note 55, supra.↩59. Both the Black Rock-Crescent sublease and the Crescent-Cumberland sublease were dated Oct. 28, and executed in Pennsylvania and California, respectively.↩60. Petitioner also argues that even using Hooper's lower estimate of 3,355,000 tons, the coal reserves are sufficient to recoup the royalty.↩61. We note that the original Mine Operating Agreement provided for delivery to a U.S. steel plant in Thacker. This provision was later stricken.↩62. There appears to be some confusion about the correct name of this corporation; it is referred to in documents as "B-Rock", but photographs from the mining site reveal a sign labelled "Bee Rock". See note 44, supra.↩63. Petitioners imply on brief that the royalty payment to Black Rock was intended to finance the mining operations, but the relationship between these entities was never clarified. Contrary to petitioner's contention on brief, there is no provision in the Mine Operating Agreement requiring B-Rock to invest $700,000 in mining equipment.↩64. These risks were discussed in the Private Placement Memorandum.↩65. A separate issue in this case is whether the $3,000,000 nonrecourse note paid by Cumberland to Crescent should be recognized for tax purposes. Respondent makes several arguments on this issue. Because we have found that the partnership did not engage in the coal mining with a bona fide profit objective, we do not specifically address this issue. We observe, however, that these issues are interrelated; the absence of a bona fide business purpose for this note contributes to our finding that Cumberland lacked the requisite profit objective. Were we to separately address the issue, we doubt that we would recognize this note as a bona fide liability of the partnership, given its highly speculative or contingent nature. See CRC Corp. v. Commissioner,693 F.2d 281">693 F.2d 281 (3d Cir. 1982), revg. and remanding on other grounds Brountas v. Commissioner,73 T.C. 491">73 T.C. 491 (1979); Brountas v. Commissioner,692 F.2d 152">692 F.2d 152, 692 F.2d 152">157 (1st Cir. 1982), vacating and remanding on other grounds 73 T.C. 491">73 T.C. 491 (1979); Gibson Products Co. v. United States,637 F.2d 1041">637 F.2d 1041 (5th Cir. 1981); Fox v. Commissioner,80 T.C. 972">80 T.C. 972, 80 T.C. 972">1020-1022↩ (1983).	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621811/	Liant Record, Inc. v. Commissioner. William I. Alpert and Paula G. Alpert v. Commissioner. Abraham Alpert and Sarah Alpert v. Commissioner. Jack L. Alpert v. Commissioner.Liant Record, Inc. v. CommissionerDocket Nos. 72955, 83431-83433.United States Tax CourtT.C. Memo 1963-53; 1963 Tax Ct. Memo LEXIS 292; 22 T.C.M. 203; T.C.M. (RIA) 63053; February 21, 1963Bernard J. Long, Esq., and A. J. Schiffer, Esq., 570 Seventh Ave., New York 18, N. Y. for the petitioners. Gerald Robinson, Esq., for the respondent. ATKINSMemorandum Findings of Fact and Opinion ATKINS, Judge: This proceeding is before us on mandate from the United States Court of Appeals for the Second Circuit, issued pursuant to that court's opinion in Liant Record, Inc. v. Commissioner, 303 F.2d 326. In Liant Record, Inc., 36 T.C. 224">36 T.C. 224, we held that three residential apartment buildings purchased by the petitioners with the proceeds from the compulsary or involuntary conversion of an office building owned by them did not constitute "property similar or related in service or ure to the property so converted" within the meaning of section 1033(a)(3)(A) of the Internal Revenue Code1963 Tax Ct. Memo LEXIS 292">293 of 1954, and that the gain of the petitioners upon the disposition of the office building was to be recognized in the taxable year 1955. We concluded that a "functional test" was to be applied in determining whether the property converted was replaced by property "similar or related in service or use," irrespective of the fact that the taxpayer itself did not use either the converted property or the replacement property, but held both properties for investment. The court of appeals rejected the use of the "functional test" as improper in this case, stating that there is a "single test to be applied to both users and investors, i.e., a comparison of the services or uses of the original and replacement properties to the taxpayer-owner." It further stated that "In applying such a test to a lessor, a court must compare, inter alia, the extent and type of the lessor's management activity, the amount and kind of services rendered by him to the tenants, and the nature of his business risks connected with the properties." The court of appeals, therefore, reversed and remanded the case for further consideration in accordance with its opinion. Pursuant to the mandate and a joint motion of1963 Tax Ct. Memo LEXIS 292">294 the parties, a rehearing was had before this Court for the purpose of taking additional evidence on the issue. Based upon the evidence presented at the rehearing we make the following: Supplemental Findings of Fact The office building at 1819 Broadway which was taken over by New York City under condemnation proceedings had been managed by William A. White & Sons, 1 an independent management firm engaged by the petitioners, under the supervision of the petitioner Jack Alpert. The White firm maintained local employees or agents in the building for the purpose of collecting rent, authorizing minor repairs costing less than $300, and keeping lists of prospective tenants. The three apartment buildings which were purchased in replacement of the office building were managed by employees of the petitioners under the supervision of Jack Alpert. The petitioners maintained local employees at each of the1963 Tax Ct. Memo LEXIS 292">295 apartment buildings, including a superintendent at each building, porters at two buildings and a doorman at one building. The superintendent of each building collected rents, authorized minor repairs and kept lists of prospective tenants. The leases for both the office building and the apartment buildings were generally for a period of two years and were all approved by Jack Alpert or someone designated by him. The petitioners used standard form leases, although the language of the leases for the office building differed somewhat from that of the leases for the apartment buildings. Office suites and other commercial space in the office building were rented unfurnished. The apartments and commercial space in the three apartment buildings were also rented unfurnished, except for three apartments in one of the buildings which were already furnished at the time of acquisition by the petitioners. The rental space in the office building differed for each floor, and some tenants rented entire floors. The rental space in the apartment buildings was the same for each floor. The petitioners made physical changes or alterations to the suites in all buildings at the request of tenants, although1963 Tax Ct. Memo LEXIS 292">296 in general changes were made more frequently in the office building than in the apartment buildings. The office building had public toilet facilities on each floor, while each of the apartment buildings had one public toilet in the laundry room. The apartments were provided with refrigerators, gas stoves, sinks and bathroom facilities which were maintained, not including cleaning, by the petitioners. The office building did not contain similar facilities, although a few office suites contained sinks. The lobbies of the apartment buildings were furnished, while the office building lobby had nothing but a few benches. The petitioners had performed cleaning services in the office building in both the rented space and in the public areas. This consisted of the daily emptying of waste paper baskets, dusting the furniture, and cleaning the floors when necessary, and washing windows when necessary. The petitioners did no cleaning in the apartment buildings except in the public areas. The petitioners were responsible for painting, decorating and repairing the exterior and interior in both the office building and the apartment buildings, and all such buildings had maintenance crews. The1963 Tax Ct. Memo LEXIS 292">297 petitioners supplied all of the buildings with elevator service, including a starter in the office building during rush hours; hot and cold water; and gas lines and electrical wiring and fixtures. In all cases the tenants were responsible for payment of lighting bills in the rented areas. Neither the office building nor any of the apartment buildings was equipped with central air conditioning. The office building and the apartment buildings were all located in good areas of the Borough of Manhattan in New York City. They were all subject to the New York state rent control law, and vacancies in each building were negligible. Tax rates were the same for each building, the same insurance coverage was available and was obtained for each building, and the same conventional financing was available for each building without personal liability on the part of the owners. Ultimate Finding of Fact There were no substantial differences in the management activities of the petitioners, in the services rendered by them to tenants or in the business risks involved with respect to the apartment buildings as compared with the office building. Opinion It is to be noted that section 1033(a)(3)(A)1963 Tax Ct. Memo LEXIS 292">298 of the Code 2 does not require that the replacement property be identical in service or use to the original property, but that it be "similar or related" in service or use. Accordingly, we construe the opinion of the court of appeals as meaning that the apartment buildings here involved are to be considered as "similar or related in service of use" to the office building unless there was substantial difference between, inter alis, the extent and type of the petitioners' management activity, the amount and kind of services rendered by them to tenants, or the nature of their business risks with respect to the apartment buildings, as compared with the office building. 1963 Tax Ct. Memo LEXIS 292">299 The respondent contends that the burden of proof in these respects was upon the petitioners; that they have failed to show that there were not substantial differences; that, rather, the evidence shows that there were substantial differences; that the petitioners in reality became owner-operators of the apartment buildings whereas they were owner-investors with respect to the office building; and that therefore the petitioners' relationship to the replacement properties differed substantially from their relationship to the original property. We have set forth in some detail in the above Supplemental Findings of Fact the differences and similarities in the petitioners' management activity, the services rendered by them to tenants, and their business risks with respect to the apartment buildings as compared with the office building. We have concluded, and have found as an ultimate fact, that the differences in these respects are not substantial. Cf. The Clifton Investment Company v. Commissioner, (C.A. 6) 312 F.2d 719 (February 2, 1963), affg. 36 T.C. 569">36 T.C. 569, in which the court concluded that what the replacement property there involved (a hotel) demanded1963 Tax Ct. Memo LEXIS 292">300 of the taxpayer in the way of management, services, and relations to tenants, as compared with the replaced property (an office building), varied materially. The respondent makes much of the fact that the petitioners had engaged a firm of real estate managing agents to manage the office building, whereas they undertook to manage the apartment buildings themselves, through their employees. However, we do not consider this of cotrolling significance. The important thing is that there were no substantial differences in the management activity and the kind and amount of services for which the petitioners were responsible. Performance of management activities and rendition of services through a managing agent is not essentially different from the execution of those functions through employees. It may be added that Jack Alpert, on behalf of all the petitioners, exercised considerable supervision over both the original and the replacement properties, and with respect to all properties either he or someone designated by him approved all leases. We see no essential difference between the business risks with respect to the original property and the replacement properties. Both the office1963 Tax Ct. Memo LEXIS 292">301 building and the apartment buildings were in good areas in the same borough in New York City, both were subject to the state rent control law, and similar financing and insurance coverage were available with respect to all of the properties. Jack Alpert testified that both the original and the replacement properties were sound and prudent investments involving equal risk of loss of rental income, and there is nothing in the record to indicate otherwise. He testified that vacancies were negligible in all the properties. It is accordingly our conclusion that, under the test laid down by the court of appeals, the apartment buildings which were purchased were "similar or related in service or use" to the office building which was converted. Since the total amounts realized by each of the petitioners upon the conversion of the office building did not exceed the cost of his interest in the apartment buildings, section 1033(a)(3)(A) of the Code precludes recognition of the gain derived by the petitioners upon the conversion of the office building. Decisions will be entered under Rule 50. Footnotes1. This firm managed both commercial buildings and residential apartment buildings. It maintained different leasing departments for different types of buildings; some of its employees handled only commercial properties while some handled both commercial and residential properties.↩2. Sec. 1033. (a) General Rule. - If property (as a result of its destruction in whole or in part, theft seizure, or requisition or condemnation or threat or imminence thereof) is compulsotily or involuntarily converted - * (3) Conversion Into Money Where Disposition Occurred After 1950. - Into money or into property not similar or related in service or use to the converted property, and the disposition of the converted property (as defined in paragraph (2)) occurred after December 31, 1950, the gain (if any) shall be recognized except to the extent hereinafter provided in this paragraph: (A) Nonrecognition of Gain. - If the taxpayer during the period specified in subparagraph (B), for the purpose of replacing the property so converted, purchases other property similar or related in service or use to the property so converted, or purchases stock in the acquisition of control of a corporation owning such other property, at the election of the taxpayer the gain shall be recognized only to the extent that the amount realized upon such conversion (regardless of whether such amount is received in one or more taxable years) exceeds the cost of such other property or such stock. * *↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621813/	Curtis B. Woodson and Estate of Fern R. Woodson, Deceased, Curtis B. Woodson, Independent Executor, Petitioner v. Commissioner of Internal Revenue, RespondentWoodson v. CommissionerDocket No. 646-79United States Tax Court73 T.C. 779; 1980 U.S. Tax Ct. LEXIS 194; February 5, 1980, Filed 1980 U.S. Tax Ct. LEXIS 194">194 Decision will be entered under Rule 155. In 1974, petitioner received a net lump-sum distribution of $ 25,485.98 from a profit-sharing trust. On June 30, 1975, respondent retroactively revoked the trust's exempt status effective Apr. 1, 1973. Held, portion of distribution attributable to contributions made in years trust exempt, entitled to capital gain treatment under sec. 401(a)(2), I.R.C. 1954; portion attributable to contributions made when trust nonexempt, taxable as ordinary income, sec. 402(b). Greenwald v. Commissioner, 366 F.2d 538">366 F.2d 538 (2d Cir. 1966), revg. in part 44 T.C. 137">44 T.C. 137 (1965), followed. Curtis B. Woodson, pro se.David W. Johnson, for the respondent. Sterrett, Judge. Chabot, J., dissenting. Tannenwald and Simpson, JJ., agree with this dissenting opinion. STERRETT73 T.C. 779">779 OPINIONIn a notice of deficiency dated October 6, 1978, respondent determined a deficiency in the income taxes paid by petitioners for their taxable years ended December 31, 1970 and 1971, in the amounts of $ 512.34 and $ 6,491.60, respectively. After concessions, the only remaining issue for our decision is whether that part of the net distribution, which was received from a profit-sharing trust not qualified or exempt under sections 401(a) and 501(a), I.R.C. 1954, that is attributable to contributions made to the trust in years when it was qualified, should be taxed as ordinary income1980 U.S. Tax Ct. LEXIS 194">199 or as long-term capital gain.This case was submitted under Rule 122, Tax Court Rules of Practice and Procedure. Hence, all of the facts have been stipulated and are so found.Curtis B. Woodson resided in Corpus Christi, Tex., at the time the petition was filed herein. Curtis B. Woodson and Fern R. Woodson (petitioners) were husband and wife until the death of Fern R. Woodson on November 3, 1971. Curtis B. Woodson was appointed independent executor of the Estate of Fern R. Woodson, deceased. Petitioners filed their joint Federal income tax return for 1971 with the Director, Internal Revenue Service Center, Austin, Tex.Curtis B. Woodson and Edna Woodson, married in 1973, filed joint income tax returns for 1973 and 1974 with the Director, 73 T.C. 779">780 Internal Revenue Service Center, Austin, Tex. On or about May 6, 1974, Curtis B. Woodson filed an application for tentative refund (Form 1045) claiming a refund of $ 33.01 for taxable year 1971 based on the carryback of unused investment credit in that amount from taxable year 1973.On or about March 3, 1975, Curtis B. Woodson filed an application for tentative refund (Form 1045), claiming a refund of $ 41,388.96 for taxable year 19711980 U.S. Tax Ct. LEXIS 194">200 based on claimed operating loss carryback from 1974 to taxable year 1971. On or about May 22, 1974, and March 13, 1975, petitioners received refunds of their 1971 taxes in the amounts of $ 33.01 and $ 41,388.96, respectively, for a total tentative allowance of $ 41,421.97 for the 1971 taxable year.In 1974, Curtis B. and Edna Woodson received a net lump-sum distribution from the profit-sharing trust of Gibson Products Co. of Corpus Christi, Inc., in the amount of $ 25,485.98 (total distribution of $ 30,052.81 less employees' contributions of $ 4,566.83). This distribution represented their entire interest in the trust.Gibson Products Co. of Corpus Christi, Inc. (hereinafter Gibson Products), a small business corporation, was incorporated in April 1961 and had a fiscal year ending March 31. Curtis B. Woodson was president of the corporation during all years relevant to this case. The corporation was liquidated as of December 27, 1974. As of that date, the shareholders were as follows:Curtis B. Woodson226 sharesEstate of Fern R. Woodson, deceased283 sharesCurtis B. Woodson as custodian forDavid Woodson56 sharesDavid Woodson is petitioners' son.The corporation1980 U.S. Tax Ct. LEXIS 194">201 had a profit-sharing trust from 1966 until September 9, 1974, when the trust was terminated. Curtis B. Woodson and Edna Woodson were each members of the profit-sharing trust. The profit-sharing trust was qualified under section 401(a) from 1966 until April 1, 1973, the effective date of the revocation of its exempt status by respondent. Petitioners do not contest the revocation of its exempt status. The revocation letter, dated July 30, 1975, from the Office of the District Director of Internal Revenue, Austin, Tex., to Gibson Products 73 T.C. 779">781 stated in part: "In view of the fact that benefits were forfeited on partial termination of the plan and funds were diverted to purposes other than for the exclusive benefit of the participants, our determination letters referred to above are hereby revoked, effective April 1, 1973."Of the net distribution of $ 25,485.98 received by petitioners, $ 2,643.39 was attributable to contributions to the trust made during the period of time following the loss of its exempt status until its termination on September 9, 1974.In 1974, Curtis B. and Edna Woodson received a net lump-sum distribution from the Gibson Products Co. profit-sharing trust1980 U.S. Tax Ct. LEXIS 194">202 of $ 25,485.98, which represented their entire interest in the trust. The only issue before the Court is whether any part of the distribution was from a qualified trust. The tax stakes are clear. If the distribution is deemed from a qualified trust exempt from tax under sections 401(a) and 501(a), I.R.C. 1954, then section 402(a)(2)11980 U.S. Tax Ct. LEXIS 194">203 allows petitioners to characterize the income as long-term capital gain. That part of the distribution which is from a nonqualified trust is controlled by section 402(b)2 which treats it as ordinary income.1980 U.S. Tax Ct. LEXIS 194">204 73 T.C. 779">782 Petitioners concede that the part of the distribution which represents contribution to the trust following the loss of its exempt status ($ 2,643.39) is a distribution from a nonqualified plan and is ordinary income. Petitioners, citing the Second Circuit's decision in Greenwald v. Commissioner, 366 F.2d 538">366 F.2d 538 (2d Cir. 1966), revg. in part 44 T.C. 137">44 T.C. 137 (1965), argue that, although the $ 2,643.39 should be taxed as ordinary income in 1974, the remaining $ 22,842.59 of the net distribution should be treated as a distribution from a qualified plan and therefore taxed as long-term capital gain. 31980 U.S. Tax Ct. LEXIS 194">205 Respondent argues that, since the plan and its related trusts were nonexempt in the year of distribution, this Court's decisions in 366 F.2d 538">Greenwald v. Commissioner, supra, and Epstein v. Commissioner, 70 T.C. 439">70 T.C. 439 (1978), require the distribution be taxed as ordinary income under section 402(b). In Greenwald v. Commissioner, we found that the profit-sharing plan in issue was not exempt at the time the distribution was made in 1959 and held that the entire distribution was taxable as ordinary income pursuant to section 402(b). On appeal, the Court of Appeals for the Second Circuit agreed that the plan was nonexempt, but reversed in part the decision of this Court and held that the distribution attributable to contributions made to the plan during the time it was qualified under section 401(a) was taxable as capital gain under section 402(a)(2).The possibility of taxing the trust distribution partly as capital gain and partly as ordinary income was not argued in this Court by the parties in Greenwald. Only on appeal, and then only in supplemental briefs submitted at the behest of the Court of Appeals, was that result1980 U.S. Tax Ct. LEXIS 194">206 considered. In that sense, we face that issue for the first time. 4Who did what, is obviously a relevant question in determining whether a plan has lost its exempt status. It is not a relevant question, in consideration of the issue, whether a distribution 73 T.C. 779">783 must be taxed as all ordinary income or part ordinary income and part capital gain, since the distribution should be taxed the same whether the recipient is the one who caused the disqualification by some misfeasance or is an innocent lower-echelon employee.Section 402(a) is entitled "Taxability of Beneficiary of Exempt Trust" and provides in paragraph (1) thereof that an amount actually distributed from an exempt trust shall be taxable to the distributee "in the year in which so distributed or made available, under section 72." Paragraph (2) goes on to provide that any total or lump-sum distribution1980 U.S. Tax Ct. LEXIS 194">207 within 1 year, under circumstances satisfied herein, shall be treated as capital gain. Absent the foregoing provision, the recipient would be compelled to take the entire distribution, resulting from perhaps years' accumulations, into income in 1 year, thereby distorting his tax liability viewed from the perspective of the years over which the income was in reality earned. This is so because the employer's contributions were exempt from tax to the beneficiary at the time made, and hence, the beneficiary never earned a basis in his account which he could offset against a subsequent distribution.Section 402(b), on the other hand, is entitled "Taxability of Beneficiary of Nonexempt Trust" and again provides that the amount distributed "shall be taxable to him in the year in which so distributed or made available, under section 72." This subsection is the natural corollary to section 402(a), but it is written in the context of the normal situation where an individual is taxed on income made available to him. Thus, the employer's contributions to a nonexempt trust are taxed currently to the "beneficiary." The "beneficiary" is therefore building up a basis in his account which is available1980 U.S. Tax Ct. LEXIS 194">208 to him to offset against any lump-sum distribution, thereby eliminating any distortion of taxable income even viewed from the perspective of the years over which the money was paid in.Subsections (a) and (b) are internally consistent, each dealing with a different set of circumstances. Each is premised on the concept that it is the act of distribution that triggers a tax. Yet, in characterizing the distribution, as ordinary income or capital gain, one must relate the distribution to the set of circumstances which caused its creation. Any other interpretation would be much too narrow and would aid in frustrating Congress's 73 T.C. 779">784 avowed purpose to make it possible for taxpayers to prepare for their own retirement. 51980 U.S. Tax Ct. LEXIS 194">209 At issue here is a lump-sum distribution which is the result largely of contributions to an exempt trust but is also attributable in a stipulated amount to contributions to a trust nonexempt at the time of distribution as a result of the retroactive revocation of the exemption. Respondent would have us characterize the entire distribution, without regard to the tax status of the trust at the time of the contributions that formed the basis for the distribution, in terms of the trust's status at the later date. We do not consider it a happenstance that the trust was nonexempt at the time. We cannot conceive of respondent accepting, even in principle, the argument that the gain on any distribution from an exempt, but formerly nonexempt, trust is entitled to capital gain treatment.We refuse to take an all-or-nothing approach. We have found no congressional mandate requiring such an approach. Absent such a mandate, we refuse to adopt a rule of law that would cause such inequities. The fact of the matter is that the largest portion of the amount at issue had its formation in contributions to an exempt trust, and it is no distortion to hold that therefore the stipulated portion of1980 U.S. Tax Ct. LEXIS 194">210 the distribution was made with respect to an exempt trust. The loss of an exemption should not convert existing qualified assets in an exempt trust to nonqualified assets in a nonexempt trust. To hold otherwise would create a rule of law that would penalize the innocent employee who had no say in the management of the trust and retroactively change the ground rules that he could fairly have anticipated would govern the taxability of payments to him.The subsections are in agreement that the act of distribution is the event triggering a tax. Admittedly, Congress did not explicitly take care of the situation where a distribution is from a trust which had occupied both an exempt and nonexempt status at differing times. We believe that the subsections can be "harmonized" by holding that the tax character of the distribution, as distinguished from the timing of the imposition of the 73 T.C. 779">785 tax, is determined by the status of the trust at the time the contribution is made to it by the employer.The second sentence of section 402(b) implies that Congress intended to prevent contributions, which were made to a nonexempt trust, from acquiring the benefits of an exempt trust at the time1980 U.S. Tax Ct. LEXIS 194">211 of distribution. Therefore, even if the nonexempt trust became a qualified trust in some later taxable year, the amount contributed in the earlier years would be taxable under section 402(b) as section 72 income in the year of distribution, an obviously appropriate result. However, and conversely, amounts contributed to a qualified trust should be treated as distributions from a qualified plan at the time of distribution.Our conclusion that, once actually contributed, assets should retain their qualified nature is supported by the longstanding treatment of excess contributions to qualified plans. Since 1961, the regulations under section 404 have provided that excess contributions made to a profit-sharing plan, for example, in or for a taxable year for which the trust is exempt, are deductible in a following tax year of the trust under the provisions of section 404(a)(3)(A) -- even if the trust is not exempt in those later year(s), or even if the trust had terminated. Sec. 1.404(a)-9(a), (b), and (e), Income Tax Regs. See also sec. 1.404(a)-3(a), -4(d), -6(b), and -13(a), Income Tax Regs. Royer's, Inc. v. United States, 265 F.2d 615">265 F.2d 615 (3d Cir. 1959).1980 U.S. Tax Ct. LEXIS 194">212 This approach is also analogous to that taken by the Commissioner in requalification of profit-sharing plans. Rev. Rul. 73-79, 1973-1 C.B. 194, discussed a profit-sharing plan that had been established prior to loss of its exemption. In the year following disqualification, the employer amended the plan to correct the defect. The Service ruled that the plan regained its exempt status as a result of the amendment. The ruling makes clear that nonqualified assets of the trust could remain in the trust after requalification. However, those assets would presumably be treated as employee contributions. 6 Therefore, the accounting thereof must be separate from the qualified assets.Respondent's approach, it would appear, is to segregate the qualified from nonqualified assets in the area of requalification. However, respondent would have us bunch together all the 1980 U.S. Tax Ct. LEXIS 194">213 73 T.C. 779">786 assets of a distribution from a plan which subsequently became disqualified. This position may be inconsistent. While we reserve any decision with respect to the treatment of trust assets following a requalification, we hold that the assets in a distribution from a previously qualified plan should be separated. That part of the net distribution attributable to contributions to the trust, made prior to its disqualification, should be treated as a distribution from a qualified trust exempt from tax under section 501(a).The retroactive revocation of the plan in the instant case was effective on April 1, 1973. Thus, the $ 22,842.59 attributable to contributions to the trust prior to that date should be treated as a distribution from a qualified trust and be entitled to capital gains treatment under section 402(a)(2). 7 The remaining part of the net distribution should be treated as a distribution from a nonexempt trust and taxed according to section 402(b).1980 U.S. Tax Ct. LEXIS 194">214 Respondent's position would entitle certain participants in the plan to capital gain treatment while others received ordinary income treatment based solely on the date they terminated employment. Further, the "bunching effect" of respondent's approach would result in assets being taxed which otherwise would not be subject to tax because of their previous qualified status. As the Second Circuit said in 366 F.2d 538">Greenwald v. Commissioner, supra, such a "harsh" and inequitable result is neither required by statute nor expressed in the legislative history. Based upon the foregoing discussion we have, upon reflection, concluded that despite the factual differences between the instant case and 70 T.C. 439">Epstein v. Commissioner, supra, our rationale herein requires the determination that the decision in Epstein was erroneous, and hence, we will no longer follow it.Decision will be entered under Rule 155. CHABOTChabot, J., dissenting: The majority herein lead us down a new path in providing lump-sum distribution treatment to 73 T.C. 779">787 distributions from nonqualified plans -- they bifurcate a single nonexempt trust into an exempt 1980 U.S. Tax Ct. LEXIS 194">215 portion and a nonexempt portion. This bifurcation conflicts with the language of the statute, finds no support in the legislative history, waters down the Internal Revenue Code's protections for rank-and-file employees, and creates complicated allocation problems. Respectfully, I refuse to join the majority on their lump-sum distribution trip.Section 402(b) (set forth in the majority opinion in n. 2 supra) provides that distributions from nonexempt trusts are to be treated under section 72, which generally provides ordinary income treatment. The parties agree that the trust that made the distributions in the instant case was not exempt at the time any of the distributions in issue herein were made. No other provision of the statute states an exception to, or modification of, section 402(b). The distributions herein should be taxed in accordance with the rules of section 402(b).Section 402(a)(2) (set forth in the majority opinion in n. 1 supra) provides that, if certain requirements are met, then a distribution may be taxed in accordance with special rules which would result in long-term capital gain treatment for the bulk of the distributions in the instant case. 1980 U.S. Tax Ct. LEXIS 194">216 One of the requirements stated in the statute is that the distributing trust is part of a qualified plan and is tax-exempt. The trust that made the distributions in the instant case was not part of a qualified plan and was not exempt when it made the distributions in issue herein. No other provision of the statute states an exception to, or modification of, this requirement that the distributing trust be exempt and be part of a qualified plan. The distributions herein should not be taxed in accordance with the rules of section 402(a)(2).In the long history of the lump-sum distribution provisions, 1 the Congress gave no indication, in the statute or the legislative history, that a distribution from a nonexempt trust might be allocated as between exempt periods and nonexempt periods. On the other hand, the Congress has provided time-allocation rules 73 T.C. 779">788 as to distributions from exempt trusts in both the Tax Reform Act of 1969 2 and the Employee Retirement Income Security Act of 1974. 3 If the Congress had intended a time-allocation rule on the point dealt with in the instant case, then the Congress could have enacted such a rule or in some other way indicated1980 U.S. Tax Ct. LEXIS 194">217 that such a rule was intended. The Congress has not done so. Neither the statute nor the legislative history allows us room to create such a rule merely because the majority herein believe it would be more "equitable."The majority herein create the concept of bifurcation of a single nonexempt trust into a qualified trust with "qualified assets" and a nonexempt trust with "nonqualified assets." This is avowedly a rule of broad application regardless of "who did what" (majority opinion at p. 782 supra), created because of the majority's view that otherwise the law "would penalize the innocent employee who had no say in the management of the trust" (majority opinion at p. 784 supra). With all due respect, I must conclude that the majority 1980 U.S. Tax Ct. LEXIS 194">218 are engaged in unauthorized revisionism. 4 They seek to weigh the probable effects of their view of what a properly drafted statute would have provided, against the probable effects of the statute that the Congress in fact enacted. In doing so, the majority proceed without the public hearings generally available to the Congress, without examination by another House or a committee of conference, and without examination by a President deciding whether to sign or veto a bill. The majority proceed without statistical or other analyses of effects.1980 U.S. Tax Ct. LEXIS 194">219 The majority ignore the fact that in every case that has come before us in which this issue has arisen at any stage (the instant case; Greenwald v. Commissioner, 366 F.2d 538">366 F.2d 538 (2d Cir. 1966), revg. in part 44 T.C. 137">44 T.C. 137 (1965); Epstein v. Commissioner, 70 T.C. 439">70 T.C. 439 (1978)), the petitioner-employee was a decision maker and not one of the rank and file that the majority herein seek to 73 T.C. 779">789 protect. They ignore the implications of the fact that in the instant case, the plan lost its qualified status because "benefits were forfeited on partial termination of the plan and funds were diverted to purposes other than for the exclusive benefit of the participants" (majority opinion at p. 781 supra). These acts by the plan's decision makers appear to be violations of section 401(a)(7)5 and the opening language of section 401(a), 61980 U.S. Tax Ct. LEXIS 194">221 legislation enacted to protect the rank and file. The majority herein ignore the fact that the lesson of their opinion is that a decision maker who wishes to enhance his own fortune as a plan participant 7 or as owner of the employer 8 can do so with no risk of substantial1980 U.S. Tax Ct. LEXIS 194">220 loss of tax benefits (i.e., the decision maker who happens to get caught, as in the instant case, can still withdraw from the plan most of his account as a tax-favored lump-sum distribution).The responsible employer will no doubt continue to adhere to the statute's requirements and the congressional concern for rank-and-file employees, but those who wish to divert as much as possible of their employees' plan assets from the rank and file will find that the majority's opinion affords them a valuable tool for tearing great holes in the protective scheme of sections 411(d)(3) (see n. 5 below) and 401(a). Indeed, the majority, by stressing the irrelevance of how the exemption may have been lost, and by specifically overruling Epstein (majority opinion at p. 786 supra), have pointed the way to great flexibility in so diverting assets. One need merely amend the plan to give the decision makers the necessary authority to make the diversion. The plan assets then may be withdrawn with only the minimal 73 T.C. 779">790 tax sanctions promised by the majority without 1980 U.S. Tax Ct. LEXIS 194">222 regard to "who did what." And all of this is done, the majority tell us, in the name of protecting the rank and file.The Congress has not been unmindful of the often-harsh effects of loss of exempt status. In the last decade, the Congress has explored methods of focusing sanctions more sharply and measuring them more appropriately to the violations. 91980 U.S. Tax Ct. LEXIS 194">223 As to employees' plans, the Congress took a number of steps along this line in the Employee Retirement Income Security Act of 1974. 10 Other attempts were made in the vesting area, 11 but the Congress -- after further considering the matter -- concluded that it had not yet found an appropriate solution and so left the sanction for insufficient vesting as loss of exempt status.The attempt of the majority herein to alleviate by fiat the alleged "harshness" and "inequity" of the statute (see majority opinion at p. 786 supra) may be as wide of the mark as the attempt portrayed in Gilbert and Sullivan's "Mikado" to "let the punishment fit the crime." See "The Complete Plays of Gilbert and Sullivan," at 382-384 (Random1980 U.S. Tax Ct. LEXIS 194">224 House, Inc.).The majority herein seek to supply an alleged omission in the statute, on the basis of no examination of alternatives, no opportunity for public comment, and no articulation of the method by which the time-allocation of assets is to be made. The majority state that they follow the Court of Appeals opinion in Greenwald. However, the Court of Appeals at least provided a workable method for making the allocation in a defined contribution plan. In Greenwald, the Court of Appeals allowed long-term capital gain treatment only to the amount in Mr. Greenwald's account as of the date the trust therein lost its 73 T.C. 779">791 exempt status. The balance of the distribution to Mr. Greenwald was given ordinary income treatment, without regard to whether this balance consisted of (a) subsequent employer contributions or (b) subsequent earnings on either (1) the previous balance or (2) the subsequent employer contributions. In the instant case, the majority appear to provide the favored tax treatment to some part of the earnings after the trust lost its exempt status. The majority offer no explanation for this deviation from the Greenwald rule nor guidance for the next1980 U.S. Tax Ct. LEXIS 194">225 case. The majority, not faced with a case involving a defined benefit plan, also have given us no clue as to how their universal rule is to allocate assets in the case of such a plan. Is it to be on the basis of the time of employer contributions? the value, as of the date of the loss of exempt status, of the benefits accrued as of that date? the date-of-distribution value of benefits accrued as of the date of loss of exempt status? True, it is not required that any one case present the world with a neatly phrased uniform field theory, but when the majority stress the universality of their approach, one might have expected them to provide some clues as to how they wish the job to be accomplished.The majority stress their concern that we must pay attention to the "melody" of the statute, in quoting Judge Learned Hand (majority opinion in n. 5 supra). Regrettably, the majority appear to have listened to the melody, not of the statute, but of a siren song, and they have done so without taking the precautions that Odysseus took. The wreckage created by this decision is apt to foul up the already-complicated lump-sum distribution area for a long time to come, putting rank-and-file1980 U.S. Tax Ct. LEXIS 194">226 employees' unvested benefits beyond the protection of the Internal Revenue Code. As in Odysseus' case, the master of the ship may gain the pleasure of hearing the sirens' song; however, many a deck hand will, I fear, find his or her retirement voyage wrecked on the rocks to which his or her employees' plan has been drawn by the majority herein. Footnotes1. SEC. 402. TAXABILITY OF BENEFICIARY OF EMPLOYEES' TRUST.(a) Taxability of Beneficiary of Exempt Trust. --* * * * (2) Capital gains treatment for portion of lump sum distribution. -- In the case of an employee trust described in section 401(a), which is exempt from tax under section 501(a), so much of the total taxable amount (as defined in subparagraph (D) of subsection (e)(4)) of a lump sum distribution as is equal to the product of such total taxable amount multiplied by a fraction -- (A) the numerator of which is the number of calendar years of active participation by the employee in such plan before January 1, 1974, and(B) the denominator of which is the number of calendar years of active participation by the employee in such plan,shall be treated as gain from the sale or exchange of a capital asset held for more than 6 months. For purposes of computing the fraction described in this paragraph and the fraction under subsection (e)(4)(E), the Secretary or his delegate may prescribe regulations under which plan years may be used in lieu of calendar years. For purposes of this paragraph, in the case of an individual who is an employee without regard to section 401(c)(1)↩, determination of whether or not any distribution is a lump sum distribution shall be made without regard to the requirement that an election be made under subsection (e)(4)(B), but no distribution to any taxpayer other than an individual, estate, or trust may be treated as a lump sum distribution under this paragraph.2. SEC. 402. TAXABILITY OF BENEFICIARY OF EMPLOYEES' TRUST.(b) Taxability of Beneficiary of Nonexempt Trust. -- Contributions to an employees' trust made by an employer during a taxable year of the employer which ends within or with a taxable year of the trust for which the trust is not exempt from tax under section 501(a)↩ shall be included in the gross income of the employee in accordance with section 83 (relating to property transferred in connection with performance of services), except that the value of the employee's interest in the trust shall be substituted for the fair market value of the property for purposes of applying such section. The amount actually distributed or made available to any distributee by any such trust shall be taxable to him in the year in which so distributed or made available, under section 72 (relating to annuities), except that distributions of income of such trust before the annuity starting date (as defined in section 72(c)(4)) shall be included in the gross income of the employee without regard to section 72(e)(1) (relating to amount not received as annuities). A beneficiary of any such trust shall not be considered the owner of any portion of such trust under subpart E of part I of subchapter J (relating to grantors and others treated as substantial owners).3. Pitt v. Commissioner, an unreported case ( M.D. Fla. 1975, 35 AFTR 2d 75-1492, 75-1 USTC par. 9472), also involved this same issue. In that case, the District Court, without elaboration, expressly followed the Second Circuit's rationale in Greenwald v. Commissioner, 366 F.2d 538">366 F.2d 538↩ (1966).4. In Epstein v. Commissioner, 70 T.C. 439">70 T.C. 439, 70 T.C. 439">444↩ (1978), we stated the question of law but resolved the matter on the facts.5. We are put in mind of Judge Learned Hand's statement in Helvering v. Gregory, "as the articulation of a statute increases, the room for interpretation must contract; but the meaning of a sentence may be more than that of the separate words, as a melody is more than the notes, and no degree of particularity can ever obviate recourse to the setting in which all appear, and which all collectively create." (69 F.2d 810">69 F.2d 810, 69 F.2d 810">811↩ (2d Cir. 1934).)6. See S. Simmons, "Dangers of Disqualification of Qualified Plans," 33 N.Y.U. Inst. on Fed. Tax. 507, 540 (1975)↩.7. Petitioners were "active" participants in a qualified plan up to Apr. 1, 1973. Therefore, in the instant case, the denominator in the apportionment fraction of 402(a)(2) is the same as the numerator.↩1. These provisions were first enacted in sec. 162(a) of the Revenue Act of 1942 (Pub. L. 77-753, 56 Stat. 862), which amended sec. 165 of the Internal Revenue Code of 1939↩.2. Sec. 515 of Pub. L. 91-172, 83 Stat. 643.↩3. Sec. 2005 of Pub. L. 93-406, 88 Stat. 987.↩4. See United States v. Rutherford, 442 U.S. 544">442 U.S. 544 (1979), where the Supreme Court, in a different context, noted that "Under our constitutional framework, federal courts do not sit as councils of revision, empowered to rewrite legislation in accord with their own conceptions of prudent public policy. See Anderson v. Wilson, 289 U.S. 20">289 U.S. 20, 289 U.S. 20">27 (1933). Only when a literal construction of a statute yields results so manifestly unreasonable that they could not fairly be attributed to congressional design will an exception to statutory language be judicially implied. See TVA v. Hill↩, 437 U.S. [153], at 187-188 [1978]."5. SEC. 401. QUALIFIED PENSION, PROFIT-SHARING, AND STOCK BONUS PLANS.(a) Requirements for Qualification. -- * * ** * * * (7) A trust shall not constitute a qualified trust under this section unless the plan of which such trust is a part provides that, upon its termination or upon complete discontinuance of contributions under the plan, the rights of all employees to benefits accrued to the date of such termination or discontinuance, to the extent then funded, or the amounts credited to the employees' accounts are nonforfeitable. * * *This provision was repealed by sec. 1016(a)(2)(C) of Pub. L. 93-406, 88 Stat. 929, but substantially the same language was placed by sec. 1012(a) of that act (88 Stat. 901, 912) into sec. 411(d)(3) of the Code.↩6. SEC. 401. QUALIFIED PENSION, PROFIT-SHARING, AND STOCK BONUS PLANS.(a) Requirements for Qualification. -- A trust created or organized in the United States and forming part of a stock bonus, pension, or profit-sharing plan of an employer for the exclusive benefit of his employees or their beneficiaries shall constitute a qualified trust under this section --↩7. By forfeitures allocated to fully vested decision makers, on the Tontine principle.↩8. By forfeitures in pension plans or by use of plan assets for the benefit of the employer rather than the benefit of the participants.↩9. In the Tax Reform Act of 1969, several excise taxes, some imposed on the person responsible for the violation, replaced the loss-of-exemption provisions of former secs. 503 and 504 in the case of private foundations. See H. Rept. 91-413 (Part 1) pp. 20-40, 1969-3 C.B. 200, 214-226; S. Rept. 91-552, pp. 28-56, 1969-3 C.B. 423, 442-460; H. Rept. 91-782 (Conf.) pp. 278-288, 1969-3 C.B. 644-651.In the Tax Reform Act of 1976, similar steps were taken with respect to the "excess lobbying" provisions that had been in the statute since 1934. See H. Rept. 94-1210, (to accompany H.R. 13500), pp. 7-8, 1976-3 C.B. (Vol. 3) 31, 37-38; S. Rept. 94-938 (Part 2) pp. 79-80, 1976-3 C.B. (Vol. 3) 643, 721-722; S. Rept. 94-1236 (Conf.) pp. 532-533, 1976-3 C.B. (Vol. 3) 807, 936-937.↩10. In particular, the Congress established separate taxes as to excess contributions to "H.R. 10 plans" (sec. 4972, replacing loss-of-exemption provisions of former sec. 401(d)(8)), and self-dealing (sec. 4975, replacing the loss-of-exemption provisions of former sec. 503). Also, the Congress established separate taxes as to underfunding (sec. 4971), replacing provisions in Treasury regulations (sec. 1.401-6(c)(2), Income Tax Regs.↩) that treated underfunding as a discontinuance of the plan.11. See sec. 241(a) of the Senate amendment to H.R. 2, which became the Employee Retirement Income Security Act of 1974. That section of the Senate amendment would have added a new sec. 4973 to the Code entitled "Taxes on Failure To Meet Minimum Vesting Standards."↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621815/	H. P. HERMANCE ET AL., PETITIONERS, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT. 1Hermance v. CommissionerDocket No. 11192.United States Board of Tax Appeals11 B.T.A. 420; 1928 BTA LEXIS 3808; April 6, 1928, Promulgated 1928 BTA LEXIS 3808">3808 John E. McClure, Esq., for the petitioners. M. N. Fisher, Esq., for the respondent. ARUNDELL11 B.T.A. 420">420 ARUNDELL: The Commissioner has determined deficiencies in income taxes for the year 1919 against H. P. Hermance and twenty-eight other individuals. The asserted deficiencies represent the tax as computed by the Commissioner on the profits claimed by him to have been realized on a transaction incident to the reorganization of the Coca Cola Co. of Georgia in the year 1919. A similar question was before the Board in the case of , and the parties hereto have stipulated that the record made in that case be considered as the record in the instant proceedings. Both sides are dissatisfied with some parts of the Board's decision in the 11 B.T.A. 420">421 Woodruff case and both agree with some parts of it. We have again carefully considered the record as made in the Woodruff case and adopt and incorporate herein as our findings of fact in the instant proceedings the findings of fact as determined by the Board in the former case, which findings are set forth in full in 1928 BTA LEXIS 3808">3809 . We have also made a further study of the questions raised by the parties with particular consideration being given to those portions of our former decision with which the parties are dissatisfied. We find no reason to depart from the conclusion heretofore reached by the Board in the companion case and are of the opinion that the several deficiencies herein asserted should be recomputed on the basis set forth in the Woodruff decision. At the trial of this cause the Commissioner was, on motion made, permitted to amend his answers in the cases of H. P. Hermance and Elizabeth H. Harris so as to claim an additional tax on the profits growing out of the transaction by asserting the normal tax as well as the surtax. Judgment will be entered on 15 days' notice, under Rule 50.Footnotes1. The following proceedings were consolidated for hearing, involve the same question, and are decided herewith: Appeals of Elizabeth H. Harris, No. 11820; Lucile W. Swift, No. 18516; George C. Woodruff, No. 18518; Mrs. E. W. Bates, No. 18611; Chas. A. Wickersham, No. 18612; J. J. Goodrum, Jr., No. 18613; Brooks Morgan, No. 18614; Thomas P. Hinman, No. 18615; Mrs. Frances W. Walters, No. 18616; E. A. Bancker, Jr., No. 18617; C. R. Winship, No. 18618; James W. Woodruff, No. 18619; Winship Nunnally, No. 18620; John N. Goddard, No. 18621; Chas. A. Davis, No. 18622; John K. Ottley, No. 18623; Mrs. Victoria D. Seals, No. 18624; Oscar Davis, No. 18625; Wm. R. Prescott, No. 18626; J. H. Nunnally, No. 18627; Mrs. Mary M. Stoney, No. 18628; Dr. Wm. S. Elkin, No. 18629; Mrs. Elizabeth T. Winship, No. 18630; J. J. Kuhn, No. 18631; Wm. C. Warren, No. 18632; E. Bates Block, No. 18792; E. Bates Block, Executor of Estate of Frank E. Block, No. 18793; J. E. Hickey, No. 19107. ↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621818/	RICHARD C. BROWN AND JOAN C. BROWN, ET AL, 1 Petitioners, v. COMMISSIONER OF INTERNAL REVENUE, Respondent Brown v. CommissionerDocket Nos. 10262-76, 10263-76, 10264-76, 10265-76, 10266-76, 10267-76, 10268-76.United States Tax CourtT.C. Memo 1980-267; 1980 Tax Ct. Memo LEXIS 318; 40 T.C.M. 725; T.C.M. (RIA) 80267; July 22, 1980, Filed Donald A. Cable and Mark A. Golding, for the petitioners. Kenneth W. McWade, for the respondent. GOFFEMEMORANDUM FINDINGS OF FACT AND OPINION GOFFE, Judge: The Commissioner, in his statutory notices of deficiency, determined the following1980 Tax Ct. Memo LEXIS 318">320 deficiencies in Federal income tax against petitioners: DocketTaxableDeficiencyNo.PetitionerYearin Tax10262-76Richard C. & Joan C. Brown1973$ 466.4110263-76Wesley N. & Alberta Y. Tefft19731,898.6110264-76William W. & Mary M. Henshaw19731,887.1310265-76William H. & Wendy S. Jordanh1973546.3010266-76Cyril M. & Phyllis A. Frol19725,377.4019731,993.3910267-76Einar & Geraldine Henriksen19733,102.0010268-76Henry W. & Dorothy E. Anderson19731,710.03Petitioners have conceded the correctness of several of the adjustments made by the Commissioner, and the correctness of the remainder of such adjustments hinges on our decision of the sole remaining issue.We must determine whether certain liabilities may be treated by petitioners as part of their shares of the liabilities of a limited partnership, thus increasing their adjusted bases in the limited partnership so that they may deduct losses generated by such partnership. FINDINGS OF FACT Some of the facts have been stipulated. The stipulation of facts and the exhibits attached thereto are incorporated herein by this reference. Petitioners1980 Tax Ct. Memo LEXIS 318">321 Richard C. Brown (hereinafter Brown) and Joan C. Brown filed a joint Federal income tax return for the taxable year 1973 with the Internal Revenue Service Center, Ogden, Utah. They resided in Seattle, Washington, when they filed their petition in this proceeding. Petitioners Wesley N. Tefft (hereinafter Tefft) and Alberta Y. Tefft filed a joint Federal income tax return for the taxable year 1973 wih the Internal Revenue Service Center, Ogden, Utah. They resided in Bellevue, Washington, when they filed their petition in this proceeding. Petitioners William W. Henshaw (hereinafter Henshaw) and Mary M. Henshaw filed a joint Federal income tax return for the taxable year 1973 with the Internal Revenue Service Center, Ogden, Utah. They resided in Bainbridge, Washington, when they filed their petition in this proceeding. Petitioners William H. Jordan (hereinafter Jordan) and Wendy S. Jordan filed a joint Federal income tax return for the taxable year 1973 with the Internal Revenue Service Center, Ogden, Utah. They resided in Seattle, Washington, when they filed their petition in this proceeding. Petitioners Cyril M. Frol (hereinafter Frol) and Phyllis A. Frol filed joint1980 Tax Ct. Memo LEXIS 318">322 Federal income tax returns for the taxable years 1972 and 1973 with the Internal Revenue Service Center, Ogden, Utah. They resided in Seattle, Washington, when they filed their petition in this proceeding. Petitioners Einar Henriksen (hereinafter Henriksen) and Geraldine Henriksen filed a joint Federal income tax return for the taxable year 1973 with the Internal Revenue Service Center, Ogden, Utah. They resided in Seattle, Washington, when they filed their petition in this proceeding. Petitioners Henry W. Anderson (hereinafter Anderson) and Dorothy E. Anderson filed a joint Federal income tax return for the taxable year 1973 with the Internal Revenue Service Center, Ogden, Utah. They resided in Seattle, Washington, when they filed their petition in this proceeding. Joan C. Brown, Alberta Y. Tefft, Mary M. Henshaw, Wendy S. Jordan, Phyllis A. Frol, Geraldine Henriksen, and Dorothy E. Anderson are parties to this action solely because they filed joint returns with their petitioner-husbands for the relevant taxable years.Therefore, the term "petitioners" will hereinafter refer to Brown, Tefft, Henshaw, Jordan, Frol, Henriksen, and Anderson. On November 7, 1969, a corporation, 1980 Tax Ct. Memo LEXIS 318">323 Nuwestern American, Inc. (hereinafter Nuwestern), was organized under the laws of the State of Washington. At all relevant times, the common stock of Nuwestern, which was its only class of authorized stock, was held by these stockholders in the following percentages: StockholderPercentageBrown25%Jordan25%Frol25%Patrick R. Jeppeson25%Frol was at all relevant times the president of Nuwestern. On September 25, 1970, River Park Associates (hereinafter River Park), a Washington limited partnership, was formed by the execution and filing of an appropriate certificate of limited partnership on that date. Nuwestern was and is the sole general partner of River Park. River Park filed its United States Partnership Return of Income, Form 1065, on a calendar year basis. Under the terms of the limited partnership agreement, the net profits are to be shared and the losses are to be borne by all the partners, both general and limited, in direct proportion to the number of units in the partnership held by each partner. However, no limited partner can be required to contribute any cash or property to the partnership in excess of his initial contribution thereto. 1980 Tax Ct. Memo LEXIS 318">324 The initial contribution of the partners resulted in the issuance to them of the following number of units in River Park: General PartnerNuwestern8 unitsLimited PartnersBrown23 unitsFrol23 unitsJordan23 unitsPatrick R. Jeppesen23 unitsOn September 28, 1970, the limited partnership agreement of River Park was amended to allow the addition of more limited partners and the sale of partnership units to the new and old limited partners. Pursuant to Washington law, an amended certificate of limited partnership was filed on that date to reflect the addition of the new limited partners. After the new partners were admitted and the additional units were distributed, all of the issued units in River Park were held as follows: PercentageGeneral PartnerUnitsOwnershipNuwestern84Limited PartnersBrown35-1/217.75Frol35-1/217.75Jordan35-1/217.75Patrick R. Jeppesen35-1/217.75Anderson105Tefft105Myron A. Bass105Henshaw105Henriksen105On the partnership information returns filed by River Park for its taxable years 1972 and 1973, income and loss of the partnership was allocated1980 Tax Ct. Memo LEXIS 318">325 thusly: Profit and Loss-SharingGeneral PartnerPercentageNuwestern4Limited PartnersBrown11-1/2Frol14-1/4Jordan 111-1/2Patrick R. Jeppesen11-3/4Anderson5Tefft10Myron A. Bass10Henshaw5Henriksen12David F. Purnell5On December 29, 1969, Nuwestern purchased a piece of undeveloped real property (hereinafter the property) in Spokane, Washington, for $75,000. Though Nuwestern assumed a liability in the amount of $33,288 as part of the consideration paid for the property, the treatment of that liability is not an issue in this case. On September 1, 1970, a mortgage and mortgage note for $1,193,500 were executed by Nuwestern in favor of Commerce Mortgage Company (hereinafter Commerce) for purposes of financing the construction of an apartment complex (the River Park Apartments) on the property. Commerce drafted the loan documents. Neither the mortgage note nor the mortgage securing such note (hereinafter referred to in the aggregate as the Commerce loan) 1980 Tax Ct. Memo LEXIS 318">326 contained any language limiting Nuwestern's liability for payment of the principal and interest due under the note.The payment of the Commerce loan was guaranteed by the United States Department of Housing and Urban Development, Federal Housing Administration (FHA). In conjunction with the FHA guarantee, Nuwestern executed a Regulatory Agreement for Multi-Family Housing Projects (the regulatory agreement) which contained these two pertinent provisions: 1. Owners [Nuwestern], except as limited by paragraph 17 hereof, assume and agree to make promptly all payments due under the note and mortgage [the Commerce loan]. * 17. The following owners: NONEdo not assume personal liability for payments due under the note and mortgage, or for the payments to the reserve for replacements, or for matters not under their control, provided that said owners shall remain liable under this Agreement only with respect to the matters hereinafter stated; namely: (a) for funds or property of the property coming into their hands which, by the provisions thereof, they are not entitled to retain; and (b) for their own acts and deeds or acts and deeds of others which they have1980 Tax Ct. Memo LEXIS 318">327 authorized in violation of the provisions hereof. The regulatory agreement, the mortgage note and the mortgage were all executed on September 1, 1970, by Frol on behalf of Nuwestern. The regulatory agreement was incorporated by reference into the mortgage. All of the parties to the Commerce loan intended it to be a non-recourse loan. On September 25, 1970, when River Park was formed, Nuwestern received 8 of the River Park's partnership units in exchange for the property. Nuwestern transferred the property to River Park, and River Park assumed the liability to which the property was then subject, by dint of the following provisions of the Limited Partnership Agreement of River Park: 6. Contribution of General Partner.The General Partner shall contribute to the partnership the land legally described on page 1 of this Agreement, but shall retain its legal title to that property, holding the same in trust for the exclusive benefit of this Limited Partnership and said property shall be transferred only pursuant to the business interests of, or for the benefit of, the Limited Partnership. That property shall be contributed subject to all presently outstanding encumbrances1980 Tax Ct. Memo LEXIS 318">328 which the Limited Partnership hereby assumes and agrees to pay according to their terms. * 14.Assumption of Encumbrances by Limited Partnership.The limited Partnership, but not the Limited Partners individually, shall assume and become liable for any construction financing and permanent financing in order to build the apartments. Mortgage payments shall be met from the general funds of the partnership. The Limited Partnership Agreement of River Park was executed by Frol (both in his capacity as president of the general partner of River Park, Nuwestern, and in his individual capacity as a limited partner), Jordan, Brown, and Patrick R. Jeppeson. During the construction of the apartment complex, River Park experienced a cost overrun of approximately $200,000. The partnership sought and obtained financing from various sources to cover the cost of the overrun. In 1971, Brown, Frol and Jordan negotiated with Puget Sound National Bank (hereinafter Puget Sound) for the issuance to River Park of two letters of credit in favor of Commerce in the total amount of $50,477. The letters of credit were issued to Nuwestern, which was acting as an agent of River Park. 1980 Tax Ct. Memo LEXIS 318">329 The letters of credit, or more specifically, any indebtedness that might arise upon a draft or drafts by Commerce against such letters of credit, were guaranteed by Frol, Brown, Jordan, and Patrick A. Jeppesen. Prior to December 2, 1972, Commerce executed drafts against these letters of credit for the full $50,477 amount. As a result of such drafts, on December 7, 1972, Nuwestern executed a recourse promissory note in favor of Puget Sound in that amount, which note was guaranteed by Frol, Brown, Jordan, and Patrick R. Jeppesen. In executing this note (hereinafter the Puget Sound Loan), Nuwestern was acting in its capacity as River Park's general partner. Crossroads, Inc. (hereinafter Crossroads) is a Washington corporation owned 20 percent each by Frol, Brown, Jordan, Patrick R. Jeppesen, and Leo Seiwerath. Frol was at all relevant times the president of Crossroads. River Park borrowed the following amounts on the following dates from Crossroads: Loan AmountLoan Date$15,000.0011/2/7222,176.6512/14/721,725.009/12/73These three loans will hereinafter be referred to in the aggregate as the Crossroads loans. On April 1, 1973, Nuwestern lent1980 Tax Ct. Memo LEXIS 318">330 $11,391.78 to River Park. This loan will be hereinafter referred to as the Nuwestern loan. The Crossroads loan of November 2, 1972, was drafted with Nuwestern as the nominal obligor. However, Nuwestern was merely acting in its capacity as River Park's general partner. All four of these loans were evidenced by non-interest-bearing demand promissory notes, all of which were personally guaranteed by Brown, Frol, and Jordan. River Park had the following items of income and deduction for its taxable years 1972 and 1973: Item19721973Net Rental Income (Loss)($77,667.73)($90,986.96)Interest Income94.53Concession Income449.53726.42NET PARTNERSHIP INCOME (LOSS)($77,218.20)($90,166.01)Petitioners, as partners of River Park, deducted their distributive shares of such partnership losses on their Federal income tax returns for 1972 and 1973. 2 Since the deduction of a partner's distributive share of a partnership loss is limited to the amount of his adjusted basis in the partnership, petitioners were forced to calculate their respective bases in River Park. They calculated their bases on the assumption that the liabilities attributable1980 Tax Ct. Memo LEXIS 318">331 to the Commerce loan, the Puget Sound loan, the three Crossroads loans, and the Nuwestern loan provided them with sufficient bases in their partnership interests to absorb all of their respective distributive shares of River Park's losses for taxable years 1972 and 1973. Respondent disagrees with the petitioners' conclusions regarding the liabilities mentioned, and reduced their bases in their partnership interests accordingly. Since the petitioners' partnership bases, as reduced by respondent, cannot absorb all of the partnership losses deducted by the petitioners, respondent determined deficiencies in their Federal income taxes as set forth above. OPINION On December 29, 1969, Nuwestern, a Washington corporation owned equally by Brown, Frol, Jordan and Patrick R. Jeppesen, purchased some undeveloped real estate upon which an apartment complex was to be constructed. On September 1, 1970, Nuwestern obtained a construction loan from Commerce in the amount of $1,193,500, which loan was secured by the property previously acquired. Though the Commerce loan documents undeniably create a recourse liability, the parties to the loan, including the1980 Tax Ct. Memo LEXIS 318">332 FHA (which guaranteed the loan's payment), intended to create a non-recourse liability. On September 25, 1970, River Park, a Washington limited partnership, was formed by Nuwestern, who became River Park's sole general partner, and the four stockholders of Nuwestern, who became limited partners in the partnership. River Park is the investment entity which actually undertook the construction of the apartments. Nuwestern purchased 8 percent of the partnership's units (profits and losses were to be allocated in proportion to the number of partnership units owned by each partner) by transferring the property to the partnership, along with its accompanying liability, the Commerce loan. River Park specifically assumed payment of the Commerce loan upon its contribution to the partnership. Because of cost overruns experienced during the construction of the apartment complex, River Park sought additional financing. In 1971, it obtained letters of credit from Puget Sound in favor of Commerce. Drafts against these letters of credit resulted in the execution by Nuwestern on December 7, 1972, of a recourse promissory note in favor of Puget Sound in the amount of $50,447, which note was1980 Tax Ct. Memo LEXIS 318">333 guaranteed by Frol, Brown, Jordan, and Patrick R. Jeppesen. Crossroads, a Washington corporation owned equally by Frol, Brown, Jordan, Patrick R. Jeppesen, and Leo Seiwerath, lent the following amounts to the partnership on these dates: Loan AmountLoan Date$15,000.0011/2/7222,176.6512/14/721,725.009/12/73Nuwestern was the nominal obligor on the November 2, 1972, Crossroads loan, but River Park signed the notes evidencing the other two Crossroads loans. On April 1, 1973, Nuwestern lent $11,391.78 to River Park. The three Crossroads loans, as well as the Nuwestern loan, were personally guaranteed by Frol, Brown, and Jordan. All four loans were evidenced by non-interest-bearing, demand promissory notes. River Park had net losses of $77,218.20 and $90,166.01 in taxable years 1972 and 1973, respectively. The petitioners may deduct their distributive shares of these losses in their taxable years 1972 and 1973, respectively, only to the extent of their respective adjusted bases in River Park on December 31 of each of the two taxable years in question. Secs. 702, 704(d), and 706(a), I.R.C. 1954. 3 We must determine what effect, if any, the various1980 Tax Ct. Memo LEXIS 318">334 loans described above had on the adjusted partnership bases of the petitioners. Section 704(d), as in effect for the taxable years in issue, 4 limits the deduction of a partner's distributive share of the partnership's loss to the amount of the partner's adjusted basis in his partnership interest at the end of the partnership year in which such loss occurred. The general rules for determining a partner's basis in his partnership interest are found in sections 705, 722, and 742. In addition, section 752 provides special rules for determining a partner's basis where there is an increase or decrease in the partner's share of the partnership's liabilities. 5 As here relevant, section 752(a) provides that any increase in a partner's share of the liabilities of a partnership shall be considered as a contribution of money by such partner to the partnership. Since, under sections 705 and 722, contributions of money by a partner to a partnership result in a corresponding increase in that partner's basis in the partnership, the treatment prescribed by section 752(a) results in an increase in a partner's1980 Tax Ct. Memo LEXIS 318">335 basis to the extent of the increase in his share of the partnership's liabilities. 1980 Tax Ct. Memo LEXIS 318">336 The question that arises is this: What constitutes "a partner's share of the liabilities of a partnership"? Though Congress has not addressed this issue directly, the Secretary of the Treasury has issued the following regulation which definitively answers this question: SEC. 1.752-1(e). Partner's share of partnership liabilities. A partner's share of partnership liabilities shall be determined in accordance with his ratio for sharing losses under the partnership agreement. In the case of a limited partnership, a limited partner's share of partnership liabilities shall not exceed the difference between his actual contribution credited to him by the partnership and the total contribution which he is obligated to make under the limited partnership agreement. However, where none of the partners have any personal liability with respect to a partnership liability (as in the case of a mortgage on real estate acquired by the partnership without the assumption by the partnership or any of the partners of any liability on the mortgage), when all partners, including limited partners, shall be considered as sharing such liability under section 752(c) in the same proportion as they share1980 Tax Ct. Memo LEXIS 318">337 the profits. * * * A leading commentator has provided an excellent explanation as to why non-recourse liabilities of limited partnerships are allocated according to profit-sharing ratios when all other liabilities are allocated according to the loss-sharing ratios of the partners: The sharing rules for recourse liabilities reflect the manner in which the partners will share responsibility for payment of the liability if it is not satisfied by the partnership. In effect, each partner is permitted to increase the basis of his partnership interest by the portion of the liability which he is contingently liable for if the partnership fails. The sharing rules with respect to nonrecourse liabilities necessarily are based on different considerations, since there is no possibility that the partners may be called upon to satisfy such liabilities. By allocating nonrecourse liabilities to all partners in accordance with their profit-sharing ratios, the Regulations recognize that the liability will be satisfied only out of profits or assets of the partnership and that no partner, regardless of his status as a general or limited partner, has any personal responsibility for the debt. * * 1980 Tax Ct. Memo LEXIS 318">338 [McKee, Nelson, and Whitmire, Federal Taxation of Partnerships and Partners, par. 8.01[1], p. 8-4 (1977); footnote omitted.] It is undisputed that we are dealing with liabilities incurred in the context of a limited, as opposed to a general, partnership. The controversy arises, with regard to the Commerce loan, because the parties disagree about whether such loan was a recourse or a non-recourse loan. Neither party attempts to characterize the Puget Sound loan, the three Crossroads loans, or the Nuwestern loan as non-recourse loans. However, the petitioners who guaranteed those loans believe that those loans provide them with basis increases, either because their guarantees constituted an obligation under the limited partnership agreement to make further contributions, or because the loans were actually made to those petitioners who, in turn, contributed the loan proceeds to the partnership, which contribution should entitle them to increases in their adjusted partnership bases under section 722.These are the main issues which we must now address. Commerce LoanRespondent concedes on brief that the Commerce loan was a partnership liability on the relevant dates of1980 Tax Ct. Memo LEXIS 318">339 December 31, 1972, and December 31, 1973. However, he does not concede, nor do we find, that the Commerce loan was incurred as a partnership liability. Petitioners argue that Nuwestern (the obligor on the Commerce loan) was acting as River Park's agent when it incurred that liability. We disagree. A person can act as an agent of a partnership only when he has actual or apparent authority to do so. WASH. REV. CODE ANN. sec. 25.04.090. There can be no agent without a principal, and there can be no partner without a partnership. Nuwestern incurred the Commerce loan on September 1, 1970, more than three weeks before River Park was formed on September 25, 1970. Therefore, at the outset, the Commerce loan was a liability of Nuwestern, not in its capacity as a general partner, but in its own capacity. Though the Commerce loan was a Nuwestern liability at the outset, then Nuwestern transferred to River Park the property to which such liability was subject in exchange for the 8 partnership units which Nuwestern received upon the formation of River Park, the Commerce loan became a liability of the partnership. Sec. 752(c). Therefore, since September 25, 1970, the1980 Tax Ct. Memo LEXIS 318">340 Commerce loan has been a liability of the limited partnership, River Park. Next we must decide whether the Commerce loan was a recourse liability when initially incurred by Nuwestern. The relevant loan documents contain no language that would indicate that the liability was non-recourse. However, several factors convince us that such drafting evidences a scrivenor's error inasmuch as those factors lead us to a finding that all of the parties to the Commerce loan intended it to be, and thought that it was, a non-recourse liability. The only language in the loan documents that speaks to a limitation on Nuwestern's liability is found in paragraphs 1 and 17 of the FHA Regulatory Agreement for Multi-Family Housing Projects, which was incorporated into the mortgage. The wording of those provisions, though unambiguous, is confusing: 1. Owners [Nuwestern], except as limited by paragraph 17 hereof, assume and agree to make promptly all payments due under the note and mortgage [the Commerce loan]. * * 17. The following owners: NOTEdo not assume personal liability for payments due under the note and mortgage. * * The word NONE in paragraph 17 is the only1980 Tax Ct. Memo LEXIS 318">341 word added by the parties to that paragraph, the remainder of the wording being form language. The double negative produced by using the word NONE in that paragraph produces the legal result that all the owners are personally liable. However, testimony by the parties to the loan convinces us that the insertion of the word NONE in paragraph 17 of the FHA's form regulatory agreement was done in an attempt to say that NONE of the owners assumed personal liability for payments due under the note and mortgage. Of course, petitioner Frol, the president of Nuwestern who negotiated the Commerce loan on Nuwestern's behalf, testified that he considered the Commerce loan to be a non-recourse liability. More importantly, Mr. Hugh Sherrick, who handled most of the loan transaction for the lender, Commerce, testified that his understanding was that the obligation of Nuwestern was limited to the property that was pledged as security for the loan. Moreover, Mr. Harold Barnes, the FHA's Director of Housing Management at the time the Commerce loan was made and a participant in the negotiations for such loan, testified that his understanding of the nature of the loan was that the obligor's1980 Tax Ct. Memo LEXIS 318">342 liability was limited to the assets which secured such liability. Under rigorous cross-examination, he testified that in his 24 years as an employee of the Department of Housing and Urban Development he had never known the FHA to seek a deficiency judgment after foreclosure on a property which had been assigned to them by a lender after default. In summary, we are absolutely convinced that all of the parties interested in the Commerce loan intended the liability incurred to be a non-recourse liability. Commerce, the drafter of the loan documents, simply failed to correctly express the intent of the parties when it inserted the word NONE into paragraph 17 of the regulatory agreement. Respondent objected to the introduction of evidence regarding the intent of the parties, his grounds being that such evidence violates the "parol evidence rule." The "parol evidence rule" states that "when two parties have made a contract and have expressed it in a writing to which they have both assented as the complete and accurate integration of that contract, evidence, whether parol or otherwise, of antecedant understandings and negotiations will not be admitted for the purpose of varying1980 Tax Ct. Memo LEXIS 318">343 or contradicting the writing." 3 A. Corbin, Contracts sec. 573 (1960). This rule is not a rule of evidence, but is a rule of substantive contract law. It bears on the weight, if any, to be accorded evidence, not its admissibility.Moreover, oral testimony introduced to prove fraud, illegality, accident or mistake is always admissible. 3 A. Corbin, Contracts sec. 580 (1960). Such is the case here. The above-cited testimony was introduced to prove a mistake in the integration of the loan instruments. Such clearly relevant testimony is undoubtedly admissible. Fed. R. Civ. P. 401 and 402. If two parties are in clear agreement as to the factual and legal result that they wish to accomplish, and a document is drawn by a scrivenor using words that do not produce that result, the case is a proper one for reformation of the instrument. 3 A. Corbin, Contracts sec. 619 (1960). Silborn v. Pacific Brewing and Malting Co.,72 Wash. 13">72 Wash. 13, 129 P. 581">129 P. 581 (1913); Richards v. Pacific National Bank of Washington,10 Wash. App. 542, 519 P.2d 272">519 P.2d 272 (Wash. App. 1974); Henderson v. Bobst,6 Wash. App. 975, 497 P.2d 957">497 P.2d 957 (Wash. App. 1972); Geoghegan v. Dever,30 Wash. 2d 877, 194 P.2d 397">194 P.2d 397 (1948).1980 Tax Ct. Memo LEXIS 318">344 We are to characterize legal interests, rights and relationships according to the law of the controlling state (here the State of Washington). Morgan v. Commissioner,309 U.S. 78">309 U.S. 78 (1940); Helvering v. Stuart,317 U.S. 154">317 U.S. 154 (1942); Collins v. Commissioner,412 F.2d 211">412 F.2d 211 (10th Cir. 1969), revg. on rehearing 46 T.C. 461">46 T.C. 461 (1966). 6 We are convinced that it has been clearly and convincingly shown that the parties intended to consummate a non-recourse loan. The courts of the State of Washington would rectify the error of the scrivenor, Commerce, and treat this loan as a non-recourse liability. We will do likewise. Thus, when Nuwestern borrowed funds from Commerce on September 1, 1970, the lender's only recourse upon the default of Nuwestern or its assignee was to foreclose the property. Having so decided, that decision does not end our inquiry. We must determine whether the Commerce loan1980 Tax Ct. Memo LEXIS 318">345 liability continued to be a non-recourse liability upon its transfer to River Park. We must conclude that it did not. River Park expressly assumed payment of the Commerce loan upon its transfer to the partnership by force of the following provisions in the limited partnership agreement: 6. Contribution of General PartnerThe general Partner shall contribute to the partnership the land legally described on page 1 of this Agreement, but shall retain its legal title to that property, holding the same in trust for the exclusive benefit of this Limited Partnership and said property shall be transferred only pursuant to the business interests of, or for the benefit of, the Limited Partnership. That property shall be contributed subject to all presently outstanding encumbrances which the Limited partnership hereby assumes and agrees to pay according to their terms. 14. Assumption of Encumbrances By Limited Partnership.The Limited Partnership, but not the Limited Partners individually, shall assume and become liable for any construction financing and permanent financing in order to build the apartments. Mortgage payments shall be met from the general funds of the partnership.1980 Tax Ct. Memo LEXIS 318">346 The majority rule in the United States in that a grantee who assumes a liability for which his grantor was not personally liable has no personal liability. See 12 A.L.R. 1524">12 A.L.R. 1524. However, it is well-settled that Washington does not adhere to the general rule. Citing the theory that a mortgagee in such a situation is a third-party beneficiary to such as assumption, the Washington courts have steadfastly held that a remote grantee that assumes a mortgage is liable to the mortgagee, even though his immediate grantor was not personally liable on such debt. Corkrell v. Poe,100 Wash. 625">100 Wash. 625, 171 P. 522">171 P. 522 (1918); Citizens' Savings and Loan v. Chapman,173 Wash. 539">173 Wash. 539, 24 P.2d 63">24 P.2d 63 (Wash. 1933). Therefore, even though petitioners successfully convinced us that the Commerce loan was entered into as a non-recourse loan, the subsequent assumption of such liability by River Park renders the loan recourse as to the partnership. Under section 1.752-1(e), Income Tax Regs., a recourse liability of a limited partnership provides no increase in the adjusted bases of the limited partners of such partnership. Kingbay v. Commissioner,46 T.C. 147">46 T.C. 147 (1966).1980 Tax Ct. Memo LEXIS 318">347 Since Nuwestern, as the sole general partner of River Park, is the only partner who is contingently liable on the Commerce loan, 7 none of the petitioners, as limited partners, may treat any portion of the Commerce loan as an increase in their share of the partnership's liabilities for purposes of section 752(a). Puget Sound, Crossroads, and Nuwestern LoansWe must first determine whether any or all of these loans 8 were partnership loans of River Park. Respondent appeared initially to contest whether the loans which designated Nuwestern as the principal obligor (the Puget Sound loan and the first Crossroads loan) were partnership loans. However, in his reply brief respondent concedes that all of the loans at issue were partnership loans. The resolution of this issue matters little. Since all of the loans imposed personal liability, Nuwestern was personally liable on all of the loans, whether by reason of being the principal obligor or by reason of being the sole general partner of River Park. 9 Furthermore, we believe and have found as a fact that Nuwestern signed all of the loans dealt with in this section1980 Tax Ct. Memo LEXIS 318">348 in its capacity as the sole general partner of River Park. Thus, all of these loans are personal liabilities of the partnership. As we have earlier discussed, limited partners generally receive no basis increase when a partnership incurs recourse liabilities. Sec. 1.752-1(e), Income Tax Regs.That being the case, petitioners' quest to utilize these liabilities to increase their adjusted partnership bases in River Park would be futile absent some countervailing considerations. Petitioners make two arguments which they hope will aid them in such quest. First, petitioners argue that the guarantees of the various loans by some of the petitioners constituted an obligation of those petitioners under the limited partnership agreement to make additional contributions to River Park. If the guarantees could be so characterized, then, under the provisions of section 1.752-1(e), Income Tax Regs., those petitioner-guarantors would be entitled to treat the excess of such contingent obligation over their actual contributions to the partnership as cash contributed to the partnership,1980 Tax Ct. Memo LEXIS 318">349 which treatment would provide them with the sought basis increases. However, the very words of the regulation they seek to utilize to their benefit preclude our acceptance of such a theory. The regulation requires that the additional obligation arise "under the limited partnership agreement." The limited partnership agreement of River Park specifically states that, "No Limited Partner has agreed to contribute any additional cash or property to this partnership." Should the petitioner-guarantors be forced to make good their guarantees of these loans, the payments would be made to the lenders, not to the partnership, and the payments would be made pursuant to the loan guarantees, not "under the limited partnership agreement." See Rev. Rul. 69-223, 1969-1 C.B. 184. Therefore, we reject this attempt by petitioners to use these loans to increase their adjusted partnership bases in River Park. Petitioners' other argument with regard to these loans is this: Since the guarantors negotiated these loans, and since the lenders in each instance were (according to the petitioners) looking solely to the guarantors for repayment of these loans, and since these loans would not have1980 Tax Ct. Memo LEXIS 318">350 been made without the attendant guarantees, the loans were, in reality, loans to the guarantors, who in turn contributed the proceeds of such loans to River Park, thus acquiring basis increases, under section 722, in the amount of such deemed contributions. Petitioners cite on cases in the partnership context which have adopted such a rationale, nor has our research revealed any such cases. Though petitioners cite some cases in the corporate area which they feel bolster this argument, 10 we do not find them to be analogous to the partnership area. Petitioners cite numerous cases that deal with the problem of distinguishing loans by partners or stockholders from capital contributions, but that is not the issue here. Here, third-party lenders lent money to River Park, and those loans were guaranteed by limited partners of the principal obligor. The fact that the limited partners helped negotiate the loans, and the fact that the loans might not have been made absent the guarantees, do nothing to distinguish this situation from a normal loan guarantee situation. In this context, the form of the transaction is its substance. The principal obligor is primarily liable; the guarantor1980 Tax Ct. Memo LEXIS 318">*351 is secondarily liable. Petitioner-guarantors were only contingently liable on these loans. We reject the argument of the petitioners that these loans from Puget Sound, Crossroads, and Nuwestern were made to the partners who then contributed the loan proceeds to River Park. Having so said, we can summarize our findings with regard to the Puget Sound, Crossroads, and Nuwestern loans. They were liabilities of the partnership; such liabilities were with recourse; and, therefore, such liabilities could not function to increase the bases of petitioners in River Park. CONCLUSIONNone of the liabilities here in issue--the Commerce loan, the Puget Sound loan, the three Crossroads loans, and the Nuwestern loan--were of such a nature that on December 31 of either 1972 or 1973 they were includable in the adjusted bases of petitioners. Due to concessions and computation adjustments, Decisions will be entered under Rule 155.Footnotes1. The following cases have been consolidated for trial, brief and opinion: Richard C. Brown and Joan C. Brown, docket No. 10262-76; Wesley N. Tefft and Alberta Y. Tefft, docket No. 10263-76; William W. Henshaw and Mary M. Henshaw, docket No. 10264-76; William H. Jordan and Wendy S. Jordan, docket No. 10265-76; Cyril M. Frol and Phyllis A. Frol, docket No. 10266-76; Einar Henriksen and Geraldine Henriksen, docket No. 10267-76; and Henry W. Anderson and Dorothy E. Anderson, docket No. 10268-76.↩1. Though the parties stipulated that Jordan had a 25 percent profit and loss-sharing percentage, that was clearly not the case, according to the facts before us.↩2. Sec. 706(a), I.R.C. 1954↩.3. All section references are to the Internal Revenue Code of 1954, as amended.↩4. [Sec. 704] (d) LIMITATION ON ALLOWANCE OF LOSSES. -- A partner's distributive share of partnership loss (including capital loss) shall be allowed only to the extent of the adjusted basis of such partner's interest in the partnership at the end of the partnership year in which such loss occurred. Any excess of such loss over such basis shall be allowed as a deduction at the end of the partnership year in which such excess is repaid to the partnership. ↩5. SEC. 752. TREATMENT OF CERTAIN LIABILITIES. (a) INCREASE IN PARTNER'S LIABILITIES. -- Any increase in a partner's share of the liabilities of a partnership, or any increase in a partner's individual liabilities by reason of the assumption by such partner of partnership liabilities, shall be considered as a contribution of money by such partner to the partnership. (b) DECREASE IN PARTNER'S LIABILITIES. -- Any decrease in a partner's share of the liabilities of a partnership, or any decrease in a partner's individual liabilities by reason of the assumption by the partnership of such individual libilities, shall be considered as a distribution of money to the partner by the partnership. (c) LIABILITY TO WHICH PROPERTY IS SUBJECT. -- For purposes of this section, a liability to which property is subject shall, to the extent of the fair market value of such property, be considered as a liability of the owner of the property. (d) SALE OR EXCHANGE OF AN INTEREST. -- In the case of a sale or exchange of an interest in a partnership, liabilities shall be treated in the same manner as liabilities in connection with the sale or exchange of property not associated with partnerships.↩6. Collins v. Commissioner,46 T.C. 461">46 T.C. 461 (1966), affd. 388 F.2d 353">388 F.2d 353 (10th Cir. 1968), vacated and remanded 393 U.S. 215">393 U.S. 215 (1968), revd. on rehearing 412 F.2d 211">412 F.2d 211↩ (10th Cir. 1969).7. Wash. Rev. Code Ann. secs. 25.04.150 and 25.08.070↩.8. The Commerce loan is not dealt with in this portion of the opinion. ↩9. See footnote 6, supra.↩10. Blum v. Commissioner,59 T.C. 436">59 T.C. 436 (1972); Santa Anita Consolidated Inc. v. Commissioner,50 T.C. 536">50 T.C. 536↩ (1968).	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621819/	George M. Zeagler v. Commissioner.Zeagler v. CommissionerDocket Nos. 53410, 55075.United States Tax CourtT.C. Memo 1958-93; 1958 Tax Ct. Memo LEXIS 136; 17 T.C.M. 454; T.C.M. (RIA) 58093; May 23, 1958William T. Rogers, Esq., Florida National Bank Building, Jacksonville, Fla., and John W. Donahoo, Esq., for the petitioner. Lee C. Smith, Esq., for the respondent. KERN Memorandum Findings of Fact and Opinion The Commissioner determined deficiencies in income taxes in these consolidated cases as follows: 1947$14,787.34194811,267.44194914,432.14195016,279.06195125,761.21The two questions presented for our decision are whether the losses claimed by the petitioner from the operation of two farms are losses incurred in the operation of a trade or business and are deductible expenses in the years 1947 to 1951, inclusive, and whether the petitioner is entitled to a deduction as a business expense of any portion of the expenditures1958 Tax Ct. Memo LEXIS 136">137 connected with the operation and maintenance of his personal airplane and hangar, and depreciation connected therewith, in excess of the amounts allowed by the respondent. Findings of Fact Some of the facts have been stipulated by the parties. This stipulation and the exhibits annexed thereto are incorporated by this reference. The petitioner was a practicing physician residing in Palatka, Putnam County, Florida, during the taxable years, and also the owner and operator of the Glendale Hospital, hereinafter referred to as the hospital. His Federal income tax returns for the taxable years were filed with the collector of internal revenue for the district of Florida. In 1937 the petitioner purchased 10 acres of land and an old farmhouse near Satsuma, Florida, in order that his elderly parents, who had theretofore lived on a farm in Georgia, might live close to Palatka for the remainder of their lives. After a very short time his parents decided they preferred Georgia to Florida and returned to the Georgia farm. Thereafter, petitioner purchased other adjoining lands near Satsuma as follows: 193960.95 acres1946130 acres195118.9 acres These 219.85 acres, 1958 Tax Ct. Memo LEXIS 136">138 together with the improvements thereon, constitute a farm sometimes referred to herein as the "Florida Farm," which is one of the two farms involved in these cases. Petitioner called it the "Flying Z Ranch." In 1938 petitioner acquired the fee simple title subject to an outstanding mortgage and a life estate in his father to a 756-acre farm in Screven County, Georgia, which had been owned by his father and had been the family homestead. The petitioner was born on this farm and lived there until he had completed his college education. His father died in December 1939. The mortgage upon this farm was paid by the petitioner in 1942. Subsequently, petitioner purchased additional adjacent acreage as follows: 1943101.75 acres1945250 acres This total acreage of 1,107.75 acres with the improvements thereon is sometimes referred to herein as the "Georgia Farm" and is the other of the two farms involved in these cases. After the acquisition of the Florida farm the citrus trees thereon were pruned and the grove replanted where needed. As additional acreage was acquired the number of acres planted in citrus trees increased from 3 or 4 to 15 acres. Also, a general land1958 Tax Ct. Memo LEXIS 136">139 improvement program was undertaken. During the taxable years there were approximately 150 acres of the Florida farm in improved pastures, and the petitioner grazed approximately 60 to 70 head of cattle thereon. The petitioner gained recognition as one of the pioneer developers of hairy indigo pastures on the generally poor soil. He acquired milking cows for the Florida farm from which he supplied milk, cream, and butter to his hospital until 1956. In connection with this dairy herd, the petitioner complied with certain sanitary requirements at the request of the State authorities such as painting certain fences around the dairy barn white and adding special facilities. Also, as poultry was added to the farm, modern chicken pens and houses were built. A barn and other farm buildings were built for the storage of cattle and poultry feed. During the taxable years three or more full-time workmen were employed on the Florida farm and part-time help was hired from time to time as needed. The petitioner utilized the advice and assistance of the county farm agents, Federal soil conservationists, feed and seed experts, and, in addition, gave that amount of personal attention to the operation1958 Tax Ct. Memo LEXIS 136">140 of the farm which his medical practice would permit. The hospital, which had a daily average of approximately 20 patients, was supplied with milk, butter, eggs, poultry, beef, fruit, and vegetables produced on the Florida farm during most of the taxable years. Books and records were kept on the amount of these products supplied to the hospital, but there was not a breakdown as to the individual products. Instead, one separate account was kept for the farm. Some of the surplus produce which was not needed by the hospital was sold commercially. The house on the Florida farm, in which the farm manager and his family resided, was an old building containing a dining room, small kitchen, living room, three bedrooms, and a front and a back porch. Most of the furniture in the house was owned by the farm manager but the house also contained a few pieces of furniture not belonging to the manager which had been discarded by the petitioner either from his home or from the hospital. The kitchen in this dwelling was modern in the sense that it included a stove and a sink. The petitioner retained one of the small bedrooms in this dwelling for his own personal use, but as he devoted most of his1958 Tax Ct. Memo LEXIS 136">141 time to his medical practice he was not able to be at the farm except for occasional visits, usually of short duration. The petitioner maintained a small boathouse, dock, and rowboat on the St. Johns River at the farm. He had another boat, described only as a type of speedboat, which was usually kept at the hospital. There was an outdoor fireplace on the farm and several riding horses were kept there principally for use in connection with the cattle. The Florida farm was not used to any material extent for social or recreational purposes either by the petitioner or his friends, although on several occasions he entertained fellow members of the "Flying Farmers of America." The farm did provide the petitioner with a place for occasional relaxation and change from his strenuous medical practice. The Georgia farm was in a badly rundown condition when petitioner first acquired it and a general improvement program was undertaken. Soil-building crops were planted to build up the depleted soil, and the land was terraced to stop the loss of topsoil from erosion. Barns and other farm buildings were repaired or rebuilt. A herd of scrub cattle which petitioner acquired with the farm was gradually1958 Tax Ct. Memo LEXIS 136">142 replaced with better grade cattle. At first petitioner tried Brahman cattle but this breed proving unsatisfactory he began to build up a herd of Herford cattle. During the years involved the taxpayer had a herd of as many as 200 cattle on the Georgia farm. At the suggestion of and under the direct supervision of Federal soil conservationists, improved pastures were planted so that ample feed would be available for the cattle. Various crops were raised from year to year in an effort to make money. Feed raised on the farm and not needed to feed the livestock was, at times, taken to the Florida farm to feed the cattle there. During the taxable years there were as many as 6 full-time employees on this farm. A full-time manager was employed on a fixed monthly salary basis plus 25 per cent of the farm profits. The petitioner relied upon the advice and services of the county farm agents, soil conservationists, and other farm experts in connection with the operation of the Georgia farm, and the farm manager was instructed to work with these men at all times. The Georgia farm had a remodeled 2-story residence which was the petitioner's family homestead, as well as barns, silos, tenant homes, 1958 Tax Ct. Memo LEXIS 136">143 and other buildings. The farmhouse was old, ordinary, and made of rough pine lumber. The furniture was also old and was that which had belonged to the petitioner's mother and father. Petitioner made no improvements or additions to the house after he acquired it other than to paint it and to make minor repairs. During the taxable years this house was occupied by the petitioner's mother. After her death in 1951 it was occupied by the farm manager and his family. During all the years involved petitioner owned an airplane which he used principally for business trips in connection with his medical practice and farming operations. The plane was used in making consultation calls in Orlando, Tampa, De Land, and various other Florida cities. He also made several trips per month to the Georgia farm, where a landing strip had been constructed, and flew to monthly meetings of the farmers' organizations and medical conventions. The airplane bore a sign advertising the Florida farm and the Hereford cattle. Both the petitioner and his wife were licensed pilots and both operated and used the plane. The petitioner maintained a membership in such farm organizations as the Flying Farmers of America, 1958 Tax Ct. Memo LEXIS 136">144 Florida Cattlemen's Association, and Georgia Cattlemen's Association. He also subscribed to various farm magazines. Signs on his farm trucks bore the names of the Florida and Georgia farms. Separate books of account and separate bank accounts were kept for the Georgia and Florida farms. The books were maintained by the hospital bookkeeper from information sent to her by the farm managers. The books did not reflect itemized details of expenses or the produce sold in connection with the farms, but only reflected monthly totals taken from daily reports submitted. Under normal conditions it takes as many as 10 to 15 years in order for a cattle operation to ripen into a profitable business. Commencing with the fall of 1951 there was a considerable drop in the cattle market and depressed conditions continued through 1956. The reported gross receipts and expenses from the operation of the Florida farm during the years involved were as follows: YearGross receiptsExpenses1947$ 3,049.40$ 18,114.7319484,556.8827,264.8919496,616.1424,554.6519508,020.7034,843.00195113,921.5046,132.07$36,164.62$150,909.34The reported gross receipts1958 Tax Ct. Memo LEXIS 136">145 and expenses from the operation of the Georgia farm during the years involved were as follows: YearGross receiptsExpenses1947$ 9,179.35$ 19,378.4119485,128.6319,181.4019492,800.2118,735.2519507,046.4721,708.0119514,546.4221,007.28$28,701.08$100,010.35The petitioner claimed losses from the operation of the Florida farm (Flying Z Ranch) owned by him on Federal income tax returns for the years 1937 to 1955, inclusive, as follows: Net loss claimedYearon return1937$ 1,617.8019381,795.7419392,102.8819403,106.2819412,930.1619422,987.831943$ 3,387.1819443,581.9119455,975.99194610,161.94194715,065.33194822,708.01194917,938.51195026,822.30195132,210.77195236,180.79195324,374.64195425,532.94195517,919.23The petitioner claimed losses from the operation of the Georgia farm owned by him on Federal income tax returns for the years 1938 to 1955, inclusive, as follows: Net loss claimedYearon return1938$ 532.0819394,683.9619401,595.6219415,108.7419425,776.3119435,135.4419449,953.0119455,510.11194613,030.83194710,199.06194814,052.77194915,935.04195014,661.54195116,314.59195229,177.98195314,963.0519546,654.65195522,350.641958 Tax Ct. Memo LEXIS 136">146 The following is a schedule of gross income of petitioner from the practice of his medical profession and operation of the Glendale Hospital for the years 1937 to 1942, inclusive, 1944, and 1946 to 1955, inclusive: YearProfessional income1937$50,724.60 1193847,640.86 1193945,548.41 1194054,306.94 1194118,481.64194216,706.30194433,017.17194636,763.08194736,048.66194840,304.78194945,777.56195050,462.64195167,238.43195274,017.91195359,081.70195454,993.35195572,811.43The respondent determined that each of the farms in question was operated by the petitioner as a hobby and not with the intent to make a profit, and that, therefore, farm losses incurred for each of the taxable years were not allowable for tax purposes. On his income tax returns for the years involved the petitioner claimed a deduction for 50 per cent of the depreciation and operating expenses of the airplane and hangar. The respondent determined that only 10 per cent of the1958 Tax Ct. Memo LEXIS 136">147 expenses and depreciation constituted allowable deductions. Petitioner had a true intention of eventually making a profit from the operation of the farms here in question. Their operation during the taxable years constituted a trade or business carried on by petitioner. Opinion KERN, Judge: The principal question for our decision is whether during the taxable years the petitioner was engaged in farming as a business with the intent of making a profit, or whether he was engaged in farming as a hobby. Stated in the words of Regulations 111, section 29.23(e)-5, the issue is whether petitioner's farms were operated "as business enterprises" or were "operated for recreation or pleasure." The petitioner claims that he was in the business of farming and that losses incurred in each of the taxable years in the farming business are therefore proper tax deductions. The respondent contends that farming was a hobby for the petitioner and that he "operated the farms in question with an intention to make a profit from his income tax returns rather than from his farming operations," and "[for] twenty years he has minimized his taxes owed the Government and in so doing has created an estate1958 Tax Ct. Memo LEXIS 136">148 at Government expense." Another issue for our decision is whether the petitioner is entitled to a deduction as a business expense of any portion of the expenditures connected with the operation and maintenance of his personal airplane and hangar in excess of the amounts allowed by respondent. The respondent allowed only a small portion of these expenditures as incurred in connection with the taxpayer's medical profession. With the exception of the continuous and considerable losses incurred by petitioner over many years in the operation of the farms here in question, all of the facts shown of record substantiate petitioner's repeated and categorical testimony that he intended to obtain a profit from the operation of these farms, and that he had a reasonable expecation of making a profit after a development period of 10 to 15 years even though temporarily disappointed by reason of the depression in the cattle business beginning in 1951. Also the absence from the record of certain facts substantiates petitioner's testimony. By way of example, in this case the farms were not country estates used by petitioner as residences, they were not "showplaces," and they were not used to any material1958 Tax Ct. Memo LEXIS 136">149 extent for entertaining or recreation, nor were they equipped for such purposes. The fact that there has been a long series of losses in the operation of these farms, while undoubtedly a material factor for our consideration in the instant cases, "is not controlling if the other evidence shows there is a true intention of eventually making a profit." . See also ; . Since "the other evidence" in these cases indicates in our opinion that petitioner had "a true intention of eventually making a profit" from the operation of these farms, we have decided the principal issue here involved in favor of petitioner. With regard to the issue having to do with the disallowance of a part of the deductions claimed by petitioner on account of expenditures in connection with his airplane and hangar, and of their depreciation, it may well be, as petitioner suggests, that respondent's determination was to some extent predicated on his view (held herein to have been erroneous) that petitioner's farming activities were not businesses and that, accordingly, expenditures1958 Tax Ct. Memo LEXIS 136">150 incident to the use of the airplane in connection with the farming activities were not deductible business expenses. However, the burden of proving error in connection with this determination is, of course, on petitioner. He has proved that his own use of the airplane for business purposes was greater than his own use of the airplane for pleasure. However, the record shows that during the taxable years petitioner's wife, who had a pilot's license, "used [the airplane] some." There was no other testimony with regard to the use of the airplane by petitioner's wife. Upon the record before us, we are unable to conclude that petitioner has proved error in respondent's determination on this issue. Decisions will be entered under Rule 50. Footnotes1. These figures represent gross professional income. All other figures represent net professional income. The 1943 and 1945 returns are not available.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621820/	RICHARD H. BAUMBACH, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Baumbach v. CommissionerDocket No. 99895.United States Board of Tax Appeals42 B.T.A. 88; 1940 BTA LEXIS 1051; June 14, 1940, Promulgated 1940 BTA LEXIS 1051">1051 HEAD OF FAMILY. - Petitioner is not the head of a family by reason of his maintenance of a son who was an adult, in good health, well educated, and engaged in the practice of a profession, but whose income from the profession was less than expenses. L. J. Lautenschlaeger, Esq., and Harry P. Gamble, Jr., Esq., for the petitioner. D. D. Smith, Esq., for the respondent. ARUNDELL42 B.T.A. 88">88 In this proceeding petitioner asks a redetermination of a deficiency of $157.53 in income tax for the calendar year 1937, which arises from the respondent's disallowance of a credit of $2,500 claimed by petitioner as the head of a family. In its place respondent has permitted the credit of $1,000 allowed an individual. The question is whether the petitioner, because of the support of his son, comes within the term "head of a family" and is thus entitled to the $2,500 credit allowed by section 25(b)(1) of the Revenue Act of 1936. 42 B.T.A. 88">89 FINDINGS OF FACT. The petitioner, a widower, resides at 4019 Octavia Street, New Orleans, Louisiana, at which address he has maintained a home since October 1936. Petitioner and his 26-year-old son, Edward, were the1940 BTA LEXIS 1051">1052 sole occupants of the home during the taxable year 1937. Two other children, both older, were married and living elsewhere. Edward, the son, attended Tulane University and spent four years at the Northwestern University Dental School, from which institution he was graduated with a dental degree in the year 1934. Petitioner financed the education of his son, and in the fall of 1934 aided him in establishing himself as a dentist in New Orleans. Edward shared a suite of offices with an older dentist, but treated only his own patients. The son's gross income for 1937 was $925, consisting of fees amounting to $683 from the practice of his profession and $242 dividends. His office expenses exceeded his fees by $172.28. Petitioner rented the Octavia Street home and paid all the household expenses. The petitioner from time to time advanced money to the son for clothes, amusements, and other incidentals. The petitioner maintained an automobile that the son used with his permission. Dental equipment had been purchased by the son on an installment basis in 1934, the total purchase price of $2,000 to be met by monthly payments over a three-year period. Petitioner made all the1940 BTA LEXIS 1051">1053 payments for this equipment. The son in 1937 owned 40 shares of corporate stock, worth $4,000, that he had acquired by gift from his father and an uncle. Aside from his dental equipment and the 40 shares of stock, the son owned no property. The petitioner paid the living expenses of his son during 1937, in the aggregate $1,990.21, as follows: $1,002 representing one-half of the expense of house, meals, and servants paid for by the petitioner; $881.21 advanced to the son by checks, of which he used $400 to pay for dental equipment and the remainder for various living expenses, including commuting fares during the summer; and $100 advanced to the son in cash and used by him for miscellaneous expenses. No notes were given by the son to cover the advances made to or on his behalf by the petitioner. The petitioner expected that if the son became successful he would reimburse him for the amounts used to pay for office equipment. The son was in good physical condition in the taxable year. The petitioner and his son resided at the New Orleans house maintained by the petitioner throughout the year 1937, except that during the summer they lived at Long Beach, Mississippi, in a house1940 BTA LEXIS 1051">1054 also 42 B.T.A. 88">90 maintained by the petitioner. The son had for a number of years resided thus in households maintained by the petitioner except while he was attending dental school in Chicago, and during that period he spent his holidays and vacations with the petitioner. OPINION. ARUNDELL: The petitioner claims a credit of $2,500 for the year 1937 under section 25(b)(1) of the Revenue Act of 1936. He claims that by reason of supporting his son in his household he was the "head of a family" within the meaning of that statutory term as it has been defined in article 25-4 of Regulations 94 as follows: A head of a family is an individual who actually supports and maintains in one household one or more individuals who are closely connected with him by blood relationship, relationship by marriage, or by adoption, and whose right to exercise family control and provide for these dependent individuals is based upon some moral or legal obligation. Unquestionably the petitioner meets the majority of the elements enumerated in the regulation. He actually supported and maintained in one household an individual closely connected with him by blood relationship. There may be some question1940 BTA LEXIS 1051">1055 as to the existence and extent of the petitioner's "right to exercise family control" over his adult son. We need not decide that. The regulation has for its main premise the maintenance by a taxpayer in one household of "dependent individuals." The question here thus narrows down to whether or not the petitioner's son was a "dependent." The son was 26 years old, in good health, a college graduate with a professional degree, and engaged in practicing his profession. Ordinaryily, we do not think of an adult who is mentally and physically sound as a dependent, and to so classify the son in this case would require an abrupt turn in common thought and speech. To hold that an adult individual under the facts here is a dependent would make that term applicable in a variety of situations that were surely not contemplated when the regulation was drafted. To carry the petitioner's view to its logical conclusion would be to say that every adult who continues to reside at the family abode and who does not earn in full a sum equal to his living expenses is a dependent, without regard to mental and physical capacity and the possibility of earning a living in another field of endeavor. Petitioner's1940 BTA LEXIS 1051">1056 view would also involve the application of a highly variable standard, varying according to each individual's ideas as to the sum necessary for his proper support and maintenance. It is our opinion that the word "dependent" in the regulations can not properly be extended to a case like this where the individual is 42 B.T.A. 88">91 an adult, well educated, in good health, engaged in a profession, but simply fails to earn enough in his practice to fully support himself. The respondent's determination is sustained. Decision will be entered for the respondent.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621825/	KENNETH L. THOMAS, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, RespondentThomas v. CommissionerDocket No. 22121-87.United States Tax CourtT.C. Memo 1988-454; 1988 Tax Ct. Memo LEXIS 505; 56 T.C.M. 275; T.C.M. (RIA) 88454; September 22, 1988. Kenneth L. Thomas, pro se. Joel D. Arnold, for the respondent. WHALENMEMORANDUM OPINION WHALEN, Judge: This case is before the Court to decide respondent's Motion for Summary Judgment, filed March 18, 1988. At issue is respondent's1988 Tax Ct. Memo LEXIS 505">506 determination of the following deficiencies in, and additions to, petitioner's Federal income tax: Additions to Tax, I.R.C. Sections 1YearDeficiency6653(b)6653(b)(1)6653(b)(2)6654(a)6661(a) 21979$ 4,448.00$ 2,224.00----$ 137.00--19804,971.002,486.00----316.00--19815,560.002,780.00----425.00--19825,738.00--$ 2,869.00199.00$ 1,434.0019836,198.00--3,099.00*339.001,550.001988 Tax Ct. Memo LEXIS 505">507 Respondent based the above determination of petitioner's tax liability upon his underlying determination that petitioner failed to report wage and other income in the following amounts: YearWage IncomeOther Income1979$ 21,714.00$ 84.00198023,266.0069.00198125,116.0045.00198227,055.00--198330,222.00--Petitioner resided in Waukegan, Illinois at the time he filed the petition in this case. The petition, consisting of 48 pages, contested respondent's determination by raising various meritless "tax protestor" constitutional claims. 3 In his Answer, respondent denied all substantive allegations of fact and error, and affirmatively alleged: 3. FURTHER ANSWERING the petition, and in support of the determination that a part of the underpayments required to be shown on the petitioner's income tax returns for the taxable years 1979 through 1983 are due to fraud on the part of petitioner Kenneth L. Thomas, the respondent alleges: (a) On March 26, 1987, respondent mailed a notice of deficiency to petitioner. A copy of said notice is attached hereto as Exhibit A. 1988 Tax Ct. Memo LEXIS 505">508 (b) On October 1, 1984, petitioner was indicted for failing to file individual tax returns for the years 1979 through 1983 under I.R.C. section 7203 and filing false Forms W-4 during 1982 and 1984 under I.R.C. section 7205. A copy of said indictment is attached hereto as Exhibit B and hereby incorporated by reference as though fully set forth herein. (c) On January 22, 1985, petitioner was convicted of each count of the indictment. 4(d) During taxable years 1979 through 1983, petitioner received wage income in the amounts of $ 21,714.00, $ 23,266.00, 1988 Tax Ct. Memo LEXIS 505">509 $ 25,116.00, $ 27,055.00, and $ 30,222.00, respectively. (e) During taxable years 1979, 1980 and 1981, petitioner received interest income in the amounts of $ 84.00, $ 69.00 and $ 45.00 respectively. (f) Petitioner failed to file tax returns for 1979 through 1983 and failed to report the income received by him in those years. (g) During taxable year 1979, in order to avoid withholding of taxes from his paychecks, petitioner filed a Form W-4 with his employer claiming twenty two (22) exemptions. (h) In 1981, in order to avoid withholding taxes from his paychecks, petitioner filed a Form W-4 claiming exempt status. (i) In 1982, in order to avoid withholding from his paycheck, petitioner filed a Form W-4 claiming exempt status. (j) Petitioner well and truly knew that he was not entitled to the exemptions described in subparagraphs (g) (h) and (i) above. (k) Petitioner filed said false withholding certificates (Forms W-4) with the intent to avoid the payment of taxes. (l) Petitioner failed to file his 1979 through 1983 Forms 1040 with the intent of evading the payment of income taxes in those years. (m) Petitioner, by failing to file tax returns and filing false1988 Tax Ct. Memo LEXIS 505">510 withholding certificates, understated his income taxes for 1979 through 1983 in the amounts of $ 4,448.00, $ 4,971.00, $ 5,560.00, $ 5,738.00 and $ 6,198.00, respectively. (n) A part of each deficiency for the taxable years 1979 through 1983 is due to fraud with the intent to evade taxes. Petitioner failed to reply to respondent's Answer as required by Rule 37(a). Accordingly, respondent filed Motion For Entry Of Order That Undenied Allegations In Answer Be Deemed Admitted, in which he asked that the undenied affirmative allegations in his Answer be deemed admitted pursuant to Rule 37(c). The Court gave petitioner notice of respondent's motion, and instructed petitioner that "if petitioner files a reply as required by Rule 37(a) and (b) of this Court's Rules on or before November 12, 1987, respondent's motion will be denied." The Court's notice also advised petitioner that "if petitioner does not file a reply as directed herein, the Court will grant respondent's motion and deem admitted for purposes of this case the affirmative allegations in the answer." Petitioner did not respond to respondent's motion. 5 On December 21, 1987, the Court granted respondent's motion and1988 Tax Ct. Memo LEXIS 505">511 deemed admitted the undenied affirmative allegations of fact set forth in respondent's Answer. 1988 Tax Ct. Memo LEXIS 505">512 Respondent subsequently filed the Motion for Summary Judgment at issue. Pursuant to Rule 121(b), we directed petitioner to file an opposing written response. Petitioner failed to do so. Pursuant to notice to the parties, this case was called for trial on June 20, 1988. Petitioner failed to appear because he was apparently then detained at the Federal Prison Camp, Duluth, Minnesota. The case was passed for trial and respondent's Motion for Summary Judgment was taken under advisement. We must decide, based on the record in this case, including the facts deemed admitted, whether petitioner is liable for the deficiencies and additions to tax determined by respondent. This Court may grant summary judgment "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." Rule 121(b). See Naftel v. Commissioner,85 T.C. 527">85 T.C. 527, 85 T.C. 527">529 (1985); Jacklin v. Commissioner,79 T.C. 340">79 T.C. 340, 79 T.C. 340">344 (1982); Espinoza v. Commissioner,78 T.C. 412">78 T.C. 412, 78 T.C. 412">416 (1982).1988 Tax Ct. Memo LEXIS 505">513 The moving party, respondent in this case, bears the burden of proving that there is no genuine issue of material fact. 85 T.C. 527">Naftel v. Commissioner, supra at 529; 78 T.C. 412">Espinoza v. Commissioner, supra at 416. The moving party also bears the burden of proving that he should prevail on the substantive questions at issue as a matter of law. Rule 121(b). The Court will view factual material and inferences drawn therefrom in the light most favorable to the party opposing the motion for summary judgment. 85 T.C. 527">Naftel v. Commissioner, supra at 529; 79 T.C. 340">Jacklin v. Commissioner, supra at 344. Respondent contends that, in light of the facts deemed admitted pursuant to Rule 37(c), there is no genuine issue of material fact and he is entitled to judgment as a matter of law. We agree. As a threshold matter, we emphasize that petitioner has had ample opportunity to respond to the affirmative allegations contained in respondent's Answer and has chosen not to do so. Petitioner was also specifically warned that the Court would deem such allegations admitted in the event petitioner failed to reply to respondent's Motion for Entry of Order That Undenied1988 Tax Ct. Memo LEXIS 505">514 Allegations in Answer be Deemed Admitted. Furthermore, petitioner has not asked the Court to vacate its order deeming such affirmative allegations in the answer admitted. With regard to the tax deficiencies determined by respondent, the additions to tax for failure to pay estimated tax under section 6654(a), and the additions to tax for underpayment attributable to substantial understatement of income tax under section 6661(a), respondent's determinations are presumptively correct and petitioner bears the burden of proving otherwise. Rule 142(a); Welch v. Helvering,290 U.S. 111">290 U.S. 111 (1933); Castillo v. Commissioner,84 T.C. 405">84 T.C. 405, 84 T.C. 405">408 (1985). Based on the facts which petitioner has been deemed to have admitted, petitioner has not met his burden of proof. See Marshall v. Commissioner,85 T.C. 267">85 T.C. 267 (1985); Doncaster v. Commissioner,77 T.C. 334">77 T.C. 334 (1981); Gromnicki v. Commissioner,T.C. Memo. 1988-358. Accordingly, we grant summary judgment for respondent with respect to such deficiencies and additions. With regard to the additions to tax for fraud under section 6653(b) for the years 1979, 1980 and 1981, 1988 Tax Ct. Memo LEXIS 505">515 and under sections 6653(b)(1) and 6653(b)(2) for the years 1982 and 1983, respondent bears the burden of proving fraud by clear and convincing evidence. Section 7454(a); Rule 142(b); 84 T.C. 405">Castillo v. Commissioner, supra at 408. Respondent must show that the taxpayer intended to evade taxes known to be owing by conduct intended to conceal, mislead or otherwise prevent the collection of such taxes, that there is an underpayment of tax, and that some portion of the underpayment for each taxable year was due to the taxpayer's fraudulent intent. Stoltzfus v. United States,398 F.2d 1002">398 F.2d 1002, 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">394 F.2d 366 (5th Cir. 1968), affg. a Memorandum Opinion of this Court; Rowlee v. Commissioner,80 T.C. 1111">80 T.C. 1111, 80 T.C. 1111">1123 (1983). The existence of fraud is a question of fact to be resolved upon review of the entire record. 80 T.C. 1111">Rowlee v. Commissioner, supra at 1123; Gajewski v. Commissioner,67 T.C. 181">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). While fraud will never be presumed, 1988 Tax Ct. Memo LEXIS 505">516 Beaver v. Commissioner,55 T.C. 85">55 T.C. 85, 55 T.C. 85">92 (1970), it may be proved by circumstantial evidence, e.g., Stephenson v. Commissioner,79 T.C. 995">79 T.C. 995, 79 T.C. 995">1005-1006 (1982), affd. 748 F.2d 331">748 F.2d 331 (6th Cir. 1984). To satisfy his burden of proving fraud, respondent relies on the deemed admissions. This is an appropriate procedure under the Rules of this Court, Gilday v. Commissioner,62 T.C. 260">62 T.C. 260, 62 T.C. 260">262 (1974), and we may grant respondent summary judgment if the facts deemed admitted under Rule 37(c) clearly and convincingly establish that any part of the deficiency in each of the subject years is due to fraud. Cassidy v. Commissioner,814 F.2d 477">814 F.2d 477, 814 F.2d 477">481-482 (7th Cir. 1987), affg. a Memorandum Opinion of this Court; 685 T.C. 267">Marshall v. Commissioner, supra at 272-73; 77 T.C. 334">Doncaster v. Commissioner, supra at 336-338; 62 T.C. 260">Gilday v. Commissioner, supra at 262-263. Clearly, the facts alleged in respondent's Answer and constructively admitted by petitioner are sufficient to establish fraud. Petitioner admitted that he failed1988 Tax Ct. Memo LEXIS 505">517 to file tax returns for 1979 through 1983 and failed to report the income received by him in each of those years. A pattern of failing to file income tax returns is circumstantial evidence of fraud. E.g., 84 T.C. 405">Castillo v. Commissioner, supra at 409. While such evidence, standing alone, does not establish fraud, Kotmair v. Commissionr,86 T.C. 1253">86 T.C. 1253, 86 T.C. 1253">1260-1261 (1986), petitioner has further admitted filing false Forms W-4 in 1979, 1981 and 1982. Filing false Forms W-4 is also an indication of fraud. Wedvik v. Commissioner,87 T.C. 1458">87 T.C. 1458, 87 T.C. 1458">1470 (1986); Habersham-Bey v. Commissioner,78 T.C. 304">78 T.C. 304, 78 T.C. 304">313 (1982). Petitioner has also admitted that he failed to file his income tax returns for 1979 through 1983 "with the intent of evading the payment of income taxes in those years," and that he filed false withholding certificates on Forms W-4 "with the intent to avoid the payment of taxes," and that these actions in combination "understated his income taxes for 1979 through 1983." Moreover, petitioner has admitted that "a part of each deficiency for the taxable years 1979 through 1983 is due to fraud with the intent to evade taxes. 1988 Tax Ct. Memo LEXIS 505">518 " This undenied conclusory allegation is sufficiently consistent with, and supported by, the undenied specific allegations of fact to establish fraud. Compare 77 T.C. 334">Doncaster v. Commissioner, supra at 337, with Dahlstrom v. Commissioner,85 T.C. 812">85 T.C. 812, 85 T.C. 812">820-822 (1985). We have reviewed the record in this case, including the petition, and find not a single factual allegation made by petitioner to controvert the undenied allegations in respondent's Answer. The petition, which is 48 pages in length, consists entirely of confused and confusing statements typical of tax protesters. Based upon the record as a whole, we believe that there is clear and convincing evidence that the deficiencies for each of the years at issue are, at least in part, due to fraud. See, e.g., Granado v. Commissioner,792 F.2d 91">792 F.2d 91, 792 F.2d 91">92 (7th Cir. 1986), affg. a Memorandum Opinion of this Court, 7 cert. denied 480 U.S. 920">480 U.S. 920 (1987); 87 T.C. 1458">Wedvik v. Commissioner, supra at 1470; 79 T.C. 995">Stephenson v. Commissioner, supra at 1007; 84 T.C. 405">Castillo v. Commissioner, supra at 408-410; Hebrank v. Commissioner,81 T.C. 640">81 T.C. 640, 81 T.C. 640">642-643 (1983);1988 Tax Ct. Memo LEXIS 505">519 80 T.C. 1111">Rowlee v. Commissioner, supra at 1123-1126; 78 T.C. 304">Habersham-Bey v. Commissioner, supra at 313-314. As we noted in 84 T.C. 405">Castillo v. Commissioner, supra at 410: where a taxpayer's failure to file is predicated on frivolous arguments and where respondent has shown substantial amounts of unreported income on which withholding has been reduced or prevented by the submission of false Form W-4 certificates, we have repeatedly held that fraud has been established by clear and convincing evidence justifying the addition to tax under section 6653(b). [Citations omitted.] We sustain respondent's determination that petitioner is liable for the additions to tax for fraud and grant respondent summary judgment with respect thereto. To reflect the foregoing, Decision will be entered for the respondent.Footnotes1. Unless otherwise specified, all section references are to the Internal Revenue Code of 1954, as amended and in effect at the relevant times, and all Rule referencess are to the Tax Court Rules of Practice and Procedure. ↩2. Section 8002, Omnibus Budget Reconciliation Act of 1986, Pub. L. 99-509, 100 Stat. 1874, 1951, increased the section 6661 addition to tax to 25-percent for returns due after December 31, 1982, effective for such additions assessed after October 21, 1986. The 25-percent rate therefore applies to petitioner. See Pallotini v. Commissioner,90 T.C. 498">90 T.C. 498↩ (1988). . 50 percent of the statutory interest on $ 5,738.00, computed from April 15, 1983 to the earlier of the date of assessment or the date of payment. ↩. 50 percent of the statutory interest on $ 6,198.00, computed from April, 15, 1984, to the earlier of the date of assessment or the date of payment.↩3. The petition attempted to contest respondent's "jurisdiction," as an administrative agency, to issue petitioner a statutory notice on the grounds that he was a "Free Born White Male." It alleged no facts to contest the amounts of respondent's determination. ↩4. We permitted respondent to amend his Answer out of time to plead the fact that petitioner's conviction on three of the indictment's seven counts was subsequently reversed by the United States Court of Appeals for the Seventh Circuit due to violation of the Speedy Trial Act, 18 U.S.C. sec. 3161(a)(2)(1982). The opinion of the Court of Appeals is reported at United States v. Thomas,788 F.2d 1250">788 F.2d 1250 (7th Cir. 1986), cert. denied 479 U.S. 853">479 U.S. 853 (1986). See also United States v. Thomas,611 F. Supp. 881↩ (N.D. Ill. 1985). 5. On November 20, 1987, however, petitioner filed Motion For Court To Moves [sic] On Its Own Motion To Set Aside All All [sic] Procedures And Remanded 90 Day Letter Back To The Administrative Level (Appellate Division, Regional Counsel) For Deficiency Is An Administrative Matter And For A Redetermination On Conclusions Of Law By The IRS, Which Requires [sic] Exhaustion of All Administrative Remedies, Jurisdiction Challenge Supersedes All Other Issues And Is Always Timely, which asked this Court to "set aside all procedures and remand the 90-day letter back to the administrative level * ." In that motion, petitioner stated that he filed the petition herein "for the express and only purpose of the IRS to prove [sic] by a preponderance of the evidence * * that it did or did not have standing in this court to move against Petitioner, FREE BORN WHITE MALE, A MEMBER OF THE SOVEREIGNTY (See DRED SCOTT V [sic] SANFORD) a Citizen of the State of Illinois and of the Union." [Capitalization in original.] Petitioner's motion also contained other generic tax protester language. We denied petitioner's motion on December 21, 1987. Petitioner filed a motion objecting to our denial on January 22, 1988, and we denied that motion on January 29, 1988. ↩6. Cassidy v. Commissioner,T.C. Memo. 1986-133↩. 7. Granado v. Commissioner,T.C. Memo. 1985-237↩.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621827/	Robert H. Heller and Mary V. Heller v. Commissioner.Heller v. CommissionerDocket No. 74301.United States Tax CourtT.C. Memo 1959-238; 1959 Tax Ct. Memo LEXIS 10; 18 T.C.M. 1139; T.C.M. (RIA) 59238; December 23, 19591959 Tax Ct. Memo LEXIS 10">10 Held, payments made to Kenneth H. Runyon in 1953 were in payment for services rendered and deductible as business expenses of petitioner's business. Held, further, respondent correctly determined that weekly payments of $100, made by petitioners to Runyon's widow, Mary Jane Runyon, in each of the years 1954 and 1955, were a part of the total purchase price paid by petitioners for an insurance agency acquired from Runyon in 1953 and not deductible as business expenses. Lester M. Ponder, Esq., for the petitioners. Robert E. Johnson, Esq., for the respondent. VAN FOSSAN Memorandum Findings of Fact and Opinion Respondent determined deficiencies in petitioners' income taxes as follows: YearDeficiency1953$ 366.7819541,558.4019551,190.32The only question is whether certain weekly payments made by petitioners constituted a portion of the purchase price of an insurance agency, or were compensation for services rendered or, in the alternative, consideration for a covenant not to compete. Findings of Fact Some of the facts are stipulated, the stipulation being incorporated herein by this reference. Petitioners, husband and wife, 1959 Tax Ct. Memo LEXIS 10">11 reside in Decatur, Indiana. They filed joint Federal income tax returns for the calendar years 1953, 1954, and 1955 with the director of internal revenue at Indianapolis, Indiana. For convenience, Robert H. Heller will sometimes hereinafter be referred to as petitioner. Petitioner entered the real estate business in 1941 and the insurance business in 1945. Doing business as the Heller Insurance Agency he sold principally fire and casualty insurance and a small amount of life insurance. In 1953 Kenneth H. Runyon, the owner of the Decatur Insurance Agency, asked petitioner to come to his office. They discussed the difficulties of operating a one-man agency. Finally, Runyon proposed that petitioner purchase his agency and employ him for a few years. Runyon suggested a purchase price of $4,000. Runyon had been engaged in the insurance business since approximately 1940 and had built up outside connections which were valuable to him in obtaining insurance business. Petitioner regarded Runyon as about the best insurance agent in Decatur. It was petitioner's estimate that the net agency commissions of the Decatur Insurance Agency averaged approximately $13,250 for the calendar years1959 Tax Ct. Memo LEXIS 10">12 1950, 1951, and 1952. On July 17, 1953, petitioner and Runyon entered into a contract of sale whereby Runyon agreed to sell to petitioner his agency business as a going concern, including the good will of the agency, the exclusive right to use the trade name "Decatur Insurance Agency", copies of all insurance policies in force, including dailies (carbon copy of each policy that is written), current dailies, expirations (small card giving the date a policy expires), and steel cabinets containing the expirations and dailies. The purchase price named for these assets was $4,000. Excepted from the sale were cash on hand or in banks, the books of account, accounts receivable, and contingent commissions. Nor did petitioner acquire the life insurance business of the Decatur agency. Paragraph 6 of the contract provided as follows: "6. Seller Retained. The PURCHASERS Desire to retain the services of the SELLER in an advisory capacity, also as an insurance counselor and consultant in the operation of said business for a period of Six years from August 1, 1953, and shall pay to the SELLER at least the sum of $100.00 per week beginning August 1, 1953, and each week thereafter during said1959 Tax Ct. Memo LEXIS 10">13 period of time. In the event the SELLER retires or is totally disabled or dies at any time during the period covered by this agreement, to-wit August 1, 1959, the PURCHASERS shall continue to make such weekly payments in the sum of $100.00 to the SELLER or his wife, Mary Jane Runyon if she survives him, who shall also act as an insurance advisor and consultant to the PURCHASER, or said sum shall be paid to the SELLER'S heirs, administrators, or assigns in the event that both the SELLER and his wife die prior to August 1, 1959. To secure the payment of the weekly payments the PURCHASERS shall have executed a policy of insurance on the life of Robert H. Heller with the SELLER and his heirs, executor and assigns, beneficiaries thereunder, the premiums for the same to be paid by the PURCHASERS herein. In the event premiums are not paid by the PURCHASERS as they become due, then the SELLER shall have a right to declare this contract null and void, and all payments made hereunder shall be deemed to be liquidated damages and forfeited by the PURCHASERS AND the agency to become the property of the SELLER or the SELLER may elect to bring suit for the recovery of the balance due, or the SELLER1959 Tax Ct. Memo LEXIS 10">14 may pay the premiums on said policy of insurance and recover the same from the PURCHASERS plus 8% interest thereon." The contract included a covenant that Runyon would not, in Adams County, Indiana, canvass, solicit, or accept any business for any other insurance agency, from any clients of the Decatur agency or engage in the insurance business for a period of three years after leaving petitioner's employ. It was agreed that if Runyon should take over petitioner's business in addition to operating or counseling that of the Decatur Insurance Agency so that petitioner could devote more time to his real estate business or take a vacation, then petitioner would pay him additional money. The transfer of the assets of the Decatur Insurance Agency to petitioner was completed on August 1, 1953. For two or three weeks the agencies were operated separately; then, all the equipment was moved into petitioner's offices. "The Decatur Insurance Agency" and "The Heller Insurance Agency" were maintained as names. Runyon operated the Decatur agency, and for periods of time operated the Heller agency. He was named as manager of both. Runyon's operation of both agencies freed petitioner for real1959 Tax Ct. Memo LEXIS 10">15 estate work. At the time Runyon entered into the contract with petitioner he knew he was suffering from a fatal disease and could not expect to live a normal life span. He had been advised by his physician to put his house in order. Petitioner did not know of Runyon's condition until shortly before his death on December 9, 1953. Runyon's name was retained on the office windows during the years 1954 and 1955. At the time of the trial of this case the letterhead of the agency remained "Heller and Decatur Insurance Agencies." Pursuant to the contract of sale petitioner paid Runyon $4,000, plus $100 per week until his death. Petitioner also paid Runyon an $100additional per week while Runyon was actively operating the Heller as well as the Decatur agencies. After Runyon's death petitioner paid his widow, Mary Jane, $100 per week during each of the years 1954 and 1955. Petitioner withheld deductions for Federal income tax, social security tax, and unemployment and workmen's compensation insurance from these weekly payments. It was petitioner's belief before the purchase of the Decatur agency that Mary Jane was capable of computing insurance rates. Petitioner later learned that her1959 Tax Ct. Memo LEXIS 10">16 function had been to type the policies. After Runyon's death she was not asked to render any services to the Heller agency. On a few occasions, when petitioner saw her on the street, she advised him briefly as to matters concerning the Decatur agency. Respondent disallowed deductions claimed for salary and wages on petitioner's income tax returns for the years 1953, 1954, and 1955 in the respective amounts of $1,700, $5,300, and $5,200. Opinion VAN FOSSAN, Judge: The ultimate question is whether the payments of $100 per week, made by petitioner to Kenneth H. Runyon in 1953 and after his death to his widow in 1954 and 1955, constituted part of the purchase price paid by petitioner to Runyon for Runyon's insurance agency. Petitioner contends that the payments were reasonable compensation for services rendered by Runyon or, in the alternative, were consideration paid for a covenant not to compete. Respondent asserts that the payments constituted a portion of the price paid by petitioner for the purchase in 1953 of the Decatur Insurance Agency owned by Runyon. The contract provided that petitioner should pay $4,000 for the going agency business, including good will, exclusive1959 Tax Ct. Memo LEXIS 10">17 right to use the trade name "Decatur Insurance Agency," copies of all insurance policies in force, expiration cards, and steel cabinets. In addition, petitioner agreed to retain Runyon's services for six years at not less than $100 per week. In the event of Runyon's retirement or disablement the payments were to continue to be made to him, or in the event of his death the payments were to be made to his widow. In case of the death of both Runyon and his wife, the payments were to be made to his heirs, administrators, or assigns. Runyon agreed not to compete for a period of three years after leaving petitioner's employ. To secure the weekly payments petitioner was to execute an insurance policy on his life, naming Runyon as beneficiary. If petitioner failed to pay the premiums on the insurance policy Runyon was to have the right to declare the entire purchase contract null and void and redeem the property or bring suit for the balance due. Or, in the alternative, Runyon could pay the premiums and recover that amount, plus interest, from petitioner. The payments made to Runyon during his life would seem to fall in a different category from those made to his widow after his decease. 1959 Tax Ct. Memo LEXIS 10">18 In our opinion, they are clearly payment for services rendered, reasonable in amount, and accordingly deductible by petitioner as business expenses. Payments to Runyon's widow in 1954 and 1955 are not of the same character. They are not shown in the record to be reasonable payments for services actually rendered. The widow did nothing toward earning such payments. She made no contribution to the success of petitioner's business. As stated above the contract provided that if both Runyon and his widow should die during the six-year period, the payments were to be made to his heirs, executors, or assigns. We deem this provision to be important in the interpretation of the contract and to weigh heavily in support of respondent's determination. Clearly, these payments were not deferred payments for services rendered by decedent or his wife. Equally clearly, this is not a case where an employer, grateful for past services rendered, pays the widow of an officer or employee appropriate sums after the death of such officer or employee. Runyon served petitioner for only four months. As we see it, the provision for payments to the heirs, executors, or assigns strongly points to the conclusion1959 Tax Ct. Memo LEXIS 10">19 that the payments were not current expenses but were capital expenditures and were part of the consideration for the acquisition of the business itself. Petitioner also contends, as an alternative, that the stipulated payments were in payment for the provision of the contract forbidding Runyon from competing for a period of three years after leaving petitioner's employ. There is nothing in the facts that permits us to conclude that any severable consideration was considered or provided because of the covenant not to compete. Nor is there any standard whatever set up by which to value such covenant. It is only reasonable to conclude that Runyon, facing an early death, would have put little, if any, value on the covenant against competition. The contract assigned no value to such covenant and there is no evidence that amortization of the contract was claimed as a deduction by petitioner. Cf. . Accordingly, we are unable to attribute to the covenant against competition any part of the payments made by petitioner to the widow. The above conclusions leave for consideration whether or not the payments to the widow1959 Tax Ct. Memo LEXIS 10">20 under the contract were part of the total payment for the business itself and thus were capital expenditures. If we were to peer into Runyon's mind at the time he entered into the contract we would find that he knew that his life span was strictly limited by a malignant disease. He was thinking of retirement and moving to Florida. He had been advised by his physician in 1952 of the fact that he had a fatal disease and that he should put his house in order. In consonance with such advice, Runyon made the first move toward negotiation for the sale of his business to petitioner. He was concerned about provision for his wife and children after his demise. Undoubtedly, despite the provision in the contract that his wife was to act as adviser or consultant, he must have been aware that his wife was not equipped to render valuable services to the purchaser of the business. The dominating thought in Runyon's mind clearly was to protect and provide for his family and in their interest to make the best financial deal possible in the sale of the business. As above noted, the provision of the contract that in the event of the death of Runyon and his wife the payments were to be made to1959 Tax Ct. Memo LEXIS 10">21 his heirs, executors, or assigns, weighs heavily against petitioner's contention. The fact that petitioner withheld deductions for Federal income tax, social security tax, and unemployment and workmen's compensation insurance from some of the weekly payments is not conclusive. It shows at most the interpretation which petitioner made of the contract. This fact is outweighed by other facts of record which have led us to the conclusion, above stated, that the payments were not for services rendered or in consideration of the covenant against competition. On the whole record we conclude that the weekly payments to Runyon's widow were an integral part of the purchase price of the agency and were neither compensation for services nor made in support of the covenant not to compete. Decision will be entered under Rule 50.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621828/	WILLIAM FONTAINE ALEXANDER III, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, RespondentAlexander v. CommissionerDocket No. 10406-77.United States Tax CourtT.C. Memo 1979-244; 1979 Tax Ct. Memo LEXIS 280; 38 T.C.M. 969; T.C.M. (RIA) 79244; June 26, 1979, Filed William Fontaine Alexander III, pro se. Scott W. Gray, for the respondent. FORRESTERMEMORANDUM FINDINGS OF FACT AND OPINION FORRESTER, Judge: Respondent has determined a deficiency in petitioner's Federal income tax for the taxable year 1975 in the amount of $1,470.99. 1 As a result of concessions by the parties, the only issue for our decision is whether petitioner, William Fontaine Alexander III (hereinafter petitioner), is entitled to a deduction under section 215, 21979 Tax Ct. Memo LEXIS 280">281 for payments made pursuant to a voluntary oral separation agreement for the support of Marilyn Ruth Alexander (hereinafter Marilyn) during the first seven months of 1975 prior to their divorce on August 20 of that year. FINDINGS OF FACT Some of the facts have been stipulated and are so found. Petitioner resided in Tempe, Arizona, on the date the petition was filed herein. He was then a single individual who timely filed his Federal income tax return for the taxable year ending December 31, 1975. Petitioner was married to Marilyn on May 31, 1958, and during their marriage had two children. In October 1974, petitioner and Marilyn separated and began living in separate residences. Following their separation, but prior to their eventual divorce on August 20, 1975, petitioner1979 Tax Ct. Memo LEXIS 280">282 made monthly payments of $1,000 to Marilyn which the parties agree were $500 for her support and $500 for the support of the children. These payments were not made pursuant to any court decree or order; nor were they made pursuant to any written agreement. Petitioner and Marilyn were divorced on August 20, 1975, under a decree which required him, inter alia, to pay Marilyn $500 per month as spousal maintenance. Such payments were made for the months of August through December 1975, and the $2,500 so paid has been allowed by respondent as an alimony deduction. Petitioner deducted the entire $6,000 he paid Marilyn for spousal maintenance in 1975 on his return for that year. Respondent has disallowed the $3,500 of that amount paid for the months of January through July, determining that it does not qualify under section 71(a)(2). OPINION Section 215(a) allows a husband to deduct on his return only those amounts paid to his wife that are includable in the gross income of the wife by virtue of section 71. The controlling statute in this case is section 71(a) which delineates those situations when payments from a husband to a wife, to be used for her support, are required to1979 Tax Ct. Memo LEXIS 280">283 be included in her gross income. Section 71(a) enumerates three general rules for gross income inclusion of payments incurred under certain decrees or agreements. 31979 Tax Ct. Memo LEXIS 280">284 Section 71(a) and 215 are to be construed in pari materia. 4 That is, with an exception not applicable here, "there shall be allowed as a deduction amounts includible under section 71 in the gross income of his wife." Thus, with the exception noted, to discuss includability by the wife and deductibility by the husband is to talk of different sides of the same coin, and we need only decide whether the payments made by petitioner to his former spouse, Marilyn, were periodic separation payments under the provisions of section 71. If we answer this in the affirmative, then such payments will be qualified deductions under section 215. The parties are in agreement that the payments in issue of $500 per month during separation1979 Tax Ct. Memo LEXIS 280">285 were not made pursuant to a decree of legal separation, written separation agreement, or decree for support. The respondent does not challenge petitioner's alimony deductions made for the support of Marilyn after the decree of divorce which eliminates from consideration section 71(a)(1). Furthermore, section 71(a)(3) is not at issue because there was no decree for support. The petitioner argues that his oral agreement to make the support payments, coupled with their actual payment, is equivalent to the written agreement required by section 71(a)(2). We do not agree. Both the statute above and the respondent's regulations under section 71 are drafted to require a separation agreement to be in writing. See section 1.71-1(b)(2)(i), Income Tax Regs. An examination of the legislative history reveals that both the committee report of the House, as well as that of the Senate, require a written agreement for deductions under this statutory provision. These reports provide that the treatment of separation payments as deductions "is to be effective only with respect to written separation agreements." H. Rept. No. 1337, to accompany H.R. 8300 (Pub. L. No. 591), 83d Cong., 2d Sess. 91979 Tax Ct. Memo LEXIS 280">286 (1954); S. Rept. No. 1622, to accompany H.R. 8300 (Pub. L. No. 591), 83d Cong., 2d Sess. 10 (1954). Furthermore, the cases which have considered the question have steadfastly held that the statute must be applied as it is written, thereby requiring the separation agreement to be in writing. 5 In Clark v. Commissioner,40 T.C. 57">40 T.C. 57, 40 T.C. 57">58 (1963), we stated: The plain words of the statute (section 71(a)(2)) require that there be a "written separation agreement executed after the date of the enactment of this title [Aug. 16, 1954]," as a condition precedent to deduction by the petitioner of the support payments * * * We have great sympathy for petitioner's position. He contends, and respondent does not seem to dispute, that Marilyn returned, and paid tax on, the entire $6,000 she received as spousal maintenance in 1975. Respondent has urged petitioner to advise Marilyn to file a refund claim based upon the $3,500 here in issue and petitioner has done so, but the record does not reveal whether she has taken any action. She1979 Tax Ct. Memo LEXIS 280">287 should, of course, file such claim without further delay. It is well settled that deductions are a matter of legislative grace, and the petitioner must bring himself squarely within the provisions of the statute granting the deduction to receive relief herein. New Colonial Ice Co. v. Helvering,292 U.S. 435">292 U.S. 435 (1934); Harper Oil Co. v. United States,425 F.2d 1335 (10th Cir. 1970). A statutory amendment was necessary to place written separation agreements on the same legal footing as parties divorced or separated pursuant to a court decree for alimony purposes, 6 and it would require legislation to do the same for the oral separation agreement here. The mere fact that Congress has not passed a statute to petitioner's liking is not grounds for asserting that a "common-sense" approach should prevail. 292 U.S. 435">New Colonial Ice Co. v. Helvering,supra;Tamko Asphalt Products, Inc. v. Commissioner,71 T.C. 824">71 T.C. 824 (1979). It is in the interest of sound public policy and administrative convenience that payments made under1979 Tax Ct. Memo LEXIS 280">288 non-written agreements be disallowed. Without this rule, the respondent would have no means of testing the validity of separation agreements and the taxpayer's liability under section 71 and section 215. We therefore must hold for respondent. Decision will be entered for the respondent.Footnotes1. This is the stated deficiency in the statutory notice of deficiency. The deficiency now sought by the respondent is less than this amount because the petitioner has subsequently agreed to and has been assessed $554.45, leaving a disputed deficiency of $916.54. ↩2. Unless otherwise indicated, all statutory references are to the Internal Revenue Code of 1954, as amended and in effect during the taxable year in issue.↩3. 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.↩4. See Stock v. Commissioner,551 F.2d 614 (5th Cir. 1977); Fox v. United States,510 F.2d 1330, 1333 (3d Cir. 1975); Houston v. Commissioner,442 F.2d 40, 42 (7th Cir. 1971); Stevens v. Commissioner,439 F.2d 69, 71 (2d Cir. 1971); Van Orman v. Commissioner,418 F.2d 170 (7th Cir. 1969); see, too, Hyde v. Commissioner,301 F.2d 279, 282↩ (2d Cir. 1962).5. See Manupello v. Commissioner,T.C. Memo. 1976-237; Kraskow v. Commissioner,T.C. Memo. 1964-234↩.6. S. Rept. No. 1622, to accompany H.R. 8300 (Pub. L. No. 591), 83d Cong., 2d Sess. 10 (1954).↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621830/	Leon and Eddie, Inc., Petitioner, v. Commissioner of Internal Revenue, RespondentLeon & Eddie, Inc. v. CommissionerDocket No. 15914United States Tax Court10 T.C. 1115; 1948 U.S. Tax Ct. LEXIS 161; June 14, 1948, Promulgated 1948 U.S. Tax Ct. LEXIS 161">161 Decision will be entered for the petitioner. In determining the excess profits credit of petitioner for the fiscal year ended August 31, 1941, the Commissioner, acting under the provisions of section 713 (f) (7) (B), reduced the excess profits net income of the petitioner's base period year ended August 31, 1940, which petitioner had computed correctly under section 713 (f) (7) (A), by the sum of $ 3,111.29 representing three-twelfths of a deficit of $ 12,445.15 in petitioner's excess profits net income for petitioner's base period year ended August 31, 1939. Held, that section 713 (f) (7) (B) does not authorize such a reduction and the action of the Commissioner was error. Saul S. Freeman, C. P. A., for the petitioner.Thomas R. Wickersham, Esq., for the respondent. Black, Judge. BLACK 10 T.C. 1115">1115 OPINION.The Commissioner has determined a deficiency in petitioner's excess profits tax for the fiscal year ended August 31, 1941, of $ 554.20. To this determination of the Commissioner the petitioner assigns error as follows:In determining the excess profits credit of the petitioner for the fiscal year ended August 31, 1941, based on income of the base period years, 1948 U.S. Tax Ct. LEXIS 161">162 the Commissioner erroneously reduced the excess profits net income of the petitioner's base period year ended August 31, 1940 by the sum of $ 3,111.29, representing three twelfths of the deficit of $ 12,445.15 in excess profits net income for the petitioner's base period year ended August 31, 1939.The facts have been stipulated and we summarize them as follows:The petitioner is a New York corporation, with its principal office in New York City. Within the time provided by law the petitioner filed an excess profits tax return (Form 1121) for its fiscal year ended 10 T.C. 1115">1116 August 31, 1941, with the collector of internal revenue of the third district of New York, showing a tax due of $ 2,354.63.The excess profits credit for the fiscal year ended August 31, 1941, was determined by the petitioner and the Commissioner under the method based on income. The excess profits net income or deficit in the excess profits net income of the petitioner, as defined under sections 711 (b) and 713 (c), respectively, of the Internal Revenue Code, for the four fiscal years comprising its base period were as follows:Year ended Aug. 31, 1937, deficit in excess profits netincome($ 11,098.48)Year ended Aug. 31, 1938, deficit in excess profits netincome(11,299.36)Year ended Aug. 31, 1939, deficit in excess profits netincome(12,445.15)Year ended Aug. 31, 1940, excess profits net income21,444.75 1948 U.S. Tax Ct. LEXIS 161">163 In calculating the excess profits net income of the base period year ended August 31, 1940, as limited by section 713 (f) (7), in order to determine the average base period net income under section 713 (f) of the Internal Revenue Code, the petitioner reduced the actual excess profits net income of $ 21,444.75 by the sum of $ 5,361.19 to $ 16,083.56. The reduction of $ 5,361.19 represents three-twelfths of the excess profits net income of $ 21,444.75 for the base period year ended August 31, 1940. Inasmuch as there was no excess profits net income for the last preceding base period year (August 31, 1939) but a deficit in excess profits net income, no additional sum was added by petitioner to the amount of $ 16,083.56.In calculating the excess profits net income of the base period year ended August 31, 1940, as limited by section 713 (f) (7), the Commissioner reduced the excess profits net income of $ 21,444.75 to $ 16,083.56, as petitioner had done on its return, and further reduced the excess profits net income for that base period year by $ 3,111.29 to $ 12,972.27. The reduction of $ 3,111.29 represents three-twelfths of the deficit of $ 12,445.15 in excess profits net income1948 U.S. Tax Ct. LEXIS 161">164 for the last preceding base period year (the year ended August 31, 1939). This latter action of the Commissioner resulted in the excess profits tax deficiency which we have before us for decision.The only issue involved in this proceeding is one of law, and the parties agree that it is one of first impression. In so far as we have been able to ascertain, it is. The question raised by the pleadings may be stated thus: In computing its excess profits credit under the method based on income, where its last base period year ended on August 31, 1940, in applying the provisions of section 713 (f) (7) (B), must the taxpayer reduce its excess profits net income for the year ended August 31, 1940, arrived at under section 713 (f) (7) (A), by three-twelfths of 10 T.C. 1115">1117 a deficit in excess profits net income for the base period year ended August 31, 1939?Section 713 (f) is printed in the margin. 1 The particular parts of section 713 (f), commonly referred to as the growth formula section, with which we are here concerned are 713 (f) (7) (A) and (B). The parties are in agreement in the application of (7) (A). In applying that provision of the statute, petitioner and respondent agree1948 U.S. Tax Ct. LEXIS 161">165 that peitioner's excess profits net income of $ 21,444.75 for its fiscal year ended August 31, 1940, should be reduced by $ 5,361.19. This reduction represents three-twelfths of petitioner's excess profits net income for the base period year ended August 31, 1940, being the fraction of the fiscal year extending beyond May 31, 1940. In its excess profits 10 T.C. 1115">1118 tax return petitioner treated the application of (7) (A) in the manner above described.1948 U.S. Tax Ct. LEXIS 161">166 The substance of the Commissioner's position is to say to the petitioner: So far, so good, but in applying the provisions of (7) (B) you should have gone further and subtracted from the $ 16,083.56 which you reached under (7) (A), the sum of $ 3,111.29 representing three-twelfths of your deficit of $ 12,445.15 in excess profits net income for the last preceding base period year (the year ended August 31, 1939). By thus applying (7) (A) and (B), the Commissioner would reach a base period excess profits net income for petitioner's fiscal year ended August 31, 1940, of $ 12,972.27. The petitioner contends that the Commissioner's application of (7) (B) in the manner above stated is not authorized by the language of the statute nor by any Treasury regulation. We agree with petitioner. Section 713 (f) (7) (B) (printed in the margin, supra) reads:(B) By adding to the amount ascertained under subparagraph (A) an amount which bears the same ratio to the excess profits net income for the last preceding taxable year as such number of months after May 31, 1940, bears to the number of months in such preceding year. The amount added under this subparagraph shall not exceed the amount 1948 U.S. Tax Ct. LEXIS 161">167 of the excess profits net income for such last preceding taxable year.The above language of the statute refers to "adding" something and not to "subtracting" something. It is true that there are some provisions of the statute where minus quantities are to be taken into consideration in doing the "adding" required by the statute, but we do not think this is one of those situations.In section 713 (f) (7) only the term "excess profits net income" appears, demonstrating, we think, that in the application of that paragraph Congress was not concerned with "deficits in excess profits net income." If, for example, petitioner's last base period year (the year ended August 31, 1940) had shown a "deficit in excess profits tax net income," no adjustment under (7) (A) would have been required, since the application of the paragraph in that manner would give a taxpayer an undue advantage by reducing the deficit under 713 (f) (7) (A) based on the number of months after May 31, 1940, to the close of its fiscal year ended after that date.If, as in the instant case, the last base period year shows income, but the last preceding base period year shows a deficit, then the income for the last base 1948 U.S. Tax Ct. LEXIS 161">168 period year is reduced under 713 (f) (7) (A), based on the number of months after May 31, 1940, to the close of its fiscal year. Having eliminated the growth presumed to have been occasioned by the National Defense Program after May 31, 1940, by reducing the income as aforesaid under 713 (f) (7) (A) it was not, in our opinion, 10 T.C. 1115">1119 intended by Congress to further reduce the base period net income for that year under 713 (f) (7) (B) by a proportionate share of the deficit in the last preceding base period year. Rather, we think, section 713 (f) (7) (B) was intended to compensate the taxpayer for the reduction under 713 (f) (7) (A) by restoring to the income of the last base period year a proportionate share of the income for the last preceding base period year. If, as in the instant case, there was no excess profits tax net income for the preceding year, then, of course, the taxpayer gets no restoration.We think the Senate Finance Committee Report No. 75, 77th Cong., 1st sess., supports the foregoing view. The committee report, among other things, states:The first of June 1940 marks generally the beginning of the industrial expansion under the National Defense Program. 1948 U.S. Tax Ct. LEXIS 161">169 It was because of this that the amortization allowance in the Second Revenue Act of 1940 was confined to construction and acquisition after June 10, 1940. Corporations whose last taxable year in the base period extended beyond May 31, 1940, may have greatly expanded their facilities of production and, consequently, their income after that date. In giving effect to the factor of growth during the base period, equitable demands do not indicate that growth after May 31, 1940 should be taken into account.For this reason, section 713 (f) (7), as set out in section (4) of the bill, limits the benefits to be accorded to the growth factor to increases occurring prior to June 1, 1940. In order to achieve this result in the determination of the growth factor, the excess profits net income for any taxable year in the base period ending after May 31, 1940, is reduced by the ratio which the number of months in such year after May 31, 1940, bears to the entire number of months in such year. To such income so reduced is then added an amount which bears the same ratio to the excess profits net income of the preceding year as the number of months after May 31, 1940, bears to the number of 1948 U.S. Tax Ct. LEXIS 161">170 months in such preceding taxable year. [Italics supplied.]The language set forth above in italics indicates, we think, legislative intent to compensate for the loss of the base period excess profits net income accrued after May 31, 1940, by the "addition" of comparative preceding income which had not been influenced by the industrial expansion occasioned by the National Defense Program beginning on June 1, 1940. Nothing at all is said in the committee report about subtracting any part of a deficit in excess profits tax net income of the preceding base period year, and we do not think any was intended. The illustrations given in the committee report emphasize this interpretation, since in every case the base period fiscal year immediately preceding the fiscal year ended after May 31, 1940, is set forth with an excess profits net income rather than a deficit in excess profits net income. The illustrations given in the Treasury regulations are substantially the same as those given in the Senate 10 T.C. 1115">1120 Finance Committee report. 2 If section 713 (f) (7) (B) was intended to subtract something from the base period net income arrived at under section 713 (f) (7) (A), where the preceding1948 U.S. Tax Ct. LEXIS 161">171 base period year showed a deficit in excess profits tax net income, it seems strange that neither the Senate Finance Committee report nor the Treasury regulations give any such illustrations, although giving illustrations where the preceding base period year showed excess profits net income.1948 U.S. Tax Ct. LEXIS 161">172 As we have already pointed out, petitioner, by applying the limitations contained in (7) (A), has reduced its excess profits net income of $ 21,444.75 for the base period year ended August 31, 1940, by $ 5,361.19, reaching a figure of $ 16,083.56 excess profits tax net income for that year. The Commissioner would still further reduce that figure by "adding" $ 3,111.29 deficit for the last three months of the base period year ended August 31, 1939.For reasons we have already stated, we do not think that action is warranted by either the applicable statute or the Treasury regulations. Where the meaning is clear, as we think it is in this case, the statute must be enforced as written. Girard Investment Co. v. Commissioner, 122 Fed. (2d) 843. On this issue we sustain the petitioner.Decision will be entered for the petitioner. Footnotes1. SEC. 713. EXCESS PROFITS CREDIT -- BASED ON INCOME.* * * *(f) Average Base Period Net Income -- Increased Earnings in Last Half of Base Period. -- The average base period net income determined under this subsection shall be determined as follows:(1) By computing, for each of the taxable years of the taxpayer in its base period, the excess profits net income for such year, or the deficit in excess profits net income for such year;(2) By computing for each half of the base period the aggregate of the excess profits net income for each of the taxable years in such half, reduced, if for one or more of such years there was a deficit in excess profits net income, by the sum of such deficits. For the purposes of such computation, if any taxable year is partly within each half of the base period there shall be allocated to the first half an amount of the excess profits net income or deficit in excess profits net income, as the case may be, for such taxable year, which bears the same ratio thereto as the number of months falling within such half bears to the entire number of months in such taxable year; and the remainder shall be allocated to the second half;(3) If the amount ascertained under pargaraph (2) for the second half is greater than the amount ascertained for the first half, by dividing the difference by two;(4) By adding the amount ascertained under paragraph (3) to the amount ascertained under paragraph (2) for the second half of the base period;(5) By dividing the amount found under pargaraph (4) by the number of months in the second half of the base period and by multiplying the result by twelve;(6) The amount ascertained under paragraph (5) shall be the average base period net income determined under this subsection, except that the average base period net income determined under this subsection shall in no case be greater than the highest excess profits net income for any taxable year in the base period. For the purpose of such limitation if any taxable year is of less than twelve months, the excess profits net income for such taxable year shall be placed on an annual basis by multiplying by twelve and dividing by the number of months included in such taxable year.(7) For the purposes of this subsection, the excess profits net income for any taxable year ending after May 31, 1940, shall not be greater than an amount computed as follows:(A) By reducing the excess profits net income by an amount which bears the same ratio thereto as the number of months after May 31, 1940, bears to the total number of months in such taxable year; and(B) By adding to the amount ascertained under subparagraph (A) an amount which bears the same ratio to the excess profits net income for the last preceding taxable year as such number of months after May 31, 1940, bears to the number of months in such preceding year. The amount added under this subparagraph shall not exceed the amount of the excess profits net income for such last preceding taxable year.(C) If the number of months in such preceding taxable year is less than such number of months after May 31, 1940, by adding to the amount ascertained under subparagraph (B) an amount which bears the same ratio to the excess profits net income for the second preceding taxable year as the excess of such number of months after May 31, 1940, over the number of months in such preceding taxable year bears to the number of months in such second preceding taxable year.↩2. Regulations 109 (as amended by T. D. 5045), sec. 30.713-1:"For the purpose of computing the average base period net income thereunder, section 713 (f) (7) provides certain limitations on the amount of the excess profits net income for any taxable year in the base period ending after May 31, 1940."Section 713 (f) (7) (A) and (B) may be illustrated by the following example:"Example. The Y Corporation makes its income tax returns on the basis of the fiscal year ending September 30. It had an excess profits net income of $ 400,000 for the fiscal year ended September 30, 1939. It had an excess profits net income of $ 600,000 for the fiscal year ended September 30, 1940, before the application of section 713 (f) (7) (A) and (B). Both of these taxable years are in its base period but four months of the fiscal year ended September 30, 1940, are after May 31, 1940. Under section 713 (f) (7) (A) and (B) the excess profits net income of the corporation for the fiscal year beginning October 1, 1939, and ended September 30, 1940, is $ 533,333.33, computed as follows:↩(1) Excess profits net income before application ofsection 713 (f) (7) (A) and (B)$ 600,000.00 (2) Amount by which item (1) is to be reduced undersection 713 (f) (7) (A) (four-twelfths of $ 600,000)200,000.00 (3) Item (1) less item (2) ($ 600,000 minus $ 200,000)400,000.00 (4) Amount to be added to item (3) undersection 713 (f) (7) (B) (four-twelfths of $ 400,000)133,333.33 (5) Excess profits net income for fiscal year endedSeptember 30, 1940, after application of section 713(f) (7) (item (3) plus item (4),$ 400,000 plus $ 133,333.33)533,333.33"	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621832/	George C. Dade v. Commissioner. * Jesse E. Dade v. Commissioner. Martin Anderson v. Commissioner. Robert E. Dade v. Commissioner. Dade v. CommissionerDocket Nos. 6825, 6826, 6827, 6837.United States Tax Court1946 Tax Ct. Memo LEXIS 121; 5 T.C.M. 670; T.C.M. (RIA) 46181; July 31, 1946Briggs G. Simpich, Esq., 1140 Woodward Bldg., Washington, D.C., for the petitioners. Walt Mandry, Esq., for the respondent. OPPERMemorandum Findings of Fact and Opinion OPPER, Judge: These consolidated proceedings involve income tax deficiencies for the year ended December 31, 1941, in the following amounts: DocketNo.PetitionerAmount6825George C. Dade$6,851.866826Jesse E. Dade6,566.546827Martin Anderson338.306837Robert E. Dade6,697.311946 Tax Ct. Memo LEXIS 121">122 The single issue common to the proceedings is whether the amounts, or any part thereof, paid by petitioners' corporate employer to a trust fund and used by the trustees of such fund to purchase combination life insurance and annuity contracts on petitioners' lives, among others, constitute taxable income to petitioners under section 22 (a) of the Internal Revenue Code in the year 1941, the year in which the policies were applied for and premiums paid. Some of the facts have been stipulated. Findings of Fact The stipulated facts are hereby found. Petitioners are residents of New York and filed their income tax returns for 1941 on the cash receipts and disbursements basis with the collector of internal revenue for the first district of New York. They are associated with Dade Brothers, Inc., a New York corporation, organized in 1938. (It will hereinafter be referred to as the "corporation.") Originally the corporation was engaged in general construction and trucking operations but during the years 1940 and 1941 its principal activity was the preparation and boxing of aircraft for shipment abroad. The following summary shows the names of shareholders, 1946 Tax Ct. Memo LEXIS 121">123 officers, and directors of the corporation: George C. Dade (sonPresident, Treas-of Jesse E. Dade)35 sharesurer & DirectorRobert E. Dade (sonVice-Pres., Sec'yof Jesse E. Dade)35 sharesand DirectorJesse E. Dade10 sharesChairman of Bd.Nellie Dade (wife ofof DirectorsJesse E. Dade)10 sharesAss't Treas. andEdith M. Dade (wifeDirectorof Geo. C. Dade)10 sharesDirectorOn December 1, 1941, an agreement was entered into by and between the corporation and George C. Dade, Robert E. Dade, and James B. Dailey, Jr., who was then a parttime employee of the corporation, as trustees of the Dade Brothers, Inc., Employees Trust Fund for the establishment of a "private bonus, profit-sharing employee participation plan." Under the terms of the agreement the corporation paid over to the trustees the sum of $46,500 on December 30, 1941. The trustees were to administer the sums paid over to them "solely for the following purposes": (a) Purchase of insurance or annuities on the lives of eligible employees. (b) Investment in securities which may be legal investment under the Laws of the State of New York for insurance companies or1946 Tax Ct. Memo LEXIS 121">124 savings institutions. (c) Deposit or accrual of funds in a recognized savings institution designated by the Trustees. (d) Payment of the expenses of the administration of the Trust and the maintenance of a checking account for such purpose. Those eligible to participate under the plan were the salaried employees and officers of the corporation who shall have earned or been paid over $2,000 for or during the calendar year 1941. Provision was also made to cover contingencies of the resignation, retirement or discharge of a participating employee. Ten officers and employees of the corporation were paid salaries in excess of $2,000 each during 1941, and therefore became eligible for participation in the plan. They were: SalaryGeorge C. Dade, President, Treasurer,and Director$25,000.00Jesse E. Dade, Chairman of the Board28,125.00Robert E. Dade, Vice-President, Secre-tary, and Director21,875.00Martin R. Anderson, ConstructionManager4,620.00James B. Dailey, Jr., Comptroller3,900.00Charles G. Wayne, Plant Foreman3,265.00Peter H. Houck, Plant Foreman2,585.00Conrad J. Schroeder, Plant Foreman2,678.75John E. Foster, Plant Foreman2,309.00Jack P. Strenge, Plant Foreman2,485.371946 Tax Ct. Memo LEXIS 121">125 On December 29, 1941, the trustees issued a check for $46,004.48 to Travelers' Insurance Company (hereinafter referred to as the "insurer") covering premiums on single premium insurance policies on the lives of the aforementioned 10 individuals. The insurer deposited the check on December 31, 1941. The following policies were issued on the lives of petitioners: George C. DadePetitioner'sFacePolicy No.Contract DateAgeType of PolicyAmountPremium2,208,216Jan. 2, 194229Single Premium Insurance to$10,000$6,984.30Age 65 with retirement in-come2,208,2175,0003,492.152,208,2182,8972,023.35Jesse E. Dade2,208,783Jan. 5, 194263Single Premium 10-year en-14,23012,494.08dowment; Rider dated Jan.8, 1942 provided for an op-tional life income in lieuof cash surrender value atmaturityMartin R. Anderson2,208,982Jan. 5, 194244Single Premium Retirement3,5732,500.42EndowmentRobert E. Dade2,202,586Dec. 5, 194126Single Premium Insurance to10,0006,558.60Age 65 with retirement in-come2,202,5875,0003,279.302,205,746Dec. 19, 19414,0602,662.791946 Tax Ct. Memo LEXIS 121">126 Applications for all of the policies, except those issued on the life of Robert E. Dade, were executed by the trustees. Robert E. Dade, executed the applications for his own policies, at the request of the insurer, as he was traveling continuously. His policies were intended to be part of the plan established under the agreement of December 1, 1941, and on December 30, 1941, he assigned his right, title, claim, interest, and benefit under the three policies to the trustees. Each of the policies, pursuant to its terms, was "placed in force upon payment of the premium and the [delivery] of [the] * * contract during the lifetime and good health of the insured." No payments other than that of $46,500, hereinbefore referred to, have been made to the trustees by the corporation. The corporation had 246 employees during the year 1941, of whom 236 earned less than $2,000 each during that year. Its employees increased to 2,000 for the year 1944. After V-J Day the number of employees decreased sharply and on October 27, 1945, the total number employed was 261. Its gross sales were approximately $200,000 for the year 1940, $1,000,000 for the year 1941, $5,000,000 for the year 1942, 1946 Tax Ct. Memo LEXIS 121">127 and $12,000,000 for the year 1943. The corporation had no pension plan, bonus or profit-sharing plan, or program with respect to its employees generally, and none of its employees, other than petitioners and six others, received pension or retirement benefits. Respondent in his notice of deficiency determined, with reference to the premiums paid the insurer by the trustees for the combination insurance and retirement income policies on petitioners' lives that they constituted "income as additional compensation * * taxable under the provisions of section 22 (a) of the Internal Revenue Code," to the respective petitioners. Opinion This proceeding presents a single issue - whether payments made by an employer to a trust and by it to an insurance company for single premium annuity and insurance coverage of petitioners, who were its employees, is taxable to the latter as additional compensation for their services. No question of deductibility by the employer under section 23, see, e.g., Chapman Chevrolet Co., Inc., 7 T.C. 428">7 T.C. 428 (July 31, 1946), or of taxation of the trust under section 165, is involved. The four original petitioners included1946 Tax Ct. Memo LEXIS 121">128 three who between them owned 80 percent of the voting stock of the employer and whose wives owned the balance; and who constituted a majority of its board of directors. Creation of the trust and payment to it could not have been accomplished except by their contrivance. If they had chosen to receive the premiums as salary and themselves secured the policies, no other person could have interfered. It would then have made no difference that actual delivery by the insurance company was postponed to the succeeding year. Cf. Renton K. Brodie, 1 T.C. 275">1 T.C. 275. We think the control of the situation by the three petitioners in question 1 demonstrates that they turned their backs upon the income, John A. Brander, 3 B.T.A. 231">3 B.T.A. 231; and that it is nevertheless taxable to them as constructively received. D. D. Hubbell, 3 T.C. 626">3 T.C. 626, affirmed (C.C.A., 6th Cir.), 150 Fed. (2d) 516; Richard R. Deupree, 1 T.C. 113">1 T.C. 113. Robert P. Hackett, 5 T.C. 1325">5 T.C. 1325, even as regards the incidental statements not1946 Tax Ct. Memo LEXIS 121">129 necessary to the decision, is not authority otherwise. It did not there appear that the employee-stockholders were in control of the employer's voting stock, and particularly that the financial interest was confined to so small a family group. None of these observations, however, apply to petitioner Anderson. He was not entitled to draw the additional compensation in the year before us, cf. 1 T.C. 113">Richard R. Deupree, supra; he did not receive the policy in that year, cf. 1 T.C. 275">Renton K. Brodie, supra; and he did not so participate in control of the employer that its conduct in withholding the payment could be said to have been the result of his own act. Cf. 3 B.T.A. 231">John A. Brander, supra. Limiting our conclusion to the tax year before us, we find no warrant for attributing this income to petitioner Anderson. Clifton B. Russell, 5 T.C. 974">5 T.C. 974. Decision in Docket No. 6825 previously entered for respondent on June 14, 1946, pursuant to stipulation filed June 11, 1946. Decisions in Docket Nos. 6826, 6827, and 6837 will be entered under Rule 50. Footnotes*. Decision in this proceeding was entered for respondent on June 14, 1946, pursuant to stipulation of the parties.↩1. Petitioner George C. Dade subsequently consented to respondent's determination and as to him an order has already been entered.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4562792/	DLD-268 NOT PRECEDENTIAL UNITED STATES COURT OF APPEALS FOR THE THIRD CIRCUIT ___________ No. 20-1351 ___________ RAYMOND AIGBEKAEN, Appellant v. FEDERAL BUREAU OF PRISONS; WARDEN FORT DIX FCI ____________________________________ On Appeal from the United States District Court for the District of New Jersey (D.C. Civil Action No. 1:19-cv-19844) District Judge: Honorable Noel L. Hillman ____________________________________ Submitted for Possible Summary Action Pursuant to Third Circuit LAR 27.4 and I.O.P. 10.6 July 23, 2020 Before: RESTREPO, PORTER, and SCIRICA, Circuit Judges (Opinion filed: September 3, 2020) _________ OPINION* _________ PER CURIAM Pro se appellant Raymond Aigbekaen appeals the District Court’s order dismissing his petition filed pursuant to 28 U.S.C. § 2241. For the reasons detailed below, we will * This disposition is not an opinion of the full Court and pursuant to I.O.P. 5.7 does not constitute binding precedent. summarily affirm the District Court’s judgment. See 3d Cir. L.A.R. 27.4; 3d Cir. I.O.P. 10.6. In 2017, a jury in the United States District Court for the District of Maryland found Aigbekaen guilty of sex trafficking of a minor and conspiracy to commit sex trafficking of a minor, 18 U.S.C. §§ 1591(a) and 1591(c), among other offenses. He was sentenced to 180 months of imprisonment. The United States Court of Appeals for the Fourth Circuit affirmed. United States v. Aigbekaen, 943 F.3d 713 (4th Cir. 2019). While confined at FCI Fort Dix, Aigbekaen filed a petition under 28 U.S.C. § 2241 in the United States District Court for the District of New Jersey. He relied on the Supreme Court’s decision in Rosemond v. United States, 572 U.S. 65 (2014), to challenge his § 1591 convictions.1 In Rosemond, the Supreme Court held that a defendant can be convicted of aiding and abetting an offense under 18 U.S.C. § 924(c) only if the Government proves that he “actively participated in the underlying drug trafficking or violent crime with advance knowledge that a confederate would use or carry a gun during the crime’s commission.” Id. at 67. The District Court dismissed the petition for lack of jurisdiction, holding that Aigbekaen failed to demonstrate that he had no earlier opportunity to raise his Rosemond claim. Aigbekaen appealed. 1 Aigbekaen also vaguely suggested that § 1591(c) was void for vagueness under Sessions v. Dimaya, 138 S. Ct. 1204 (2018). In that case, the Supreme Court held that the residual clause of 18 U.S.C. § 16(b), which defines “crime of violence,” is unconstitutionally vague. Id. at 1223. Aigbekaen’s reliance on Dimaya is misplaced, however, because § 1591(c) does not contain a residual clause. 2 We have jurisdiction under 28 U.S.C. § 1291, and exercise plenary review over the District Court’s legal conclusions. See Cradle v. United States ex rel. Miner, 290 F.3d 536, 538 (3d Cir. 2002) (per curiam). Generally, a motion filed under 28 U.S.C. § 2255 in the sentencing court is the presumptive means for a federal prisoner to challenge the validity of a conviction or sentence. See Okereke v. United States, 307 F.3d 117, 120 (3d Cir. 2002). “[U]nder the explicit terms of 28 U.S.C. § 2255, unless a § 2255 motion would be ‘inadequate or ineffective,’ a habeas corpus petition under § 2241 cannot be entertained by the court.” Cradle, 290 F.3d at 538 (quoting § 2255(e)). But we have applied this “safety valve” only in the rare situation where a prisoner has had no prior opportunity to challenge his conviction for actions deemed to be non-criminal by an intervening change in law. Bruce v. Warden Lewisburg USP, 868 F.3d 170, 177 (3d Cir. 2017) (discussing In re Dorsainvil, 119 F.3d 245 (3d Cir. 1997)). The District Court properly dismissed Aigbekaen’s § 2241 petition. Rosemond was issued before Aigbekaen’s indictment and conviction. Therefore, because he could have raised a challenge under Rosemond at trial or on direct appeal, and may yet do so in a motion under § 2255, the “safety valve” does not apply. See Cradle, 290 F.3d at 538. For the foregoing reasons, we will summarily affirm the District Court’s judgment.2 2 Aigbekaen’s motion for judicial notice, in which he asks for “immediate release based on conditions of confinement, actual innocence, and factual innocence,” is denied. His request to remand the case to the District Court with an order to approve home confinement is also denied. 3	01-04-2023	09-03-2020
https://www.courtlistener.com/api/rest/v3/opinions/4562793/	DLD-280 NOT PRECEDENTIAL UNITED STATES COURT OF APPEALS FOR THE THIRD CIRCUIT ___________ No. 20-2205 ___________ IN RE: PAUL JOSEPH BEGNOCHE, SR., Petitioner ____________________________________ On a Petition for Writ of Mandamus from the United States District Court for the Middle District of Pennsylvania (Related to Civ. No. 3-15-cv-02047) ____________________________________ Submitted Pursuant to Rule 21, Fed. R. App. P. August 6, 2020 Before: RESTREPO, PORTER and SCIRICA, Circuit Judges (Opinion filed: September 3, 2020) _________ OPINION* _________ PER CURIAM Paul Joseph Begnoche, Sr. has filed a petition for a writ of mandamus. For the reasons below, we will deny the petition. * This disposition is not an opinion of the full Court and pursuant to I.O.P. 5.7 does not constitute binding precedent. In 2011, Begnoche pleaded no contest in the Court of Common Pleas of Dauphin County to rape of a child under 13 years of age, involuntary deviate sexual intercourse with a child under 13, statutory sexual assault, incest, indecent assault of a person under 13, and unlawful communication with a minor. He was subsequently sentenced to 10-20 years in prison. He did not appeal. In 2015, after an unsuccessful PCRA petition, Begnoche filed a petition pursuant to 28 U.S.C. § 2254 in the United States District Court for the Middle District of Pennsylvania. In his mandamus petition, dated June 9, 2020, Begnoche complains that his § 2254 petition has been pending for a long time without any resolution of the “core issues.” He seeks an order directing the District Court to act on his petition and pending motions. He also requests that we grant him release from his prison sentence based on the alleged merit of his § 2254 petition. On July 9, 2020, the District Court entered an order denying Begnoche’s § 2254 petition. His pending motions have also been resolved. Thus, his request that we direct the District Court to act on his petition and motions is moot. See Blanciak v. Allegheny Ludlum Corp., 77 F.3d 690, 698-99 (3d Cir. 1996) (“If developments occur during the course of adjudication that . . . prevent a court from being able to grant the requested relief, the case must be dismissed as moot.”). As for Begnoche’s request that we direct his release from prison, we will deny the writ. The writ of mandamus will issue only in extraordinary circumstances. See Sporck 2 v. Peil, 759 F.2d 312, 314 (3d Cir. 1985). As a precondition to the issuance of the writ, the petitioner must establish that there is no alternative remedy or other adequate means to obtain the desired relief, and the petitioner must demonstrate a clear and indisputable right to the relief sought. Kerr v. U.S. Dist. Court, 426 U.S. 394, 403 (1976). A writ is not a substitute for an appeal. See In Re Briscoe, 448 F.3d 201, 212 (3d Cir. 2006). Here, Begnoche has not shown a clear and indisputable right to release, and he has the alternate remedy of appealing the District Court’s denial of his § 2254 petition. For the above reasons, we will deny the mandamus petition. 3	01-04-2023	09-03-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621853/	GEORGE A. FINK CO., PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT. 1George A. Fink Co. v. CommissionerDocket No. 1369.United States Board of Tax Appeals5 B.T.A. 76; 1926 BTA LEXIS 1995; October 13, 1926, Decided 1995 The taxpayers were each one of a group of corporations which filed a consolidated return for the year 1920. Theretofore Commissioner Williams had held the taxpayers to be affiliated with other corporations for the year 1919, and the conditions respecting affiliation were identical as to the year 1920. The taxpayers advanced the funds with which to pay their share of the tax, which amounts were more than their pro rata shares of the consolidated tax. The parent corporation thereafter became insolvent. Commissioner Blair, thereafter, determined correctly that the taxpayers were not affiliated with the parent corporation in the year 1920. Held, that the determination by Commissioner Blair was not an overruling of Commissioner Williams with respect to the year 1920. Held, further, that in the computation of the deficiency against the taxpayers, credit should be given for the pro rata portion of the tax paid by the parent corporation theretofore advanced by the taxpayers. Charles E. Moore, Esq., and Joseph M. Dohan, Esq., for the petitioners. Percy S. Crewe, Esq., for the respondent. LITTLETON76 These proceedings are from determinations1996 of deficiencies for the calendar year 1920 as follows: George A. Fink Co$1,487.27Shuttleworth, Wollny Co., Inc1,545.92C. E. Dartt Co3,070.52Gallen Paper Co1,894.62The questions presented in all of the proceedings are the same and are - (1) whether petitioners were affiliated with Shuttleworth, Keiller & Co.; (2) whether the Commissioner could modify his predecessor's ruling relating to affiliation; and (3) whether the tax paid by each of the companies upon the consolidated return filed for the year 1920 should be credited against the deficiency determined by the Commissioner in the event it is held that they were not affiliated as claimed. FINDINGS OF FACT. Petitioners are New York corporations. During the year 1920, Shuttleworth, Keiller & Co. owned and controlled the following percentages of the stock of the petitioners; George A. Fink Co., 88.6 77 per cent; Shuttleworth, Wollny Co., Inc., 51 per cent; Gallen Paper Co., 51 per cent; C. E. Dartt Co., 85.4 per cent. The persons who owned the 11.4 per cent minority stock of George A. Fink Co., 49 per cent of Shuttleworth, Wollny Co., Inc., 49 per cent of Gallen Paper Co., and 14.6 per1997 cent of C. E. Dartt Co., owned no stock in Shuttleworth, Keiller & Co., and were not connected with that company. For the year 1920, Shuttleworth, Keiller & Co., as the parent corporation, filed a consolidated return with the following corporations: Congress Warehouse & Forwarding Co. George A. Fink Co. Shuttleworth, Wollny Co., Inc. Gallen Paper Co. Shuttleworth Holly Co. (changed prior to 1920 to C. E. Dartt Co., one of the petitioners herein). ,W. E. Shuttleworth & Co. Shuttleworth Dumouchel Co. and Shuttleworth, Hogg & Mather, Inc. The Commissioner of Internal Revenue, who was in office on November 1, 1920, determined that these corporations were affiliated for 1919. He did not consider the question whether the corporations were affiliated for the year 1920. The present Commissioner of Internal Revenue, who assumed office in 1921, when auditing the returns for 1920, determined that the corporations were not affiliated for that year. The Shuttleworth, Keiller & Co., prior to the filing of the consolidated return, as above set forth, notified each of the corporations proposed to be included therein that a consolidated return was required and requested each1998 of them to send statements to it, together with their checks for the amount of tax shown to be due upon a separate computation of their tax liability. The petitioners forwarded such statements, together with remittances of the amounts of tax computed upon their several statements, as follows: George A. Fink Co., $1,466.01; Shuttleworth, Wollny Co., Inc., $2,115.11; Gallen Paper Co., $565; Shuttleworth Holly Co. (C. E. Dartt Co.), $3,048.93. By reason of the losses incurred by Shuttleworth, Keiller & Co. in the calendar year 1920, the amount of income and profits tax due by it and the companies included by it in the consolidated return was $27,135.52, which Shuttleworth, Keiller & Co. duly paid to the collector for the second district of New York. Thereafter, and on July 24, 1922, Shuttleworth, Keiller & Co. was adjusicated bankrupt, and on August 11, 1922, subject to the approval of the court, which was given on or about October 18, 1922, all the remaining assets of the bankrupt were sold to W. E. Shuttleworth, the president of the company, and the sale included "claims against the 78 United States of America and the State of New York for a refund of taxes improperly paid. 1999 " Thereafter, on November 21, 1923, the Commissioner notified George A. Fink Co., Shuttleworth, Wollny Co., Inc., and C. E. Dartt Co. that they were not affiliated with any of the corporations with which they had filed a consolidated return, and notified George A. Fink Co. of a deficiency of $1,487.27, Shuttleworth, Wollny Co., Inc., of a deficiency of $1,545.92, and C. E. Dartt Co. of a deficiency of $3,070.52. He held that the Gallen Paper Co. was, during the year 1920, affiliated with Shuttleworth, Hogg & Mather, Inc. (subsequently Mather Paper Co.) and notified it of a deficiency of $1,894.62. In the computation of the deficiencies the Commissioner gave no credit whatever for the payments or any part thereof theretofore made by the petitioners to Shuttleworth, Keiller & Co. and by it paid in part to the collector of internal revenue as tax upon the consolidated return. OPINION. LITTLETON: The evidence does not show that Shuttleworth, Keiller & Co., or any other corporation with which the petitioners claim they should have been affiliated, in any way controlled the minority stock hereinbefore mentioned. In these circumstances we can not hold that Shuttleworth, Keiller & 2000 Co. owned and controlled substantially all of their stock. . The next question is the same as one of the issues involved in the , in which it was stated: Under the provisions of section 273 of the Revenue Act of 1924 it is the duty of the Commissioner to determine the deficiency upon the basis of the correct amount of tax, less the amount of tax shown by the taxpayer upon his return, with other adjustments not here in issue. Upon its return, this taxpayer, through the medium of the Shuttleworth Co., indicated an amount of tax shown to be due in the proportion of the net income returned by this taxpayer in the consolidated return to the total net income, exclusive of minus quantities. This amount the Commissioner has not credited in connection with the computation of the deficiency here in question. It should be credited in the determination of this deficiency. The return of the taxpayer filed as a part of the above consolidated return is in evidence and the proper computation can be made therefrom. In the computation of the deficiencies against these petitioners they2001 should be given credit for their proportional part of the tax shown due by the consolidated return hereinbefore mentioned. As to the last issue, it appears that the present Commissioner of Internal Revenue did not overrule the determination made by his predecessor, since the former Commissioner made no determination as to the year 1920. See . Judgment will be entered on 15 days' notice, under Rule 50.Footnotes1. The following cases were consolidated and heard with the above case and are decided herewith: Shuttleworth, Wollny Co., Inc., Docket No. 1362; C. E. Dartt Co., Docket No. 1372; Gallen Paper Co., Docket No. 1377. ↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621854/	Robert L. Nowland and Mary C. Nowland, His Wife v. Commissioner. The North Beach Amusement Company, Inc. v. Commissioner. Charles E. Nelson and Virginia M. Nelson, His Wife v. Commissioner.Nowland v. CommissionerDocket Nos. 48472, 48661, 48662.United States Tax CourtT.C. Memo 1956-72; 1956 Tax Ct. Memo LEXIS 224; 15 T.C.M. (CCH) 368; T.C.M. (RIA) 56072; March 23, 1956224 E. H. Young, Esq., 34 Central Savings Bank Building, Baltimore, Md., for the petitioners. William Schwerdtfeger, Esq., for the respondent. OPPERMemorandum Findings of Fact and Opinion OPPER, Judge: Respondent in these consolidated proceedings determined deficiencies in income tax and additions to tax, as follows: Additionsto TaxYearPetitionerDeficiencySec. 294(d)1948Robert L. and Mary C. Nowland$ 5,627.36 $1949Robert L. and Mary C. Nowland5,080.701950Robert L. and Mary C. Nowland925.10138.781948Charles E. and Virginia M. Nelson8,772.261949Charles E. and Virginia M. Nelson10,241.021950Charles E. and Virginia M. Nelson20,209.462,485.971949North Beach Amusement Co., Inc.3,710.001950North Beach Amusement Co., Inc.8,839.79The issues remaining are: 1. Whether profit before expenses of a partnership known as Robert L. Nowland Associates was understated. 2. Whether Robert L. Nowland Associates overstated its advertising expense. 3. Whether Charles and Virginia Nelson overstated the advertising expense from their "numbers" business for 1950. 4. Whether Charles and225 Virginia Nelson realized capital gain on the sale of yearling horses. 5. Whether Charles and Virginia Nelson overstated the depreciation expense on their breeding horses. 6. Whether farm expense of Charles and Virginia Nelson was overstated due to a portion being attributable to production of food for their own consumption. 7. Whether amounts paid as salaries to officers of The North Beach Amusement Company, Inc., were properly disallowed as deductible expense. Respondent disallowed deductions for charitable contributions by Robert and Mary Nowland, but no evidence was introduced, and we regard the issue as conceded. There is no dispute as to the additions to tax for substantial underestimation of tax and computation of the amount can be made under Rule 50. Respondent concedes on brief that an error was made in the deficiency notices to Robert and Mary Nowland and to Charles and Virginia Nelson for 1950 in that the partnership profit before expenses of Robert L. Nowland Associates as determined by respondent was overstated by $4,400. Findings of Fact Some of the facts have been stipulated and are hereby found. Robert and Mary Nowland filed joint individual returns with226 the collector of internal revenue for the district of Maryland, as did Charles and Virginia Nelson. The North Beach Amusement Company, Inc., filed its corporate returns with the same collector. I. Robert L. Nowland Associates In late 1944, Robert and Mary Nowland joined Charles and Virginia Nelson to form a partnership known as Robert L. Nowland Associates, hereafter sometimes referred to as Associates. Associates took over the operation of a numbers game formerly operated by the Nelsons. During the period from October 1, 1947 to June 30, 1950, each of the Nowlands and the Nelsons was an equal partner. Bettors wagered that a certain number from 000 to 999 would prevail on that day. A writer or location man accepted the bets and made out bet slips showing the amount bet and the numbers selected. Each operating day a runner or pick-up man collected the money and bet slips. The runners then reported to Associates which backed or underwrote the game. The writers were associated with the runners rather than with Associates. The runners turned in the daily bet slips to Associates but not the money for that day's play. Clerks employed by Associates totaled the bet slips. Later in227 the day the "hit" or winning number was ascertained from race track mutuels, and a "payoff sheet" was made up. The runner was permitted to retain 30 per cent of the total daily bets reported, most or all of which was given to his writers as their compensation. If the remaining 70 per cent exceeded the pay-off on hits, the runner turned in the excess to Associates on the following day. If the hits exceeded the remainder, Associates paid the balance to the runner. Winning bettors were normally paid at odds of 600 to 1; however, odds on certain numbers were cut to 400 to 1. Associates compensated the runners by payment to them of a commission in addition to the retained 30 per cent. This additional compensation amounted to 25 per cent of the excess of 70 per cent of the bets submitted by the runner for the month over the hits paid out of his bets during that month. The runner received no commission if hits exceeded 70 per cent of the bets tendered by him during the month, and payment of commission was not resumed until any loss had been recouped in following months out of the excess of Associates' share of that runner's bets over hits. Bet slips were destroyed after 3 days and the228 pay-off sheets were destroyed after 1 week. Daily winnings or losses to Associates on bets by an individual runner were recorded on a monthly form maintained for him with a separate line for each day. These records had been retained but were destroyed prior to a trial of the partners for a gaming law violation and were not available at the time of investigation. Associates maintained a ledger in which one sheet was used for a week's business and a separate line on each page for daily operations. No information returns were filed reflecting payment on individual bets. Information returns were filed only for the runners. Virginia and Mary each kept a copy of the ledger. Virginia obtained the figures for her copy from a slip of paper made up for her each day. The first of six columns in the ledger was headed "B" and represented total daily bets. Under "H" were the hits for the day. The third column, headed "CO." was for the 30 per cent commission. A column headed "O.L." was for overlooks, or hits which were not noted on the day they occurred but were discovered and paid later. "EX" headed a column for expenses and the sixth column, "ITEMS" described the corresponding expenses in the229 fifth column. The additional compensation or commission to runners, also referred to as the "men's end of the business," was recorded as an expense. On the ledgers, the total bets, hits, commissions and overlooks are recorded as follows: Fiscal YearEndedSeptember 30BetsHitsCommissionsOverlooks1946$3,203,931.92$1,899,623.52$960,315.94$96,307.6219472,620,023.191,543,024.50786,194.9456,560.2019481,903,151.851,093,347.85571,110.5256,457.4019491,604,605.52886,172.90481,362.9478,558.80* 19501,034,344.14610,717.34310,664.1170,478.50Total of "men's end of the business" and of all other expenses, as shown in the ledgers, is as follows: Fiscal YearEndedMen's End ofOtherTotalSeptember 30the BusinessExpensesExpenses1946$73,507.32$63,344.58$136,851.90194759,703.4465,231.21124,934.65194849,959.9763,090.90113,050.87194944,255.3156,442.78100,698.09* 195014,295.0243,043.1957,338.21The ledgers had no capital or cash accounts, nor did they contain information230 sufficient to construct those accounts. Respondent determined that the profit before expenses was four times the "men's end of the business" for each of the fiscal years ended September 30, 1948 and 1949, and the period ended June 30, 1950. He made no adjustment of profit before expenses for the last 6 months of 1950 when the Nelsons operated the business formerly operated by Associates. None of the partners or office employees were ever arrested for violation of antigambling laws during or prior to the years in question. Certain runners and writers were arrested during this period and fines were usually imposed. The writers and runners did not pay their own bail bond fees, court costs, fines, or attorneys' fees. No entries were made on the ledgers to reflect payment of these expenses or of "protection" money to law-enforcement officers. The profit before expenses of Associates was understated in the amounts determined by respondent for fiscal years ended September 30, 1948, and September 30, 1949, and the period ended June 30, 1950. II. "Advertising" Expense Included in the "expenses" in the ledgers maintained by Associates were items designated "advertising." "Advertising" 231 was charged with certain bonuses and additional compensation to employees. These entries totaled $9,814.90 and $10,988.83 for the fiscal years ended September 30, 1948, and September 30, 1949, respectively. Total for the period ended June 30, 1950 was $10,285.35. Associates maintained no record of persons to whom the payments were made. Associates purchased 220 turkeys in 1948 at a cost of $3,105.83 and 303 in 1949 costing $3,429.38. Each year they gave a turkey to each of the 15 to 20 office girls, as well as to each of the runners. The number of runners is not established but three appeared at the hearing. The writers for one runner also received turkeys. A runner usually had from 5 to 10 writers working for him. Each runner and each office girl received an annual cash bonus of $50. One runner, employed during 1949 and 1950, received $200. Later, all the writers working for the three known runners received, in lieu of turkeys, a Christmas cash bonus in sealed envelopes. Respondent disallowed 75 per cent of the deductions claimed for advertising expense. Associates did not incur advertising expenses in excess of $2,453.73 and of $2,747.21 for fiscal years ended September 30, 1948, and232 September 30, 1949, respectively, and of $2,571.34 in the period ended June 30, 1950. III. Charles and Virginia Nelson On July 1, 1950, Associates was dissolved and the Nelsons continued the business formerly conducted by it. The Nelsons underwrote the game and kept records in much the same manner as had been done by Associates. The Nelsons purchased 302 turkeys at a cost of $2,907.14 in 1950. On the records maintained by this business for the period from July 1 to December 31, 1950, "advertising" was charged with $9,066.37. Respondent disallowed advertising expense in excess of $2,266.59. The Nelsons did not incur advertising expense in excess of $2,266.59 during the period from July 1 through December 31, 1950. IV. Sale of Horses Charles made a yearly trip to the auction at Lexington, Kentucky, where he put on the block the entire crop of yearling horses bred on his large farm at Ritchie, Maryland. He arranged for a "reserved bid" or for someone to bid on horses he intended to retain. He employed that procedure to facilitate sales at higher prices. He advertised the sale by including a notice in his frequent breeding advertisements in trade journals and by specially233 prepared sales catalogues. The horses sold were foaled on the farm. Yearling horses were too immature for breeding. Charles kept detailed records of each horse, and each was a registered thoroughbred. Successful race horses are desirable for breeding purposes. He attempted to improve the blood strain of his horses. He had been breeding horses since 1938. Charles received breeders' awards and prizes amounting to $350 in 1948, $1,487.50 in 1949, and $1,380 in 1950. In earlier years, Charles had reported income from sales of yearling horses as ordinary income. An agent of respondent changed the items to long-term capital gain and Charles has since reported the income consistent with that change. 1 Respondent now treats proceeds of the sales of these horses as ordinary income. He made an exception in 1950 for a race horse sold for $10,000, which he conceded to be long-term capital gain. The yearling horses sold were property held primarily for sale in Charles' trade or business. V. Depreciation on Horses The Nelsons claimed net losses on their returns from operation of their farm. They234 included as an expense contributing to the losses in 1948, 1949, and 1950 depreciation on horses used for breeding purposes in the amounts of $16,563.63, $23,654.28, and $32,144.21, respectively. A mare is not bred until 3 years of age, and may not drop its first foal until 4. Mares have been known to produce as many as 18 foals, but that is very unusual. In making up the schedule of depreciation the Nelsons determined the useful life of certain horses as shown in the following table, included in a stipulated exhibit, which compares the useful life according to the notice of deficiency: Age at WhichUseful Life CeasesAge atPerDate ofAcquisi-PerNotice ofName of HorseAcquisitionCosttionReturnsDeficiencyBingo Bridgett1/ 9/46$ 4,50071216Hutaka11/15/451,50081216The Watch12/29/453,50051216Blossom Lane11/19/4615,00071216Hurriette11/18/4613,00061216Evening Shot10/11/463,566.7061216Pruning11/18/466,20071216Streamer1/ 9/4735071216Ballaroyal8/ 4/44$ 1,80011216Sickleup8/ 4/442,00011216Bullperin8/ 4/443,50011216Paren8/ 4/445,80011216Ficolas8/ 4/443,20011216Riskabule8/ 5/4711,00016-128-16Sir Francis11/18/468,00048-128-16Aerial Hostess8/28/483,20016-128-16Raldo11/29/4810,30091216Helens Gold11/29/4850041216Two Nots12/30/492,00021216Bill4/ 1/441005910Machree4/ 4/49900111516Donita M.7/29/4936,000131618Brine11/ 5/491,50041216Blue Flyer11/ 6/4912,600121618Roman11/ 9/507,500131618Alpoise12/ 1/5017,100131618Toddle On12/ 1/506,000151718235 Cost, salvage value, and age at time of acquisition are not in dispute, nor is the useful life of certain other horses. Several small differences in depreciation on horses not in dispute as to useful life are assumed to be conceded, since they are uncontested. The Nelsons did not claim excessive depreciation expense due to incorrectly estimating the useful life of horses purchased for breeding. VI. Disallowance of Farm Expense On their farm the Nelsons maintained a garden plot. In addition to the vegetables from the garden, they raised some chickens and livestock for their personal use. Substantially all their food came from the farm. Some of the farm employees, as well as the Nelsons, worked on the plot and in raising the livestock. The Nelsons canned food for consumption during the winter months. Separate records of expenses incurred in raising the food for personal consumption were not kept. Respondent disallowed $1,000 of farm expense for each of 1948, 1949, and 1950, as representing expenses attributable to produce personally consumed. The Nelsons deducted excessive expenses of $1,000 attributable to food for personal consumption. VII. The North Beach Amusement236 Company, Inc. The North Beach Amusement Company, Inc., hereafter referred to as North Beach, operated an amusement park in North Beach, Calvert County, Maryland. It owned a narrow strip of land along the west side of Chesapeake Bay. Along the beach and on a pier projecting into the Bay were a sea food restaurant, dance hall, soda fountain, beach stand, bathhouse, bar, arcade, bingo game, hot dog stand, wheels and dart games. Operations included selling food, beverages and novelties, renting boats, bathing suits, and beach umbrellas, and conducting or operating moving pictures, dances, bingo, amusement games and slot machines. In 1936 Charles bought a half interest in the corporation and 2 or 3 years later purchased the remainder of the 316 outstanding shares for himself, his wife and children. During the years in controversy, Charles held 166 of the $100 par value shares and his wife, his son, and his daughter each held 50 shares. Charles has been president of North Beach since 1938, Virginia served as treasurer since 1939 and as secretary since 1946. In 1939 Charles lent $65,609.40 to North Beach in return for a 1-year mortgage. The principal of the mortgage debt was paid in237 nine installments, the last one being made in July of 1947. All the present buildings and the pier were constructed following this loan. The board of directors of North Beach authorized payments of $9,000 each to Charles and Virginia in 1940. No compensation of officers was authorized or paid for the years 1941 through 1946. In 1947 it authorized and paid salaries of $2,000 to each officer, and in 1948, $4,000 to each. In 1949 Charles received an authorized $9,000, and Virginia, $6,000. For each of 1950 and 1951, the authorized payments were $14,000 and $10,000, respectively. Each authorization was made in September of the year to which it applied. Wages and salaries, other than compensation of officers, deducted by North Beach in its returns were: YearAmount1945$47,235.17194639,915.30194734,503.53194833,623.48194940,176.38195037,166.37195135,188.12North Beach declared and paid no dividends through 1946. In 1947 it paid a 10 per cent dividend amounting to $3,160. In each of 1948, 1949, and 1951, it paid a 20 per cent dividend amounting to $6,320. The 1950 dividend was 50 per cent and amounted to $15,800. The Nelsons devoted much238 time and effort to North Beach after their acquisition of all the stock. During the taxable years, Charles and Virginia were in full and complete charge of North Beach. In earlier years, a general manager had been employed on a salary plus bonus basis. After he left in 1946 or 1947 others were hired but with no success and the Nelsons were obliged to take over this task. The bar and bingo game were run by others on concessions. The sea food house was run by others on concession for an undisclosed part of the time. Each of the other operations had a manager or employee in charge. Activities of the two officers included interviewing and hiring up to 150 employees, overseeing each operation, running the office, keeping the books, supervising the cashiers, and handling the money. To prepare North Beach for its season, the Nelsons had to make plans, clean, paint, make repairs, stock merchandise, and visit different business houses. The Nelsons maintained an apartment at North Beach which they used part of the time, especially during the busy season. The regular season at North Beach begins May 30th and ends on Labor Day, but certain amusements, principally the arcade and the hot dog239 stand, are opened as early as February and remain open as late as November or December, depending on the weather. In the arcade, and in other locations on the pier, were a number of slot machines. Some of these machines had been available for public use for a number of years prior to those in controversy. During and immediately after World War II it was difficult to acquire slot machines. In 1948 North Beach decided to wait for more improved types before purchasing new ones. Later, it purchased and installed a substantial number of new machines. A principal source of income during 1949 and 1950 was the proceeds from the slot machines. The gross receipts of the entire North Beach operation and the net income, after the disputed salaries but before payment of Federal income taxes for 1945 through 1951, were as follows: YearGross ReceiptsNet Income1945$158,295.89$ 1,434.301946161,449.8217,548.131947159,089.6643,667.441948168,220.3346,338.721949179,242.4430,026.761950201,478.1341,444.571951202,811.0644,953.09In connection with his horse farm, Charles made it his practice to answer all correspondence. Charles was a240 member of two partnerships, P. and N. Amusement Company and Nelson and Main, during this period. The latter partnership was terminated after the illness of its managing employee because it involved too much work. The Nelsons actively operated the numbers lottery after they took over from Associates. Virginia then kept the records for that business. At the time of the hearing Charles was serving a 1- to 3-year sentence for violating the antilottery laws of the District of Columbia. Between 1923 and 1930 he was convicted two or three times for violating the law prohibiting possession and transportation of alcoholic beverages. Respondent determined that reasonable salaries for Virginia and Charles were $3,000 and $5,000, respectively, for each of 1949 and 1950. Reasonable salaries deductible by North Beach as compensation of officers were $4,000 for Virginia and $6,500 for Charles in 1949, and $6,000 for Virginia and $10,000 for Charles in 1950. Opinion I. Although Associates produced a ledger supposedly containing figures as to their net income, the evidence demonstrates that this was not such a record as may be relied upon as an accurate reflection of their operations. 241 Failure to maintain proper records was of their own doing and they are in no position to complain if respondent resorts to other means to arrive at the necessary figures. . Respondent determined the amount of the partnership gross profit by multiplying the commissions to runners or "men's end of the business" by 4 since it was shown that they were together given bonuses totaling 25 per cent of the retained profits of the gambling enterprise. This is characterized as erroneous by Associates because of their insistence that if a runner left their employment owing the game money or "with a red book," the 25 per cent computation would not apply. The difficulty is that the burden of showing that state of facts was on the petitioners and they have failed to carry it. Two of the runners were unable to remember whether their books were "in the black" or "in the red," and the third was so vague and confused in his testimony that we cannot base any finding upon it. And the testimony of petitioners, all of which was on cross-examination, was likewise too indefinite as to time and amount to be acceptable. 242 It follows that in this respect, for failure of proof, the deficiency must be sustained, except as to the conceded overstatement of income for 1950. II. A deduction will not be disallowed in its entirety for failure to establish the exact amount. . But where, as here, respondent has allowed part of a deduction, we will not alter his determination unless facts appear from which a different approximation can be made. [Dec. 11,754]. Respondent disallowed 75 per cent of the "advertising expenses" deducted in the computation of net income reported on the partnership returns. Viewing the evidence in a light most favorable to Associates the $2,453.73 allowed for the year ended September 30, 1949 is greater than the total of cash bonuses paid:$50 to each of 20 office girls and two known runners, $200 to another runner, $10 to each of 30 writers, and the cost of 33 turkeys, averaging $14.12 each, 243 distributed among the office girls, runners and the writers employed by one runner. For the period ended June 30, 1950, no change appearing other than the average cost of turkeys being $11.32, respondent's allowance of $2,571.34 is again greater than the substantiated amount. Accordingly, respondent's determination is approved. III. During the last half of 1950 the Nelsons deducted advertising expenses as did Associates in earlier years. No additional facts were adduced except that the average price of turkeys was $9.63 each. It follows under the same reasoning as in Issue II that respondent's disallowance of advertising expenses in excess of $2,266.59 must be sustained. IV. Charles operated a farm and, in the course of his business, bred horses. Whether or not animals sold by him created ordinary income on the one hand or, on the other, capital gain because the animals sold were held primarily as breeding stock is basically a factual issue. ; .244 While the age at which animals are sold is only one factor to be considered and is not conclusive where other evidence appears, ; , it may be the only test where the record is lacking in other criteria. , affd. (C.A. 4) ; . Here the proof shows that Charles put up for sale all of his yearling horses and that apparently the minimum breeding age was 3 years. We can discover no reliable facts which contradict the implication to be drawn from this evidence as to age. The only other material in the record is Charles' own statements as to his intention and the fact that Charles himself bid in some of the horses, which is at least as consistent with the conclusion that the balance were held primarily for sale. The former we disregard both because of other contrary statements made by him 2 and because of the inherent infirmity of his reliability as a witness. , affd. (C.A. 5) . The conclusion245 embodied in our findings of fact is, accordingly, that the animals sold were not capital assets but were held primarily for sale in the ordinary course of Charles' business. V. Respondent increased 3 from 12 to 16 the age at which useful life ceases for certain breeding horses used by the Nelsons on their farm. Several reasons are cited for the increase: The Nelsons used a number of fully depreciated animals, Charles purchased several horses 12 years of age or older, and the Nelsons have not proved their estimate. The Nelsons resist the increase by claiming their estimates were based on information from two sources: Bulletin F. Internal Revenue Service, which shows under "Agriculture" an estimated useful life of 10 years for breeding or work horses, and an estimate derived from Charles' experience in horse breeding and consultation with other breeders. That respondent's first two reasons do not justify an increased useful life seems almost self-evident. The age at which usefulness ceases being, 246 at best, a well-reasoned guess, it is as certain that some animals will remain productive after being fully depreciated, as that others will prove useless before their cost has been completely recovered. Purchase of certain animals, all but one with comparatively high costs, at an age greater than that usually estimated, proves only that such animals have, even at an advanced age, special value to the buyer, but does not impinge upon the validity of general life estimates in other cases. And as to each of these late purchases the Nelsons adopted longer anticipated useful lives. In arguing the failure of proof, respondent denies that Bulletin F is applicable to breeding of race horses on a farm, but produces no convincing reason. He disputes Charles' reliance on his own experience, aided by consultation with others, by blasting one statement made by him. It is inescapable, however, that the over-all tenor of Charles' testimony shows such reliance. Charles has come forth with evidence, and, on all the evidence presented, we must find that respondent's increase in the estimated life of any horses was unwarranted. VI. The Nelsons presented no evidence of expenses incurred in production247 of food for personal consumption except conflicting estimates of the size of the garden. Although farm employees admittedly worked in that garden the Nelsons allocated no labor cost or any other farm expense to the home garden. For failure of proof, respondent's disallowance for each year of $1,000 of farm expense as a personal expenditure attributable to food for the Nelson's own consumption must prevail. VII. The final issue is the reasonableness of salaries paid by the Nelson's wholly owned corporation. This issue is one of fact, , affirming ; , and is disposed of by our findings, a factual conclusion which we have reached on careful consideration of the entire record. Decisions will be entered under Rule 50. Footnotes. Period ended June 30, 1950.↩. Period ended June 30, 1950.↩1. Another agent testified that Nelson had told him that he raised the horses to sell.↩2. See footnote 1, supra.↩3. Respondent also increased the estimated useful life of one horse from 9 to 10, one from 15 to 16, four from 16 to 18, and one from 17 to 18.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621855/	Appeal of NEW YORK, ONTARIO & WESTERN RAILWAY CO.New York, O. & W. R. Co. v. CommissionerDocket No. 974.United States Board of Tax Appeals1 B.T.A. 1172; 1925 BTA LEXIS 2631; May 21, 1925, decided Submitted April 20, 1925. 2631 By the Federal Control Act and the compensation agreement pursuant thereto the Director General of Railroads was required to and did bear the income tax on the taxpayer's income up to 2 per cent. The amount so borne by the Director General was not income of the taxpayer. The United States in levying taxes and in assuming the obligations of Federal control was the same sovereign entity. The Commissioner of Internal Revenue in assessing taxes is not confined to the provisions of the revenue acts alone, but must determine liability in the light of all statutes relating thereto. A refusal of the Supreme Court to grant a writ of certiorari will not be regarded as an affirmance of the decision below. C. L. Andrus, S. T. Bledsoe, Alfred P. Thom, C. C. Paulding, and Gordon M. Buck, Esqs., for the taxpayer. Percy S. Crewe, and Laurence Graves, Esqs., for the Commissioner. John E. McClure, Esq., amicus curiae. STERNHAGEN 1173 Before STERNHAGEN, LITTLETON, MARQUETTE, and TRAMMELL. This appeal presents the question whether the 2 per cent portion of the income tax borne by the Director General of Railroads, computed upon the2632 taxpayer's income for the calendar years 1918 and 1919, when its property was under Federal control, constituted income to the taxpayer. The facts alleged in the petition are substantially admitted in the Commissioner's answer and there is no dispute in respect thereof. FINDINGS OF FACT. The taxpayer during the period in question was a common carrier corporation subject to the Interstate Commerce Act. On December 28, 1917, the President of the United States by proclamation dated December 26, 1917, took possession and assumed control of its railroad properties. By such proclamation the President appointed a Director General of Railroads for the effective operation of the railroads under Federal control. From December 28, 1917, until March 1, 1920, the taxpayer's railroad was held and operated by the Director General on behalf of the President. On November 1, 1918, a contract was executed between the Director General, acting on behalf of the United States and the President pursuant to the Federal Control Act of March 21, 1918, and the taxpayer. The terms of this contract are in accordance with the provisions of the Federal Control Act. Of the amount of Federal income taxes2633 computed in respect of the income of the taxpayer, the Director General, pursuant to the Federal Control Act and the compensation agreement, bore for the year 1918 $14,500.22 and for the year 1919 $15,574.85. These amounts were among the taxpayer's "railway tax accruals" as officially prescribed by the Interstate Commerce Commission in its "Classification of Income, Profit and Loss, and General Balance Sheet Accounts for Steam Roads," effective on July 1, 1914. Pursuant to the Federal Control Act, the Interstate Commerce Commission, in computing the average annual railway operating income for the three years ended June 30, 1917, deducted "railway tax accruals" from "net revenue from railway operations," and such railway tax accruals 1174 in the computation of the taxpayer's standard return for such test period included the 2 per cent Federal income tax. The Commissioner, in auditing the taxpayer's returns for the taxable years in question, added to the taxpayer's net income the amounts of $14,500.22 for 1918 and $15,574.85 for 1919, and determined a deficiency for each of the years in question based upon such increase of net income. DECISION. The amounts of $14,500.222634 for 1918 and $15,574.85 for 1919, being the 2 per cent tax borne by the Director General, are not income of the taxpayer. The taxpayer's liability should be recomputed in accordance with this decision and the following opinion, and final order will be made on consent or on 15 days' notice under Rule 50. OPINION. STERNHAGEN: The issue presented by this appeal is sharply drawn. It affects every railroad corporation in the United States whose properties were under Federal control during the years 1918 and 1919 and whose income during those years was sufficient to be taxable. Although the Revenue Act of 1918 imposed an income tax of 12 per cent for 1918 and 10 per cent for 1919 upon the net income of corporations, the Federal Control Act provided that the amount of the tax up to 2 per cent of the net income should be borne by the Director General out of the railway operating revenues which he received. Thus, as expressly recognized in the Revenue Act of 1918, section 230(b), the taxpayer, instead of paying 12 per cent and 10 per cent respectively, paid only 10 per cent and 8 per cent respectively. The Commissioner contends that the amount so borne was paid by the Director General2635 in behalf of the taxpayer and should be included in gross income. The taxpayer appeals because it insists that the Revenue Act and the Federal Control Act, when read together in the light of the general plan for Federal operation during the war, fix its tax liability at 10 per cent and 8 per cent respectively, and the so-called payment by the Director General was not in behalf of the taxpayer, but was a duty imposed upon him for the purpose of assuring to the taxpayer the just compensation for the use of its properties contemplated by the Federal Control Act. The taxpayer contends that the Commissioner's view would defeat the plan for just compensation and would yield compensation less than that intended and that upon which the standard compensation agreement was based. The statement of the propositions relied upon indicates the necessity for setting forth at some length the provisions of the several statutes involved and the terms of the compensation agreement. And in order properly to understand these statutes it is necessary to consider some of the circumstances existing at the time of their enactment. We need not linger over the conditions existing when the President of2636 the United States believed it necessary for the effective conduct of the war to assume the operation and control of the transportation systems of the country. He issued his proclamation on December 26, 1175 1917, taking possession of such transportation systems at noon of December 28, 1917, and placing such possession, control, and operation in charge of a Director General appointed for the purpose. Thereafter the President acted entirely through the Director General, who represented him and the United States. The taking did not create the relation of lessor and lessee, but was a taking by the United States "in its sovereign capacity, as a war measure, 'under a right in the nature of eminent domain,' North Carolina R.R. Co. v. Lee,260 U.S. 16">260 U.S. 16; Missouri Pacific R.R. Co. v. Ault,256 U.S. 554">256 U.S. 554; Northern Pacific Ry. Co. v. North Dakota,250 U.S. 135">250 U.S. 135; In re Tidewater Coal Exchange,280 Fed. 648, 649." DuPont de Nemours & Co. v. Davis,264 U.S. 456">264 U.S. 456, 462. In taking over these properties from their owners provision was to be made for just compensation. The President designated2637 one of the members of the Interstate Commerce Commission to draft a statute to cover the subject in its various aspects, both to assure full power of operation and control in the Director General and to assure proper compensation to the carriers. The method of compensation was based primarily upon the thought that the carrier should receive an annual amount "not exceeding a sum equivalent as nearly as may be to its average annual railway operating income for the three years ended" June 30, 1917. These three years are commonly spoken of as the test period. The Interstate Commerce Commission had officially prescribed a system of railway accounts, and this system gave a precise meaning to the expression "average annual railway operating income." See order dated May 19, 1914, "Classification of Income, Profit and Loss, and General Balance Sheet Accounts for Steam Roads," effective July 1, 1914, page 27. 1 Railway operating income is the result of subtracting railway tax accruals and uncollectible railway revenues from net revenue from railway operations. That is to say, the just compensation which each carrier was to receive was an amount left after railway tax accruals (except war2638 taxes) had been accounted for. Railway tax accruals, as shown by the official designation contained in the Interstate Commerce Commission's classification already referred to (page 19), included "accruals for taxes of all kinds (including Federal income tax) …." When entrance into the war made necessary additional war revenue, the Act of October 3, 1917, Title I, while not disturbing the 2 per cent tax then in effect under the Act of September 8, 1916, imposed "in addition" a like tax of 4 per cent. Title II also imposed the war excess-profits tax. This was the status of the revenue law at the beginning of Federal control on December 28, 1917, and 1176 also at the time of the2639 enactment of the Federal Control Act of March 21, 1918. With this history before it, Congress passed the Federal Control Act, to provide not only "for the operation of transportation systems while under Federal control" but also "for the just compensation of their owners." This act has been several times considered by the Supreme Court in the cases above cited, and it is no longer open to dispute that the possession, control, and operation of the transportation systems of the country were in the United States in its sovereign capacity, the Director General being merely the designated representative of the Government. It was the same sovereign, acting through its legislative branch, which provided just compensation to the carriers for the use of their property in war time and levied taxes for the collection of war-time revenues. It was the same United States as had the power through its control of interstate commerce to transcend the power of the States to fix intrastate rates, Northern Pacific Ry. Co. v. North Dakota,250 U.S. 135">250 U.S. 135; and the same United States as could successfully defend a local suit for penalty because it had not consented to be thus sued, 2640 Missouri Pacific R.R. Co. v. Ault,256 U.S. 554">256 U.S. 554. Section 1 of the Federal Control Act provides in part: That the President, having in time of war taken over the possession, use, control, and operation (called herein Federal control) of certain railroads and systems of transportation (called herein carriers), is hereby authorized to agree with and to guarantee to any such carrier making operating returns to the Interstate Commerce Commission, that during the period of such Federal control it shall receive as just compensation an annual sum, payable from time to time in reasonable installments, for each year and pro rata for any fractional year of such Federal control, not exceeding a sum equivalent as nearly as may be to its average annual railway operating income for the three years ended June thirtieth, nineteen hundred and seventeen. That any railway operating income accruing during the period of Federal control in excess of such just compensation shall remain the property of United States … Every such agreement shall provide that any Federal taxes under the Act of October third, nineteen hundred and seventeen, or Acts in addition thereto or in amendment2641 thereof, commonly called war taxes, assessed for the period of Federal control beginning January first, nineteen hundred and eighteen, or any part of such period, shall be paid by the carrier out of its own funds, or shall be charged against or deducted from the just compensation; that other taxes assessed under Federal or any other governmental authority for the period of Federal control or any part thereof, either on the property used under such Federal control or on the right to operate as a carrier, or on the revenues or any part thereof derived from operation (not including, however, assessments for public improvements or taxes assessed on property under construction, and chargeable under the classification of the Interstate Commerce Commission to investment in road and equipment), shall be paid out of revenues derived from railway operations while under Federal control; that all taxes assessed under Federal or any other governmental authority for the period prior to January first, nineteen hundred and eighteen, whenever levied or payable, shall be paid by the carrier out of its own funds, or shall be charged against or deducted from the just compensation. Section 10 provides2642 that rates may be increased (as they were by Dir. Gen. G.O. 28) in order to provide railway operating expenses, railway tax accruals other than war taxes, joint facility rents and just compensation. Section 12 is as follows: That moneys and other properties derived from the operation of the carriers during Federal control are hereby declared to be the property of the United 1177 States. Unless otherwise directed by the President, such moneys shall not be covered into the Treasury, but such moneys and property shall remain in the custody of the same officers, and the accounting thereof shall be in the same manner and form as before Federal control. Disbursements therefrom shall, without further appropriation, be made in the same manner as before Federal control and for such purposes as under the Interstate Commerce Commission classification of accounts in force on December twenty-seventh, nineteen hundred and seventeen, are chargeable to operating expenses or to railway tax accruals and for such other purposes in connection with Federal control as the President may direct, except that taxes under Titles One and Two of the Act entitled "An Act to provide revenue to defray2643 war expenses, and for other purposes," approved October third, nineteen hundred and seventeen, or any Act in addition thereto or in amendment thereof, shall be paid by the carrier out of its own funds. If Federal control begins or ends during the tax year for which any taxes so chargeable to railway tax accruals are assessed, the taxes for such year shall be apportioned to the date of the beginning or ending of such Federal control, and disbursements shall be made only for that portion of such taxes as is due for the part of such tax year which falls within the period of Federal control. The just compensation thus provided, sometimes known as the standard return, was to be fixed by agreement with each carrier, the terms of the agreement being substantially prescribed by the Federal Control Act, which agreement, as stated in the report of the Senate Committee on Interstate Commerce, would "determine finally and completely all rights as between the Government and the owners, thus avoiding the delays incident to litigation and giving strength and stability to the security market and rendering assistance to our future war financing." The Senate report also contains the following: 2644 Section 1 further provides that ordinary taxes, National and State, shall as now, be paid out of operating revenue; but war taxes accruing under the Act of October 3, 1917, are to be paid by the companies out of their own funds or charged against the standard return. In other words, the holders of railroad securities are by Section 1 (like holders of other securities) to bear their own just portion of the war burden. … The standard return thus provided for will, if accepted by the various operating companies be disposed of substantially as hitherto; that is, for the payment of their fixed charges (and war taxes which remain a burden upon the standard return), for dividends, and if any balance remains for so-called surplus. From the Congressional Record, Vol. 56, pp. 2506 and 2507, it appears that an attempt was made on the floor of the Senate to have the railroad corporations bear not only the war taxes, thus reducing their average annual railway operating income, but also the 2 per cent income tax. But this amendment was rejected. In the report of the House Committee on Interstate and Foreign Commerce recommending H.R. 9685, which carried the general plan of the statute2645 as finally enacted, appears the following: Section 1 is a fundamentally important section; for it sets the outside limits of the expected agreements. Its sole function is to provide a basis of such just and proper agreements as may eliminate litigation. This section authorizes the President to make agreements with the operating carriers under which they shall receive in lieu of their constitutional rights the average of their railway operating income for the three years ended June 30, 1917, plus an additional income at some reasonable rate to be fixed by the President upon the cost of additions to their property made during the last six months of 1917. This additional return is allowed for the sake of equality, as it is stated that a comparatively few of the carriers have during this six months period invested more than $200,000,000 in property now applied to public use. Ordinary taxes Federal and State, are to be paid as hitherto out of operating income. But 1178 war taxes are (in effect) payable out of the standard return; the owners of railroad securities, like the owners of other securities, are thus left to carry their share of the war tax burden. After the passage2646 of the Federal Control Act negotiations were carried on between the Director General and the railroad owners looking to the execution of individual agreements for just compensation, as provided by the statute. On November 1, 1918, the agreement of the present taxpayer was executed. Section 6 thereof is as follows: Sec. 6 (a) All taxes assessed under Federal or any other governmental authority for the period prior to January 1, 1918, including a proportionate part of any such tax assessed after December 31, 1917, for a period which includes any part of 1917 or preceeding years, and unpaid on that date, all taxes commonly called war taxes which have been or may be assessed against the Company under the act of Congress entitled "An act to provide revenue to defray war expenses and for other purposes," approved October 3, 1917, or under any act in addition thereto or in amendment thereof, and all taxes which have been or may be assessed on property under construction, and all assessments which have been or may be made for public improvements, chargeable under the accounting rules of the Commission in force December 31, 1917, to investment in road and equipment, shall be paid by the2647 Company; but upon the amount thus chargeable to investment interest shall be paid to the Company during Federal control at the rate provided in paragraph (d) of section 7 hereof. Taxes assessed during construction on additions, betterments, and road extensions made by the Company with the approval or by order of the Director General during Federal control, shall be considered a part of the cost of such additions, betterments, and extensions and shall, under the provisions of paragraph (d) of section 7 hereof, bear interest as a part of such cost from the date of the completion of such additions, betterments, or extensions. Assessments for public improvements which do not become a part of the property taken over shall bear interest from the date of the payment of such assessment. (b) If any tax or assessment which under this agreement is to be paid by the Company is not paid by it when due, the same may be paid by the Director General and deducted from the next installment of compensation due under section 7 hereof. If any taxes properly chargeable to the Director General have been or shall be paid by the Company, it shall be duly reimbursed therefor. (c) The Director General2648 shall either pay out of revenues derived from railway operation during the period of Federal control or shall save the Company harmless from all taxes lawfully assessed under Federal or any other governmental authority for any part of said period on the property under such control, or on the right to operate as a carrier, or on the revenues derived from operation, and all other taxes which under the accounting rules of the Commission in force December 31, 1917, are properly chargeable to "railway tax accruals," except the taxes and assessments for which provision is made in paragraph (a) of this section. The Director General shall pay or save the Company harmless from the expense of all suits respecting the classes of taxes payable by him under this agreement. (d) If any such tax is for a period which began before January 1, 1918, or continues beyond the period of Federal control, such portion of such tax as may be apportionable to the period of Federal control shall be paid by the Director General, and the remainder shall be paid by the Company. (e) Whenever a period for which a tax is assessed can not be definitely determined, so much of such tax as is payable in any calendar2649 year shall be treated as assessed for such year. From this it appears that the taxpayer corporation should pay the war taxes, viz, the additional 4 per cent income tax and the war excess profits tax, and that the Director General should bear the remaining Federal taxes included within railway tax accruals, viz, the 2 per cent income tax. We say that the Director General was to bear the burden of this tax in order to avoid whatever confusion 1179 may arise through the anomalous statement that the Director General, being the United States, should pay the taxes into the United States Treasury; since it is clear from the statute and the agreement that the emphasis was not so much upon the matter of payment by the United States as upon the matter of relieving or saving harmless the corporation from such payment in order to assure the just compensation intended. Thus far it seems clear that the plan was a careful and consistent method for assuring to the carriers what was regarded as the just compensation believed to be necessary for the taking of their property for public use. Railway accounting was a matter of public concern which had its special official terminology. 2650 The statute had been drafted in the light of such accounting after an investigation by a member of the Interstate Commerce Commission, presumably with the most complete knowledge of that terminology; and the language used both in the statute and the compensation agreement was the very language of the official classification of railway accounts. There can be no doubt, therefore, that it was intended by the Federal Control Act to provide to the railroad corporations an amount which would be net to them after the Government had received the 2 per cent income tax but before the Government had received the war taxes. Subsequently, on February 24, 1919, the Revenue Act of 1918 was enacted, and any doubt which might otherwise exist as to the full knowledge of Congress of the mutual relation, in pari materia, of the Federal Control Act and the taxing statutes must be dispelled by the care evidenced in this later act to reflect it. The Federal Control Act placed upon the carriers the burden of paying the so-called war taxes, and these taxes had been described as the taxes imposed by Titles I and II of the Act of October 3, 1917. By the 1918 Act it was obviously intended that only2651 the 2 per cent should be borne by the Director General, even although the income tax levied upon corporations generally was substantially increased from 6 per cent to 12 per cent in 1918 and 10 per cent in 1919. To accomplish this without the necessity of an amendment to modify the language of the Federal Control Act, section 230 of the Revenue Act of 1918 provided: Sec. 230. (a) That, in lieu of the taxes imposed by section 10 of the Revenue Act of 1916, as amended by the Revenue Act of 1917, and by section 4 of the Revenue Act of 1917, there shall be levied, collected, and paid for each taxable year upon the net income of every corporation a tax at the following rates: (1) For the calendar year 1918, 12 per centum of the amount of the net income in excess of the credits provided in section 236; and (2) For each calendar year thereafter, 10 per centum of such excess amount. (b) For the purposes of the Act approved March 21, 1918, entitled "An Act to provide for the operation of transportation systems while under Federal control, for the just compensation of their owners, and for other purposes," five-sixths of the tax imposed by paragraph (1) of subdivision (a) and four-fifths2652 of the tax imposed by paragraph (2) of subdivision (a) shall be treated as levied by an Act in amendment of Title I of the Revenue Act of 1917. Thus it will be seen that five-sixths of a 12 per cent income tax, viz, all but 2 per cent, and four-fifths of a 10 per cent tax, viz, all but 2 per cent, were expressly to be treated as levied by the 1917 Act which had been named in the Federal Control Act, and this five-sixths 1180 and four-fifths, respectively, were thus brought within the provision requiring the carrier to pay the same out of its own funds, the 2 per cent being as theretofore paid or borne by the Director General out of the revenues received from operations. The foregoing analysis of the situation seems to us to leave no doubt that the plain intention of Congress as expressed in all of the statutes dealing with the subject was to take from the carriers any liability for the 2 per cent income tax and to save them from any incidental disadvantage which might result if they were called upon to pay such amount. The United States at the time it took over the railroads had the one great concern to successfully carry on the war. All things were being unitedly devoted2653 to that end. Both the collection of the revenues and the operation of the railroads were factors in that single project. We are not willing to believe, particularly in view of the several statutory expressions to the contrary, that either of these two extremely important matters was considered without full cognizance of its effect upon the other. The just compensation was fixed in the light of the tax laws then in existence, and the Revenue Act of 1918 was framed with full knowledge of the Federal Control Act and its effect upon the carriers' taxes. The Government was a party to an agreement with each of these carriers and this agreement was made so as satisfactorily to adjust the rights and obligations of these parties to each other. The purpose was to provide for the use by the Government of the railroad properties and to fix a fair consideration therefor. The consideration was determined not by disregarding the rights and obligations which the same parties sustained through their relation of sovereign and taxpayer, but by taking into account that relation and any other relations which would necessarily be affected. The Government is an entity. To be sure, it has even in2654 times of peace a multitude of various functions which in time of war are necessarily increased; but these functions, however separately carried on, do not render the United States divisible. What it does in one function can not be presumed, except when unmistakably expressed, to be undone in another function. And this is the effect of what the Commissioner now contends. He does not dispute the great purpose to provide just compensation to the carriers for the use of their properties, but he would take from the carriers as a tax a portion, small but no less substantial, of what Congress in the Control Act has said they shall have for their own. We can not attribute to Congress this inconsistency. We can not believe that by this indirect method Congress intended that the Commissioner might reduce such compensation as the language of the agreement seemed to assure. We think that the carriers were to be relieved of the 2 per cent tax or any part thereof, and that the assumption of this amount by the Director General was in effect a complete relinquishment by the United States of any right thereto which it may have had against the carrier. The liability therefor which the carrier2655 would have had in the absence of Federal control was, to use a variety of expression meaning the same thing, transferred to the Director General, assumed by him, wiped out, or absorbed by the United States. See Pittsburgh & West Virginia Ry. Co. v.United States, 61 Ct. Cls. , decided May 4, 1925. 1181 It remains only to deal with some of the more specific contentions of the parties. The taxpayer relies, as conclusive authority for its position, upon Duffy v. Pitney, 2 Fed.(2d) 230, in which the Supreme Court denied certiorari on February 2, 1925. While that decision tends to support the taxpayer's view, the situation involves a substantially different statutory provision and distinctions which it is unnecessary here to consider. The principal distinction is that in the present case we are dealing not with a situation involving three parties, one of whom (the obligor) agrees to pay to another (the United States) a tax liability which, in the absence of statute and contract, would be attributable to a third (the obligee); but with a situation involving two parties - the Government and the taxpayer corporation. 2656 In view of the stress, however, which counsel for the taxpayer placed in brief and oral argument upon the authoritative effect of the Supreme Court's denial of certiorari, we are impelled to state that such denial can not be regarded as an affirmance or adoption of the opinion of the Circuit Court of Appeals. In addition to the Supreme's Court's opinion in Hamilton Shoe Co. v. Wolf Bros.,240 U.S. 251">240 U.S. 251, where it is unequivocally stated that "the refusal of an application for this extraordinary writ is in no case equivalent to an affirmance of the decree that is sought to be reviewed," we have the unmistakable inference to be drawn from the action of the Supreme Court in respect of the right of a lessee of a mine to deduct depletion under the Revenue Act of 1916. In Weiss v. Mohawk Mining Co.,264 Fed. 502, the Circuit Court of Appeals of the Sixth Circuit denied on March 2, 1920, that the lessee had such a right. This view the court adhered to on petition for rehearing, June 15, 1920. The Supreme Court denied certiorari in 2657 254 U.S. 637">254 U.S. 637. If the present taxpayer were correct, this would mean that the Supreme Court had affirmed the decision below and thus established the uniformly proper construction of the statute. But the same question arose in the District Court of Minnesota and was decided contrariwise on March 30, 1922. Alworth-Stephens Co. v. Lynch,278 Fed. 959. This was affirmed in an opinion by Judge Sanborn for the Circuit Court of Appeals, Eighth Circuit, in Lynch v. Alworth-Stephens Co.,294 Fed. 190. The Supreme Court granted certiorari to review the latter decision and, in an opinion by Mr. Justice Sutherland handed down March 2, 1925, Lynch v. Alworth-Stephens Co.,267 U.S. 364">267 U.S. 364, this judgment was affirmed, thus setting at naught the construction of the statute announced in the Mohawk Mining case, in which certiorari had been refused. The Commissioner urges that the 2 per cent tax is upon the railroad corporation by virtue of the provision in the 1918 Act that the 12 per cent and 10 per cent taxes, respectively, are imposed upon all corporations, and hence that the Director General's so-called payment of the2658 amount is a payment made in behalf of the corporation, bringing it within such authority as Houston Belt & Terminal Ry. Co. v. United States,250 Fed. 1; Blalock v. Georgia Ry. & Electric Co.,246 Fed. 387; and Rensselaer & Saratoga R.R. Co. v. Irwin,249 Fed. 726. But, as we have said in respect of the Pitney case, the present situation is distinguishable because of the unity of the United States acting by the Director General and the United States acting by the Commissioner of Internal Revenue. This was not a liability 1182 of the carriers borne by the Director General, but to the contrary it was a release to the carriers of such liability. The Commissioner urges that the Federal Control Act was an exercise of the power of eminent domain and may not be read as a taxing statute. We understand the contention to be in effect that the two statutes may not be read together to determine their effect upon the corporation's tax liability, but that the question must be determined entirely by reference to the Revenue Act of 1918 imposing an income tax upon all corporations. The Control Act originated in the Senate, 2659 and it is said that to give it consideration as a factor in determining tax liability would be of doubtful constitutionality, because it would in effect be treating as a valid statute an act which did not originate in the House, as provided by the Constitution, Art. I, Sec. 7, Cl. 1. That this argument is fallacious is apparent from the fact that the act nowhere purports to raise revenue, and its effect in the present instance is quite to the contrary. Its principal purpose is to provide for the operation of the railroads and for the just compensation of their owners, and it is one of the incidents of this purpose that revenues are affected. The Supreme Court in Twin City Bank v. Nebeker,167 U.S. 196">167 U.S. 196; and Millard v. Roberts,202 U.S. 429">202 U.S. 429, has made it clear that the bills for raising revenue covered by the constitutional provision do not include bills for other purposes which incidentally provide revenue. A fortiori, a bill which does not raise revenue even incidentally but operates to relinquish taxes otherwise collectible is not within the constitutional requirement. 2660 The Commissioner looks only to the Revenue Act of 1918 and urges that to determine tax liability our attention must be confined to the revenue statutes. The Supreme Court, however, in Evans v. Gore,253 U.S. 245">253 U.S. 245, looked beyond the revenue act into a separate section of the Constitution to apply an exemption of judges' salaries contrary to the provision of the taxing statute. Consistently with this it is well known that the several Liberty Loan Acts relieved the interest from Liberty loans wholly or partially from income tax without any reference thereto being found in the contemporaneous revenue acts. It is said that there was not a tax liability upon the Director General because it can not be supposed that the Government would tax itself; and from this the inference is drawn that the liability must be upon the corporation. This, however, as we have seen, assumes that a liability must exist somewhere, and if not upon the Director General, then upon the carrier. It may indeed be true that there is no liability upon the Director General, he being a Government agency, but it does not follow that a liability necessarily attaches to the corporation. The truth2661 is that there is no liability of anyone for a tax since the Director General is not a Federal taxpayer and the corporation's tax liability has been absorbed in the provision for just compensation. The use, in the statute and the agreement, of the expression that the Director General should pay taxes or that the taxes should be paid out of railway operating revenue is merely a convenient method of expressing what we have already shown to be the purpose, and we are not inclined to defeat this purpose in order to ascribe to this language a technical and highly artificial significance. 1183 It results from what has been said that the amounts of $14,500.22 for 1918 and $15,574.85 for 1919 were borne by the Director General as a direct charge against operating revenues and did not constitute a payment by him in behalf of the taxpayer of a tax liability imposed upon it. These amounts were not income of the corporation. To regard them as such, using the amount as the basis of additional tax, would necessarily operate to the detriment of the carrier, against which the United States, pursuant to the Federal Control Act, has expressly agreed to save the corporation harmless. *2662 It will not be assumed that Congress intended the circuity of action which would result by compelling the corporation to pay the tax attributable to the inclusion of these amounts in taxable net income and thus establish in the corporation a right of action against the United States to enforce the indemnity provision of the contract. No useful purpose has been suggested for such a wasteful proceeding, the result of which would have the effect of merely imposing upon the parties the expense involved in collection and perhaps litigation. Footnotes1. I. Operating income: 501. Railway operating revenues. 531. Railway operating expenses. Net revenue from railway operations. 532. Railway tax accruals. 533. Uncollectible railway revenues. Railway operating income. 502. Revenues from miscellaneous operations. 534. Expenses of miscellaneous operations. Net revenue from miscellaneous operations. 535. Taxes on miscellaneous operating property. Miscellaneous operating income. Total operating income. ↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621856/	James E. Blatchford v. Commissioner.Blatchford v. CommissionerDocket No. 58107.United States Tax CourtT.C. Memo 1963-83; 1963 Tax Ct. Memo LEXIS 261; 22 T.C.M. (CCH) 356; T.C.M. (RIA) 63083; March 21, 1963Robert P. Smith, Esq., Bowen Bldg., Washington, D.C., Joseph W. Kiernan, Esq., and D. A. Baker, Esq., for petitioner. Paul E. Waring, Esq., for the respondent. KERN Memorandum Findings of Fact and Opinion The Commissioner determined deficiencies in petitioner's income taxes and additions thereto for the calendar years 1938 to 1947, inclusive, as follows: Additions to TaxSec.Sec.YearDeficiency293(b)294(d)(2)1938$ 11,918.50$ 5,959.251939327.44163.7219403,261.844,130.92194126,126.4913,063.25194261,502.9030,751.451943111,733.7755,866.89194456,992.3528,496.18$3,817.20194544,030.9022,015.451946170,666.6685,333.331947133,744.0266,872.01262 The issues for our decision are: (1) Whether petitioner failed to report all of the taxable income he received during the years 1938 through 1947; and, if so, (2) whether any part of the deficiencies resulting from such failure was due to fraud with intent to evade the payment of taxes; (3) whether the statute of limitations bars assessment and collection of any of the deficiencies determined for the years 1938 to 1947, inclusive; and (4) whether the addition to tax under section 294(d)(2) was properly imposed on petitioner for the year 1944. Findings of Fact Certain facts were orally stipulated by the parties during the course of the trial of this proceeding, and such stipulations as were made are indicated in the transcript and incorporated herein as part of our findings by this reference. The petitioner resides at Hollidaysburg, Pennsylvania. He filed his income tax returns for all of the years involved in this proceeding with the then collector of internal revenue at Philadelphia, Pennsylvania. His returns for all of the taxable years (1938 through 1947) were timely filed either when due or within extension periods granted by the Commissioner. He has not executed any waiver263 or entered into any agreement whereby he waived the statute of limitations. The Commissioner's notice determining the deficiencies herein was dated March 4, 1955. Petitioner has operated a retail store in Altoona, Pennsylvania, since 1934, in which he sold furniture, appliances, jewelry, and clothing. Petitioner's store was a sole proprietorship known as the Blatchford Furniture Company. In addition, he operated branch stores in the nearby Pennsylvania towns of Barnesboro and Tyrone. Petitioner maintained his books and records and filed his tax returns using the installment method of accounting. Petitioner conducted business essentially on a credit basis, requiring either small or no down payments on purchases made by his customers, with monthly or semimonthly payments until the balances were discharged. Some sales were made for cash, but cash sales and installment sales were not reported separately for tax purposes. The accounting system employed in petitioner's business centered around some socalled "window machines" produced by the National Cash Register Company. These machines required separate ledger cards for each customer on which all transactions pertaining to that264 customer were recorded. The cards indicated accounts receivable if the sales were made on the installment basis or accounts payable if customers made deposits on items not available for immediate delivery. In addition, certain "hold" or "layaway" transactions, depending upon whether the item sold was furniture or clothing, were also noted on the ledger cards and reflected balances in favor of petitioner's customers. These ledger cards, together with certain inventory records, a check-and-invoice register of purchases and expenses, a notes-and-accounts-payable register, and some other books pertaining to assets and investments (such as securities and mortgage and rental properties) constituted petitioner's bookkeeping system. Each ledger card contained the customer's name and address, the type of merchandise purchased, the date of the sale, the name of the salesman, and the code letter of the clerk who recorded the sale. If a sale were made on the installment basis, the amount of the sale, the down payment, the balance due, and the terms of payment were all indicated on the ledger card. Customers making installment purchases were given duplicate ledger receipt books containing the265 same information recorded on petitioner's ledger cards, and the numbers on these books corresponded with the numbers on the ledger cards. As a part of the procedure customers making installment purchases also signed installment contracts which bore numbers corresponding to those appearing on ledger cards pertaining to installment sales. When a customer came into petitioner's store to make an additional purchase or to make a payment, the cashier would place the receipt book and the customer's ledger card in the "window machine" and both documents would be posted simultaneously to indicate the amount, the date, and balance remaining to be paid. This operation was continued until the customer discharged the balance due. It was sometimes necessary to make a second or continuation card, which was attached to the first card. If customers made additional purchases on the installment bases their cards might be open over a period of from 3 to 9 years. Sales for cash were handled in a similar fashion. The salesman would go to the cash register and obtain a ledger card containing the name and address of the customer, the date of the sale, and the kind of merchandise purchased. This ledger266 card would then be run through the "window machine" together with a copy of the sales slip which was given to the customer as a receipt. The so-called "hold" and "layaway" merchandise transactions were handled in much the same way, except that the ledger card would show the amount of the transaction, the amount of the deposit, and the balance due. The merchandise involved would be set aside until the customer made a sufficient number of payments, at which time the transaction was treated as a sale. If the customer failed to complete the payments, the merchandise was returned to stock and the money deposited by the customer was refunded. Such transactions were utilized by persons with bad credit ratings to obtain merchandise, but during the war years some consumer goods were in short supply and sizable deposits were made by many customers who needed appliances which were not available in the expectation that if petitioner could obtain the appliances they would buy them, and if he could not the deposits would be refunded. Such transactions were not treated as sales until the merchandise was delivered. About 15 percent of petitioner's total sales was handled on a "hold" basis. Sometime267 in 1934 petitioner employed Helen Kemp to work in the bookkeeping department of the Blatchford Furniture Company and in all of the years involved herein she was petitioner's chief bookkeeper. Helen, as she will sometimes hereinafter be referred to, attended the public schools of Altoona where she "took the commercial course." She has never taken an accounting course and does not profess to be an accountant. She served as petitioner's head bookkeeper for about 20 years, having left his employ in 1956. All of petitioner's books and record were maintained under her supervision. In addition, Helen handled the payroll, the purchasing of merchandise, depositing of funds in various bank accounts, as well as compiling information for petitioner's tax returns. At the end of every business day Helen reconciled the cash received with the figures entered on the customer ledger cards. The same cash figure would appear on a tape attached to the cash register. Daily summary sheets were compiled and were subsequently used to compile monthly summary sheets. A yearly summary was then compiled from the assorted cash register tapes and monthly summaries in order to determine the progress of the business. 268 For tax purposes, however, it was necessary to refer to the ledger cards and allocate the cash received to the year of the original sale to which the cash collected was to be applied. This procedure would take almost 6 weeks. These summary sheets were filed away in a storeroom, and sometime prior to 1948 they were either lost or misplaced and cannot now be found. After Helen had computed the necessary figures she submitted various summaries, including a balance sheet, to a firm of public accountants known as Young & Company, which used the information so supplied to make petitioner's tax returns. The information submitted by Helen was not complete, and it was usually necessary for the accountants to adjust her figures before they could be used to make petitioner's tax returns. Petitioner's tax returns for the years 1936 and 1937 were examined by agents of the then Bureau of Internal Revenue. Upon completion of this examination, deficiencies totaling $1,418.40 were determined. These deficiencies were the result of faulty bookkeeping practices employed by the petitioner. The following excerpts from the examining officer's report indicate the nature of the difficulty: This taxpayer's269 records certainly are not kept in a manner to properly reflect his income on the installment basis as required by the Regulations. It would be extremely difficult to prepare Exhibits reflecting gains and losses in the many repossession transactions, and the only way to determine the income by the installment method was to prepare balance sheets and establish the Reserve for Unrealized Profit at end of 1935, 1936 and 1937. Many transactions are not recorded in books. The bookkeeper has little conception of what is really meant by the "installment method." It is believed by this examiner that the tax liability reflected in this report is substantially correct. The fact is that the "Receipts Adjustments" shown on Schedules 3 and 8 represent the amounts which were required to tie the net income on the installment basis with the net worth figures at end of each year 1936 and 1937. The "Receipts Adjustments" in schedule 3, pertaining to 1936, amounted to $15,794.07 and had the effect of increasing gross profit for that year in the amount of $5,913.33. For the year 1937 the "Receipts Adjustments" amounted to $16,410.81 and increased gross profit by $6,494.84. A copy of the report270 of examination was forwarded to Robert E. Young, a partner in the accounting firm of Young & Company, who was petitioner's "auditor" and possessed a "power of Attorney to represent the taxpayer in all tax matters." There is nothing in the record to indicate that corrective action was taken as a result of the examination of the returns for the taxable years 1936 and 1937. Sometime in 1941 some members of Young & Company reviewed petitioner's accounting system in an effort to discover the cause of discrepancy in the figures given them by Helen at the end of each year. They found that petitioner's basic accounting system was the standard one used by most installment furniture organizations. He did not have a general ledger in the accepted sense of the word, but as a substitute monthly summaries were used and later put into a yearly summary form. Certain changes were recommended by Young & Company to strengthen the system, but these changes were not put into effect by petitioner. Petitioner's return for the year 1944 was also examined by agents of the then Bureau of Internal Revenue and a deficiency of $53.66 was determined and paid as a result of the examination. The following excerpt271 from the report of examination indicates the nature of the difficulty: Taxpayer using the installment method of accounting in reporting income has deducted bad debts of $1,167.31 in 1944. The amount claimed represents 100% of the bad debts, but he is only allowed to deduct 61.27% of the bad debts representing the remaining unrecovered cost of goods sold since he reported only 38.73% as gross profit under the installment method for tax purposes in 3 prior years. * * * Since the bad debts claimed represented accounts receivable of years 1941 to 1943 and would have required much time and searching of records to identify in which year they belonged, an average of the three years gross profits reported was taken to arrive at 38.73% as gross profit and 61.27% remaining unrecovered cost of goods sold for those years. Petitioner's tax return for the year 1944 was the last return prepared for him by Young & Company. The information submitted by Helen for the year 1945 was out of balance and Young & Company obtained an extension of the filing time from the Commissioner of Internal Revenue and requested a "complete story of their [petitioner's and Helen's] activities." Upon looking over272 petitioner's records the accountants were particularly concerned because of discrepancies in recorded sales and the sales reported to them, and the fact that the "cash flow" could not be reconciled for petitioner had apparently spent more cash than he had received during that year. Petitioner rejected the accountants' suggestion that an audit of his books be made and decided that thereafter Helen Kemp would prepare his tax returns. Sometime in May 1948 Herman F. Kerner, who had been a revenue agent since March 1947, was assigned to investigate petitioner's income tax return for the year 1946. He talked to both petitioner and Helen in order to review the income reported from dividends and interest. Helen gave him a booklet published by Kidder, Peabody & Co. which contained various entries made by Helen relating to dividends received by petitioner. The entries in this booklet substantially agreed with the amount of dividends reported on petitioner's income tax return for the year 1946. At that time Kerner, as he will hereinafter be referred to, had in his possession certain information forms submitted by corporate taxpayers to advise the then Bureau of Internal Revenue of the payment273 of such dividends and interest. In some instances such corporations furnish the taxpayers with duplicate copies of these forms, along with the checks sent in payment of the dividends and interest. Only the dividends and interest represented by such duplicate copies of information forms sent to respondent by the payors of the dividends and interest were entered in the Kidder, Peabody & Co. booklet. Kerner knew that petitioner had received dividends exceeding the amount reported on his return for 1946 and he pressed Helen and later, on the same morning, the petitioner to give him any further information that they had. Helen told him on that occasion that the Kidder, Peabody & Co. booklet was the only record relative to securities and contained all of the dividend income received by petitioner for the year 1946. In the conversation with petitioner, later in the morning, Kerner was advised by petitioner that whatever record was shown to Kerner by Helen constituted the only record which they had. Later in the afternoon Kerner again saw petitioner and told him that the problem of the discrepancies between the dividends reported and those actually received was still unresolved. Petitioner274 then told Kerner to come back the following day and in the meantime he would make an effort to figure out the differences between the figures contained in the Kidder-Peabody booklet and the information already in Kerner's possession as to additional dividends. The next day, when Kerner returned, petitioner told Helen Kemp to give Kerner all of the information she had. She gave Kerner two bound ledger books which contained complete and detailed records of all of his security transactions as well as dividends received by petitioner. Upon checking these books with petitioner's brokers, Kerner found the books to be substantially correct. The entries in the bound books indicated dividends and capital gains in excess of those reported on petitioner's returns, and in all important respects the books agreed with the information Kerner had obtained from an examination of various accounts maintained for petitioner by his stock-brokers. As petitioner's security transactions were not begun until the fall of 1942, his books reflect no income from securities until the year 1943. The following is a summary of the dividends and interest payments actually received compared with those reported on275 petitioner's returns: YearPer BooksPer ReturnsDifference1943$ 6,917.09$ 610.84$ 6,306.25194413,687.362,839.7410,847.62194510,604.702,987.507,617.20194611,133.955,571.885,562.07194711,329.504,418.706,910.80During the years 1943 through 1947 petitioner's reported capital gains were substantially less than those actually received by petitioner, as indicated by the following summary: Short-Term GainsShort-Term LossesNet Long-TermgainsYearPer BooksPer ReturnsPer BooksPer ReturnsPer BooksPer Returns1943$3,981.77$ 1,119.64$ (925.12)19443,059.93$452.16713.92$ 48.895,097.51$ 3,777.3319454,265.16859.66874.64360.7441,160.526,796.921946834.81514.9110,154.8511,012.93(7,158.45)(5,691.57)1947(12,392.75)(11,388.01)As a result of Kerner's findings, special agent Thomas J. Devine was assigned to investigate petitioner's returns on or about June 2, 1948. After looking over the Kidder-Peabody booklet and the two bound ledgers pertaining to security transactions, Devine requested and received petitioner's276 permission to examine his bank accounts. He made a transcript of the petitioner's personal accounts, but he found the business accounts too voluminous and a similar analysis would have required too much time. Kerner reported the results of his initial investigation to his superiors and it was decided that a review should be made of petitioner's financial capacity to engage in security transactions of the magnitude disclosed in the security ledgers and in petitioner's brokers' accounts. Kerner then returned to Altoona and asked to see petitioner's records for past years' operations of the Blatchford Furniture Company. He was taken to the place where the records were supposed to be stored, but they could not be found. The only records available were records of monthly expenses, known as "Expense Summaries," and numerous customer record cards, sometimes referred to as customer ledger cards. Thereafter, Helen Kemp referred him to Young & Company, which company made available the worksheets which had been used to prepare petitioner's income tax returns for the years 1938 through 1944. Both Kerner and Devine were aware that petitioner's customer record ledger cards were available for277 their inspection. These cards were filed on trays which were stored inside a vault located behind the cashier's cage on the street level of petitioner's store Neither agent examined or attempted in any way to determine the completeness or accuracy of these ledger cards. Both men believed the cards were wholly unreliable without some form of control or summary sheets. In the course of examining petitioner's records and the worksheets found in Young & Company's files, Kerner sought to reconcile petitioner's income with his net worth as of certain dates. When the reconciliation failed, Kerner decided that it was necessary to estimate petitioner's income according to the so-called net worth method. As a starting point, he took a statement of petitioner's assets and liabilities as of December 31, 1937, contained among the work papers of petitioner's accountants and based upon figures submitted by Helen Kemp which were reconcilable with a sworn statement submitted by petitioner in connection with a tax proceeding for the year 1935. Upon conferring with petitioner to determine the completeness of that balance sheet, it was modified to include: A piece of property referred to as the gas278 station property, which petitioner had inherited prior to 1937 and valued at $10,000; a personal residence which was converted to rental property in subsequent years, and which was valued at $7,500; and the beginning of a savings account in the amount of $75. As so modified, the opening net worth statement used by respondent was as follows: December 31, 1937AssetsLiabilitiesCash$ 2,695.55Accounts receivable$210,884.22Less: Reserve for unrealized profits81,966.55128,917.67Inventory42,637.28Furniture and Fixtures$ 7,077.69Less: Reserve for depreciation1,537.975,539.72Autos and trucks$ 6,207.57Less: Reserve for depreciation2,453.903,753.67Buildings$ 49,095.29Less: Reserve for depreciation736.4448,358.85Land60,000.00Securities200.00Gas station property10,000.00Personal residence7,500.00Savings and Loan stock75.00Total assets$309,677.74Accounts payable$ 61,226.08Notes payable - Altoona Trust Company31,725.00Notes payable - Other56,892.31Mortgage payable50,000.00Total liabilities$199,843.39Net worth$109,834.35The same279 categories of assets and liabilities were used in the balance sheets prepared by respondent's agents showing petitioner's assets and liabilities as of the ends of the years 1938 through 1944, augmented by asset items reflecting bank accounts for the years 1940 through 1944, asset items reflecting the value of petitioner's "Converted personal residence" ("Building Less: Reserve for depreciation" and "Land - Converted residences") for the years 1940 and 1941, asset items reflecting the cost of leasehold improvements less depreciation for the years 1941 through 1944, an asset item reflecting the cost of petitioner's residence for the years 1941 through 1944, asset items reflecting the value or cost of buildings less reserve for depreciation and of land for the years 1941 through 1944, an asset item entitled "Mortgages Receivable" for the years 1942 through 1944, and an asset item entitled "Due from Brokers" for the years 1943 and 1944. These balance sheets are set out in detail in exhibit A and are specifically incorporated herein by this reference. The accounts receivable represent the unpaid installment obligations of petitioner's customers. This figure is reduced by a reserve for280 unrealized profits. This reserve did not appear on any of Helen Kemp's balance sheets, for it was computed by petitioner's accountants and treated as a net worth item on their worksheets. It was also treated as a net worth item by the agent investigating petitioner's returns for the years 1936 and 1937. On December 31, 1944, this reserve had declined to $68,827.42. Kerner used the increase in net-worth-plus-expenditures formula to determine that petitioner received taxable income greatly in excess of that reported for the years 1938 through 1944. He applied the so-called bank-deposit method to determine that petitioner also had large amounts of unreported income during the years 1945, 1946, and 1947. Based upon Kerner's investigation, respondent determined that petitioner's net worth at the end of the year indicated was as follows: YearAssetsLiabilitiesNet Worth1937$309,677.74$199,843.39$109,834.351938294,809.86130,768.92164,040.941939316,959.25148,741.62168,217.631940351,142.44150,388.75200,753.691941388,776.36131,360.49257,415.871942452,453.4390,378.74362,074.691943588,385.8890,407.22497,978.661944672,569.8084,943.75587,626.05281 By determining the difference between the net worth at the end of one year and the net worth at the end of the previous year, and adding to this difference the amount petitioner spent for income taxes and his estimated personal living expenses during the year, respondent reconstructed the petitioner's income for the years 1938 through 1944 as follows: Increase inEstimatedIncome TaxesTotalYearNet WorthPersonal ExpensesPaidIncome1938$ 54,206.59$3,700.00$ 2,219.50$ 60,126.0919394,176.694,320.981,418.409,916.07194032,536.065,422.3637,958.42194156,662.185,594.0162,256.191942104,658.827,930.421,033.44113,622.681943135,903.977,962.9613,219.88157,086.81194489,647.398,369.164,558.71102,575.26On his Federal income tax returns for the same years petitioner reported the following: TotalTaxableYearSalesExpensesIncome1938$207,461.90$ 83,655.85$ (3,808.92)1939341,835.97111,512.76(14,390.32)1940351,821.14111,699.691 10,530.53 1941384,094.91125,910.449,868.771942347,546.26128,308.0632,641.891943369,834.52125,246.7321,129.441944396,681.21133,431.1627,620.68282 Petitioner's business net income was computed by use of the installment method of accounting. A gross profit percentage was determined for each year and applied to the cash collected pertaining to sales made during that year. In addition, gross profit percentages for prior years were applied to cash collections pertaining to sales made in prior years. The gross profit for a particular taxable year was obtained by adding the results of these computations, and to determine petitioner's net income the expenses were subtracted from the gross profit. Rental income, dividends, interest, and capital gains were added to the business net income to obtain the income reported on the returns. During all of the years involved in this proceeding the gas station property was leased to the Independent Oil Company at an annual rental of $780. This income was not reported on petitioner's income tax returns in any year. No deductions were claimed for expenses connected with this property. Sometime in 1940283 petitioner purchased a new home and converted his previous residence to rental property. The rental income from his converted residence amounted to $400 in 1940, $600 in 1941, $575 in 1942, $600 in 1943. $600 in 1944, and $475 in 1945. None of this rental income was reported by petitioner on his returns for any of these years. Petitioner did not claim deductions for any expenses connected with this rental property. Helen explained that she did not include the income from the gas station property and the converted residence in the total of petitioner's rental income because the former had been inherited and was a gift, and because gifts were not considered taxable income she did not think the income resulting from gift property was taxable either; and as for the converted residence, she had never claimed any expenses or reported any income from it when petitioner lived there so she did not think it was necessary to do so after he moved out. The opening net worth statement used by Kerner indicated notes payable in the amount of $56,892.31, which amount was characterized by respondent's agent as a "substantial unverified figure." Of this amount $43,742.31 appeared on the accountants' 284 worksheets for years other than and after 1937, but it did not appear on any of respondent's balance sheets for years after 1937. One of the agents indicated on a schedule prepared in an effort to identify petitioner's liabilities that $28,742.31 of this amount was owed to "C.I.T. Corporation" and the balance of $15,000 to some unknown creditor. Petitioner's liabilities consisted of ordinary accounts payable, notes payable to banks, notes payable to others, and mortgages payable. Among the notes payable to banks were certain obligations to the Altoona Trust Company, the amount of which was stipulated by the parties. The mortgages-payable figure represented the unpaid balance on a $50,000 mortgage incurred in 1937 at the time petitioner purchased a business lot and building which were valued at a total figure of $109,095.29 on his 1937 balance sheet (allocated $60,000 to "land" and $49,095.29 to "building"). The outstanding balance at the end of the year on this mortgage was stipulated for all years except 1937. Each year Helen Kemp submitted balance sheets to petitioner's accountants to assist them in preparing petitioner's Federal income tax returns. These balance sheets purport285 to show the financial picture of the Blatchford Furniture Company, and they do not purport to include all of the assets or liabilities which the petitioner had as an individual at the end of the corresponding years. Helen never did include the value of the business lot and building acquired by petitioner in 1937 or the amount of the mortgage incurred when the building was purchased. Respondent accepted and used many of the figures on Helen's balance sheets in his net worth analysis. The balance sheets prepared by Helen Kemp indicate certain amounts designated as "Notes Payable to Banks" and "Notes Payable to Others," which exceed the amounts used by respondent in his net worth analysis under the corresponding captions "Notes payable-Altoona Trust Company" and "Notes payable - Other." The accounts-payable figures used by Helen and respondent agree for all years. In addition to the liabilities listed on Helen Kemp's balance sheets petitioner also had certain personal liabilities which were reported to Kerner at the time he conducted his investigation. Respondent erroneously determined that the personal liabilities of petitioner and the business liabilities on the balance sheets prepared286 by Helen Kemp were conflicting versions of the same thing, and as a result he understated petitioner's liabilities for all of the years involved in this proceeding. For the first 3 years involved respondent accepted and included in his net worth analysis the "cash" figures appearing on Helen's balance sheets. During 1940 certain additional bank accounts were opened by petitioner or by Helen Kemp in his behalf. Some of these bank accounts were personal accounts and others were business accounts. A part of the money deposited to the business accounts represented deposits on "hold" or "layaway" purchases made by petitioner's customers. Respondent adjusted the end-of-year bank balances downward in some of these accounts without any explanation whatsoever. Certain other balances shown in petitioner's business accounts were included in the net worth analysis without any adjustment for checks outstanding at the end of the year. The proper "cash" figures for the business accounts were the amounts shown on Helen Kemp's balance sheets, and the difference between those figures and the amounts determined by respondent represents money belonging to petitioner's customers and adjustments required287 as a result of checks outstanding at the time the banks rendered the statements. The following summary reflects the total deposits to business accounts as determined by respondent and the proper amounts we have found to be the correct "cash in banks" figures for petitioner's business for the years indicated: AmountProper AmountDeterminedas IndicatedYearby Respondentby Bookkeeper1940$ 5,558.00$2,332.6219419,891.135,176.03194233,609.008,799.86194336,093.605,777.50194476,758.528,421.19The evidence presented at the trial required further changes in the figures appearing on respondent's net worth statement. Respondent relied upon a number of exhibits prepared by the agents who investigated this case to establish bank balances in petitioner's personal accounts on December 31 of each year. In some instances respondent gave petitioner the benefit of the lesser of two figures, the December 31 and January 2 balances, which appear on the ledger sheets maintained by the banks. In other instances respondent used the greater of the two balances. In addition to the changes already noted in respondent's net worth analysis, the following288 additional changes are made: Respondent'sOurStatementFinding1938Notes payable to bank$ 17,150.00$ 24,840.00Notes payable to others9,057.8019,269.581939Notes payable to banks23,500.0033,500.00Notes payable to others7,000.0016,155.001940Balance in personal account at The FirstNationalBank of Altoona3,627.033,277.03Balance in personal account at Central TrustCom-pany of Altoona504.72Notes payable to banks20,500.0038,850.00Notes payable to others7,100.0025,600.001941Balance in personal account at Central TrustCom-pany of Altoona504.72Notes payable to banks6,900.0055,900.00Notes payable to others6,300.0035,903.071942Balance in personal account at Central TrustCom-pany of Altoona5,304.724,800.00Furniture and fixtures16,807.687,128.82Securities38,059.9137,184.91Mortgages receivable8,800.00Notes payable to banks49,500.00Notes payable to others4,300.0026,800.001943Balance in personal account at Central TrustCom-pany of Altoona1,633.971,129.25Real estate - buildings19,073.725,846.93Furniture and fixtures15,547.286,482.20Land$ 2,320.00$ 820.00Securities136,727.12135,113.69Mortgages receivable7,600.00Due from brokers14,270.45Notes payable to banks39,500.00Notes payable to others3,000.0021,500.001944Balance in personal account at Central TrustCom-pany of Altoona5,506.355,001.63Furniture and fixtures15,905.087,917.00Securities186,761.67180,407.90Real estate - buildings25,537.505,619.73Land3,320.00820.00Mortgages receivable6,500.00Due from brokers1,143.79Notes payable to banks29,650.00Notes payable to others3,000.0026,500.00289 All of the above adjustments are an outgrowth of the evidence, most of which was produced by the respondent. The reasons for the changes not already set forth in our findings will be discussed in the opinion. The changes in respondent's determination resulting from the Court's findings are summarized as follows: YearAssetsLiabilitiesNet WorthIncrease1937$309,677.74$156,101.08$153,576.001938294,809.86148,670.70146,139.16$ (7,437.50)1939316,959.25167,896.62149,062.632,923.471940347,032.34174,172.79172,859.5523,796.921941383,556.54209,963.56173,592.98733.431942407,785.71162,378.74245,406.9771,813.991943510,289.31 148,407.22361,882.09 116,475.12 1944559,324.34138,093.75 421,230.59 59,348.50 Beginning with petitioner's return for the year 1945, Helen Kemp prepared the remaining income tax returns involved in this proceeding. In the preparation of these returns Helen was guided by the previous returns prepared by Young & Company. The following schedule290 summarizes the information reported during the years 1945, 1946, and 1947: YearTotal SalesTotal CollectionsExpensesIncome Reported1945$581,683.77$595,087.47$159,864.14$87,734.551946725,546.89683,940.04212,160.6062,169.681947668,454.96643,645.32228,987.7429,730.00The so-called bank-deposit method was used by respondent to determine petitioner's alleged income for the years 1945, 1946, and 1947. Respondent determined that petitioner had unidentified bank deposits as follows: 194519461947Total Deposits$957,194.77$1,169,137.91$922,709.53Less: Transfers104,000.00103,092.8634,000.00Loans20,000.0024,900.0030,000.00Net Deposits$833,194.77$1,004,845.05$858,709.53Identified802,813.01822,110.40702,338.18Unidentified deposits$ 30,381.76$ 182,734.65$156,371.35Respondent determined that these unidentified deposits constituted additional taxable income which had not been reported by petitioner. Altoona was characterized as a railroad town, and the railroad workers, many of whom were petitioner's customers, were paid twice a month. Whether a worker was291 an actual or merely a prospective customer, it was petitioner's custom to cash checks for these people. Prior to each railroad payday, Helen Kemp would withdraw money from one of petitioner's bank accounts in order to have sufficient cash on hand to cash such payroll checks as were presented. She would draw a check of $3,000 to $5,000 which would be paid in small bills. This service was necessary because many of the workers were unable to get off duty during banking hours. The redeposit of money withdrawn to cash checks for petitioner's customers accounts for a substantial portion of the so-called unidentified deposits which respondent determined to be income. The remainder of the deposits made by petitioner in the years 1945, 1946, and 1947, which could not be identified, represents deposits made by customers on "hold" or "layaway" transactions which were not treated as sales by petitioner until the merchandise was paid for and delivered to his customers. Petitioner was indicted for attempting to defeat and evade the payment of income taxes due and owing by him through the filing of a false and frandulent income tax return for the calendar year 1945. Helen Kemp was also indicted292 along with petitioner. The case was tried in the United States District Court for the Eastern District of Pennsylvania on March 10, 11, and 12, 1953. Both petitioner and his bookkeeper were acquitted. On January 15, 1953, petitioner paid additional tax in the amount of $14,696 on the additional income from dividends and capital gains determined for the year 1945. Petitioner's failure to report the relatively large amounts of dividend income received by him in the years 1943 through 1947 was due to fraud and parts of the deficiencies for such years, to be determined pursuant to our opinion herein, are due to fraud with intent to evade the payment of taxes. Petitioner's returns for those years were fraudulent with intent to evade taxes. Accordingly, the statute of limitations does not bar the assessment and collection of such deficiencies for those years. Petitioner understated his taxable income for the years 1943 and 1944 by the respective amounts of $116,528.52 and $44,655.69. 293 In the year 1945 petitioner failed to report amounts of net rental income and capital gains income in addition to the unreported dividends. The total of such unreported income, to be determined under Rule 50, constitutes an understatement of taxable income for this year. Credit will be given petitioner on account of the payment of additional tax made by him on January 23, 1953. In 1946 and 1947 petitioner failed to report net rental income in addition to the unreported dividends, but also failed to take deductions on account of capital losses. The total of such unreported income received less proper deductions on account of capital losses, all as determined under Rule 50, constitutes an understatement of taxable income for these years. For the years 1938 through 1942 petitioner's returns were not false or fraudulent with intent to evade tax. Therefore, the collection of any deficiencies in income tax for those years 1938 through 1942 is barred by the statute of limitations. Opinion KERN, Judge: Respondent contends that petitioner received taxable income from his business and security transactions substantially in excess of that reported on his income tax returns for the294 years 1938 to 1947, inclusive, and that a part of the deficiency for each year is due to fraud with intent to evade the payment of taxes. To support his determination of deficiencies for the years 1938 to 1944, inclusive, he relies primarily upon certain alleged increases in petitioner's net worth which exceeded in each of these years the amount of taxable income reported. With regard to the deficiencies determined for the years 1945, 1946, and 1947 respondent relies upon certain deposits made to petitioner's bank accounts which exceed his identified receipts from all known sources as proof of his determination that petitioner received income during those years which he did not report. Respondent relies upon the consistent omission of large amounts of income, as determined by the foregoing methods, as establishing fraud in each of the taxable years. In addition, and alternatively, respondent contends that fraud is established in certain years by the consistent omission from reported income for those years of relatively large amounts of dividend income, receipt of which was not recorded in books originally exhibited to respondent's agents, and by the alleged practice during some years295 of deliberately failing to record cash sales of over a certain amount. Petitioner contends that his business income may be accurately computed from his still existing business records, consisting primarily of innumerable customer ledger cards, and he denies that respondent's agents have the right to disregard these records and revert to secondary methods of proof merely because he failed to maintain a general ledger and no longer has certain daily, monthly, and yearly summaries which he contends were not required to be kept. He admits that some dividend, rental, and capital gains income was not reported, but he denies any fraudulent intent with regard thereto. The parties agree that in the event the respondent fails to prove that petitioner's returns were fraudulent with intent to evade the payment of taxes, the assessment and collection of any deficiency that may be found for any of the years 1938 to 1947, inclusive, are barred by the statute of limitations. Petitioner suggests that the failure of respondent's agents to inspect, even casually, the customer cards which were stored in chronological order and which were available in his store at all times relieved him of the burden296 of showing that the cards were a complete and reliable source of determining his correct taxable income. He therefore took the position that it was not incumbent upon him to rebut respondent's determination of deficiencies until respondent proved that his books and records did not adequately reflect his income, and accordingly limited the scope of his evidence and refused to enter into any pretrial stipulation. Such few matters as were eventually stipulated were agreed upon orally at the trial. As a result the record in this case is excessively long and (to make an understatement) is far from satisfactory. Petitioner argues that the respondent must explicitly show by direct evidence that his books are unreliable before resorting to circumstantial proof of taxable income, relying upon United States v. Reganto, 121 F. Supp. 158">121 F. Supp. 158. He contends that the failure of the revenue agents to audit his still existing books and records makes their content an unknown quantity and, not knowing what they would show, respondent may not and cannot show that the taxpayer's books and records are unreliable. In view of the discrepancies between reported income and increases in net worth297 which we have found to exist in the instant case, an analysis of petitioner's books and records, whether offered by petitioner to establish their correctness or by respondent to show that they are unreliable, would either verify the taxable income figures reported on petitioner's returns or establish that the returns did not correctly report petitioner's taxable income as indicated by his books. If the latter, there would be no question as to respondent's right to use indirect or circumstantial methods of determining petitioner's correct tax liability. But, if the former, then the question arises as to whether the amount of taxable income reported by petitioner, whether or not supported by his records, adequately reflects the income actually received. If a net worth analysis indicates increases far beyond that which would, in the ordinary course of events, follow from the income reported as received by the taxpayer, and if these increases cannot be attributed to nontaxable sources, this is evidence that the returns, or the books which the returns are supposed to summarize, do not adequately reflect income. Morris Lipsitz, 21 T.C. 917">21 T.C. 917, affd., 220 F. 2d 871,298 certiorari denied 350 U.S. 845">350 U.S. 845; Estate of George L. Cury, 23 T.C. 305">23 T.C. 305, 333, 334. We do not agree with petitioner that an analysis of his books and records is a condition precedent to respondent's use of the net worth method. In Schultz v. Commissioner, 278 F.2d 927">278 F. 2d 927, reversing, 30 T.C. 256">30 T.C. 256 on another issue, the Court of Appeals for the Fifth Circuit had cause to answer a similar contention of another taxpayer, and in so doing said: The Taxpayer insists that under § 41 n2 the net income is to be computed in accordance with the method of accounting regularly employed by a taxpayer. Consequently, where a taxpayer keeps books and records, the [Commissioner] has the burden of first establishing that the records are faulty or either negligently or fraudulently fail to reflect items of income or disbursements. But this is clearly not so. This Court, with many others, is conscious of the dangers in the use of the net worth method n3 and will require that there be adequate evidence n4 to support a determination that the true income is represented by the process of reconstruction. But once that is satisfied, neither the method nor the299 evidence undergoes an added scrutiny because the taxpayer's books are to this extent disregarded. Indeed, the determination that the trier of fact had requisite basis for concluding that income was truly that shown by the reconstruction process is a simultaneous determination that no matter how neatly or diligently or consistently or conscientiously kept, the books and records were inadequate. Whatever doubts may have existed prior to Holland v. United States, 1954, 348 U.S. 121">348 U.S. 121, 75 S. Ct. 127">75 S. Ct. 127, 90 9. Ed. 150, this is what we have now so held, Dupree v. United States, 5 Cir., 1955, 218 F. 2d 781, and so have others. Davis v. Commissioner, 7 Cir., 1956, 239 F. 2d 187. n5 [Footnotes omitted.] By statute a presumption of correctness attaches to the respondent's determination of deficiency with regard to the deficiencies in tax therein determined, while the burden is expressly put upon respondent to prove the existence of fraud and the validity of the fraud penalties determined. Thus the record in the same case may require a finding that there are deficiencies in tax and yet not support a conclusion that respondent has successfully borne his burden300 of proof with regard to the fraud issue. See L. Schepp Co., 25 B.T.A. 419">25 B.T.A. 419; Sidney Cohen, 27 T.C. 221">27 T.C. 221. In the instant case we have concluded on the entire record that petitioner understated his income in the returns which he filed for most of the taxable years. We are unable to conclude that respondent has successfully borne his burden of proving fraud by establishing by clear and convincing evidence that there were such consistent omissions of large amounts of income as to constitute fraud. We take this view because of the unsatisfactory nature of some of respondent's evidence, the inaccuracies apparent in some of respondent's computations, the peculiarities of petitioner's method of accounting, and the chances for error present in any attempt to reconstruct a taxpayer's income by the so-called net worth or bank-deposit methods, and also with regard to the years prior to 1943 because our findings as to the deficiencies for those years do not justify a conclusion that there was any consistent pattern of understating income. Nor are we able to conclude that the respondent has successfully borne his burden of proving fraud by establishing by clear and301 convincing evidence that there was a practice on the part of petitioner during the taxable years of deliberately failing to record cash sales of over a certain amount. Respondent's witnesses on this matter were inconsistent in their testimony and it was contradicted not only by witnesses produced by petitioner but also by exhibits introduced in evidence. In our opinion respondent's evidence with regard to this contention of fraud was not clear and convincing. However, we do conclude that there is clear and convincing proof of fraud with regard to the years 1943 through 1947 in that in those years petitioner knowingly and consistently omitted from reported gross income relatively large amounts of dividend income with regard to which an attempt was made to mislead respondent's agents. Petitioner admits, as he must under the evidence, that he omitted such income from his returns, and that he initially withheld from respondent's agents the record of its receipt. He attempts to explain this omission by the testimony of his bookkeeper to the effect that she thought that only those dividends constituted taxable income the payment of which had been reported by the payors to the Commissioner302 of Internal Revenue. We do not believe this testimony. It seems to us much more likely that petitioner felt it safe to report only the dividend income known by him to have been reported to the Commissioner as having been paid to him, and to omit from his returns the remainder of his dividend income in an attempt to fraudulently evade the payment of taxes thereon, and we have so found. Before ending this opinion it seems to us pertinent to describe and discuss petitioner's method of accounting and also (to the extent not already set out in our findings) the various adjustments we have made in respondent's computation of petitioner's income. In the instant case petitioner operates several retail stores in which clothing, furniture, appliances, and jewelry are sold on an installment basis, and petitioner has elected to report his income using an approved version of the installment method of accounting. This particular method of reporting income is explicitly authorized by section 44 of the Internal Revenue Code of 1939. Numerous decisions of this Court have dealt with the difficulties of applying cash or accrual concepts to installment-basis taxpayers. See Blums, Inc., 7 B.T.A. 737">7 B.T.A. 737;303 The Hecht Co., 7 T.C. 643">7 T.C. 643, affd. 163 F. 2d 194; Mackin Corporation, 7 T.C. 648">7 T.C. 648, affd., 164 F. 2d 527; and Kimbrell's Home Furnish. v. Commissioner, 159 F.2d 608">159 F. 2d 608. A taxpayer using the installment method is permitted to report as gross profit a percentage of the cash collected during the taxable year. Each payment is treated as a partial return of cost as well as the receipt of a portion of the profit ultimately expected to result from a peculiar sale. Depending upon business trends, actual sales may or may not exceed the cash collected during a given year, and, depending upon collections, the gross profit used to compute net income may be either more or less than the amount the taxpayer would be required to report if he were on the accrual basis. See Highland Merchandising Co., 18 T.C. 737">18 T.C. 737. To reconcile the resulting changes in net worth with the changes to be expected if the taxpayer reported his income on the accrual basis, accountants have devised a deferred gross profit reserve or, as it was called in this case, a reserve for unrealized profit. The proper treatment of reserves of this type has been304 the subject of much discussion among accountants. See Finney and Miller, Principles of Accounting, Advanced (4th ed.) 138, 139; Wixon, Accountants' Handbook, 11, 38, 39. These reserves are of a hybrid nature and consist not only of deferred income but also represent future offsets that may be required for collection costs, refunds, or repairs. If the amount in the reserve remained constant for all years, it would make no difference for our purposes whether it was treated as an element of net worth, as respondent treated it in the report of examination of petitioner's returns for the years 1936 and 1937, or as an offset to accounts receivable, as respondent treated it in his net worth analysis for the years involved herein. Because a reserve for unrealized profit contains a substantial element of deferred income, a decrease in the reserve from one year to another requires the inclusion in taxable income in the latter year of an amount not exceeding the decrease in the reserve. On the other hand, if the reserve shows an increase over the previous year, the amount of the increase attributable to deferred income is properly excludable from taxable income. In his net worth analysis respondent305 offset this reserve against accounts receivable. Taking into consideration the modifications of the net worth statement required by the evidence, petitioner's initial net worth was $153,576.66 and his closing net worth was $421,230.59, showing an overall increase of $267,653.93. * If the reserve for unrealized profit is treated as an element of net worth, however, the petitioner's increase in net worth would be $254,514.80, * based upon an opening net worth of $235,543.21 and a closing net worth of $490,058.01. * Included in the first figure would be $81,966.55 of deferred income, whereas the latter figure contains only $68,827.42 of deferred income. Obviously, sometime during the taxable years in issue, the decrease in deferred income of $13,139.13, obtained by subtracting the closing reserve from the opening reserve, must be reported for tax purposes. If the $13,139.13 is added to the $254,514.80, * it will exactly equal the increase obtained using respondent's method. While the latter method is more technically correct, respondent's method has the virtue of simplicity. 306 After carefully considering all aspects of the installment method and after making numerous reconstructions of petitioner's taxable income based upon increases in net worth, employing this reserve in a variety of ways as well as omitting it altogether, we are convinced that the method used by respondent correctly adjusts petitioner's reportable income to account for any adjustments which may be required by the installment method of accounting. In the instant case respondent assumed the burden of substantiating every figure contained in his net worth analysis and in many respects he succeeded in doing so. The lack of competent evidence pertaining to some items, as well as the difficulty of reconciling evidence and testimony relating to other items, compels us to discuss several items in some detail. The evidence relating to petitioner's bank deposits was particularly troublesome. Some bank balances reported by the bank, as indicated in letters introduced into evidence, have been reduced by respondent without any explanation whatsoever. In some cases respondent chose to use the lesser of the December 31 or January 2 balances, apparently on the assumption that the reduction was307 the result of an outstanding check or checks from the previous year. In other cases respondent used the greater of the two balances, particularly if the larger balance was the result of a deposit made on the first business day of the following year. While respondent may well have made these adjustments on the basis of information available to him but not available to us, they appear in the absence of some explanation to be erroneous. Helen Kemp testified that possibly the cash figures she used on various balance sheets submitted by her to Young & Company took into account checks which were outstanding at the end of the year. At another point she suggested that perhaps she had picked up the balance from only one bank, but when asked to do so she could not show that any particular bank had a balance approximately equal to the amount she reported to Young & Company. It must be remembered that her testimony took place from 15 to 20 years after the fact and some of the banks destroyed their records while petitioner's own bank statements and checkbooks are no longer available. The balance sheets prepared by Helen Kemp did not purport to include funds which were the personal property of308 petitioner and his family as distinguished from those Helen Kemp regarded as business funds. Respondent's own net worth analysis indicates that he believed at least some of the balances should be reduced. For these reasons and because respondent has himself accepted most of the figures on Helen Kemp's balance sheets as correct, and for the additional reason that those figures were prepared by Helen Kemp at a time when she might have been able to explain them in a more satisfactory manner, we have consolidated petitioner's business bank accounts and have found as a fact that the totals in these accounts did not exceed the amounts reported in the yearly balance sheets submitted to Young & Company by Helen Kemp. There was also some testimony to the effect that petitioner possessed sums of money of unspecified amounts which he received as deposits on "layaway" or "hold" sales, as well as for appliances not always available during and after the war years, which could not be regarded as either sales or collections until the merchandise was delivered. Certain customer ledger cards introduced into evidence support this contention. Considering some of the peculiar bookkeeping practices employed309 by Helen Kemp, it is reasonable to believe that she kept some form of memoranda indicating the amount of such deposits and deducted it from the total cash indicated by the bank balances in order to determine the amount of cash properly belonging to petitioner's business at the end of each taxable year. The evidence produced by respondent to support his determination pertaining to petitioner's personal account in the Central Trust Company of Altoona is not clear. On the record before us we are of the opinion that the account did not exist prior to December 31, 1942, and have therefore found that petitioner did not deposit $504.72 in the Central Trust Company of Altoona sometime in 1940 and allow that account to remain undisturbed until December 31, 1942. Accordingly, we have eliminated the amount of $504.72 from petitioner's balance sheets for the years 1940 through 1944. Respondent determined that petitioner owned securities which cost $38,059.91 on December 31, 1942, $136,727.12 on December 31, 1943, and $186,761.67 on December 31, 1944. Careful examination of the ledger books upon which respondent relies to support his determination reveals that the actual cost of the securities310 owned by petitioner on these dates was somewhat less than that determined by respondent. The difference cannot be completely reconciled, but certain entries made in the second ledger merely carried forward shares of stock purchased in 1942 and 1943 which were not sold until 1945 or later. We have adjusted our findings to reflect the amounts indicated by the ledgers upon which respondent relies. Respondent also determined a substantial increase in petitioner's furniture and fixtures account in 1942, which increase, after allowance for depreciation, amounts to $9,678.86. To substantiate this increase respondent relies upon a report of a revenue agent attached to a 30-day letter addressed to petitioner in 1953. This report was admitted into evidence solely to guide the Court in following the respondent's computations. The workpapers and financial statements from Young & Company's files were the only other evidence pertaining to this account, all of which were prepared by persons familiar with the property and contemporaneous with the facts. Based upon these documents, we have found as a fact that the furniture and fixtures account was not increased during the year 1942 by the amount311 of $9,678.86 and respondent's determination with regard thereto cannot be sustained. For the years prior to 1942 respondent's net worth statement contained accounts for "Real Estate - Buildings" and "Land" and the amounts included in this account represented petitioner's former personal residence and lot which had been converted to rental property in 1939. Certain additions were made to these accounts by respondent in 1943 and 1944, apparently to reflect additional rental property acquired by petitioner in those years. On the record before us we are of the opinion that these increases were not warranted, and have therefore not included this property in petitioner's net worth. We are also unable to agree with respondent's inclusion of "Mortgages Receivable" items in petitioner's net worth as of December 31, 1942, 1943, and 1944. This is also true of amounts which respondent contends were "Due from Brokers" as of December 31, 1943 and 1944. It was Helen Kemp's practice to submit a balance sheet, a profit and loss statement, and a list of expenses to Young & Company every year to serve as a basis for computation of petitioner's income tax liability. We are of the opinion that the312 balance sheet was intended to cover the business affairs of the Blatchford Furniture Company as an entity, and that Helen Kemp did not attempt to include all of petitioner's assets and liabilities, and that the store lot and building, valued in excess of $120,000, were never included in these balance sheets, even though depreciation pertaining to the building was computed by the accountants as an additional expense item. The mortgage, which was apparently placed with an insurance company rather than a bank, was also omitted from Helen's balance sheets. The parties orally stipulated the amount due on this mortgage for all years other than 1937. These balance sheets include for all years certain amounts designated as "Notes Payable to Banks" and "Notes Payable to Others." In all years the amounts included thereon exceed the respondent's determination under the corresponding headings "Notes Payable - Altoona Trust Co." and "Notes Payable - Other." Petitioner stipulated the amount of the notes held by the Altoona Trust Company as of the close of all years was the amount determined by the respondent. But that is for a specific indebtedness only. It does not preclude the existence of other313 notes payable to other banks, as respondent seems to believe it does. On Helen Kemp's balance sheets the word "bank" was often pluralized whenever it was used, and we have found as a fact that the petitioner's liabilities for all years were not less than the amounts indicated on Helen Kemp's balance sheets. To support the lesser amounts determined by him to be petitioner's correct liabilities, respondent relied upon a summary prepared by the revenue agent assigned to investigate the case. When questioned as to the source of his information, the agent stated that his summary was based upon information furnished him by Helen Kemp. So, whether we use respondent's determination or the amounts indicated on the balance sheets prepared by Helen Kemp, the only source of information for these amounts would be Helen Kemp. Under the circumstances, we choose to rely upon the statement made contemporaneously with the fact rather than one given years later. No attempt was made by respondent to rule out the possibility of liabilities to banks other than the Altoona Trust Company or to show in any way other than referring to the revenue agent's report that the liabilities on the Kemp balance sheets314 were overstated. As we have said before, the revenue agent's report is not proof of anything, and it cannot be relied upon to support the respondent's determination. The source of the information in the exhibit upon which respondent relies to support his determination of "Loans Payable - Other" was Helen Kemp. On its face this exhibit states that it is a summary and analysis of the loans payable of James E. Blatchford as an individual, and it does not purport to include petitioner's business liabilities. Most of the loans are from members of petitioner's family, except for items labeled "Unknown $15,000.00" and "C.I.T. Corporation $28,742.31," which appear in the column pertaining to the year 1937 only. 1 This entry was apparently an attempt on the part of the agent to include the amount of $43,743.31 which first appeared on some worksheets of petitioner's accountants in 1937, and was carried for a number of years thereafter, although it was not included as a liability by Helen Kemp in any year and was used by respondent in his net worth analysis only for the year 1937. The evidence pertaining to liabilities is ambiguous. We have found as a fact that petitioner not only had loans315 and notes payable equivalent to those contained on Helen Kemp's balance sheets, but in addition he also had certain personal obligations which were detailed to respondent's agent and mistakenly construed as a summary of his business obligations. There is evidence in the record that certain adjustments in receipts exceeding $15,000 in each year were made by respondent as a result of examining petitioner's returns for the years 1936 and 1937, the effect of which was to increase petitioner's net income. The petitioner has the burden of showing that the respondent's determination is erroneous and, having failed to do so, we cannot speculate as to what part, if any, of the increase in net worth was due to similar bookkeeping errors made during the taxable years 1938 through 1944. For the years 1945, 1946, and 1947 respondent used the so-called bank-deposit method to determine additional deficiencies for those316 years. The evidence indicates that petitioner customarily cashed checks as a courtesy to his customers, and our findings indicate that the withdrawal and redeposit of funds for this purpose, together with deposits on "hold" and "layaway" sales, were of sufficient quantity to account for the deposits which respondent could not identify. Respondent determined that petitioner is subject to an addition to tax under section 294(d)(2) of the Internal Revenue Code of 1939 for substantially underestimating his tax for the taxable year 1944. An addition to tax under section 294(d)(2) is a part of petitioner's tax liability as determined by respondent which is presumed to be correct unless the petitioner proves to the contrary. The only thing in the record remotely relating to petitioner's underestimate of his tax for the year 1944 is his income tax return for that year, and it appears on its face to support respondent rather than petitioner. Tax returns are not acceptable proof of the facts reported therein; Swayne Lumber Co., 25 B.T.A. 335">25 B.T.A. 335; and their use as evidence has been limited. Old Mission P. Cement Co. v. Commissioner, 69 F. 2d 676; Kreis' Estate v. Commissioner, 227 F. 2d 753,317 affirming a Memorandum Opinion of this Court; Bedell v. Commissioner, 30 F. 2d 622. Petitioner, having failed to prove that respondent's determination with respect to the addition to tax for the taxable year 1944 authorized by section 294(d)(2) was erroneous, is liable for such addition, the amount of which will be determined in a recomputation under Rule 50. Decision will be entered under Rule 50. Footnotes1. This figure represents the income that would have been reported had petitioner not had a loss carryover from the previous year. The figure on the return represents a loss of $3,491.54.↩. These figures were amended by an official order of the Tax Court, dated April 23, 1963 and signed by Judge Kern.↩. The following 3 paragraphs were amended by an official order of the Tax Court, dated April 10, 1963 and signed by Judge Kern. ↩*. These figures were amended by an official order of the Tax Court, dated April 23, 1963 and signed by Judge Kern.↩. These figures were amended by an official order of the Tax Court, dated April 23, 1963 and signed by Judge Kern.↩1. An extension of the "C.I.T. Corporation" entry in the amount of $1,007.80 appears in the column pertaining to the year 1938, but no other entries are made for subsequent years, although most of the other loans remain more or less at the same level over a period of years.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621858/	Diana D. and Irving L. W. Gloninger v. Commissioner.Gloninger v. CommissionerDocket No. 887-62.United States Tax CourtT.C. Memo 1963-310; 1963 Tax Ct. Memo LEXIS 34; 22 T.C.M. (CCH) 1635; T.C.M. (RIA) 63310; November 25, 1963Frederick C. Fiechter, Jr., for the petitioners. Malin VanAntwerp and Francis J. Cantrel, for the respondent. MULRONEY Memorandum Findings of Fact and Opinion MULRONEY, Judge: The respondent determined deficiencies in petitioners' income tax for 1958 and 1959 in the respective amounts of $640.11 and $350.18. By amendment to the answer and reply thereto, respondent claimed and petitioners admitted an additional deficiency in the35 amount of $126.46 for 1958 arising from unreported sale of stock. The issue in the case is whether a distribution in redemption of 108 shares of Irving L. W. Gloninger's stock in the Irving L. Wilson Company for $4,699.08 was essentially equivalent to a dividend. Findings of Fact Some of the facts are stipulated and they are found accordingly. Irving L. W. Gloninger and Diana D. Gloninger are husband and wife and they reside at Bala-Cynwyd, Pennsylvania. They filed their joint income tax returns for 1958 and 1959 with the district director of internal revenue at Philadelphia, Pennsylvania. On November 28, 1949, Irving L. W. Gloninger, who will be referred to as petitioner, formed the Irving L. Wilson Company, a Pennsylvania corporation, to deal primarily in uniforms for military schools. At all times relevant to these proceedings petitioner owned in excess of 55 percent of the outstanding stock of said corporation. At all times since 1954 the corporation had accumulated earnings and profits in excess of $40,000. In the initial stages of the business an important component was the activity of the company on behalf of the Hirsch-Tyler Company as a sales outlet for uniforms36 manufactured by them on a commission basis. The balance of the goods sold was manufactured under contract for the Irving L. Wilson Company. Louis Hirsch, president and principal owner of the Hirsch-Tyler Company, was the second largest contributor of capital to the Irving L. Wilson Company. Petitioner was the largest contributor and the Russell brothers, operators of a Farragut Academy in New Jersey and a Farragut Academy in Florida, taken together, were the third largest stockholder of the Wilson Company and contributor of capital thereto. All of the shares were issued for cash. At all times, the Farragut Academy business accounted for not less than approximately 10 percent of the gross volume of the Irving L. Wilson Company. In the initial stages the activity on behalf of Hirsch-Tyler accounted for about 25 percent of its income. By the fall of 1954, the work on behalf of the Hirsch-Tyler Company became less attractive owing to the increase of the Irving L. Wilson Company sales of products manufactured directly for it, and it increasingly found itself in competition with the Hirsch-Tyler Company. Hirsch specifically requested that he be bought out. Accordingly, it was decided by37 petitioner and Hirsch that the Wilson Company's activity for Hirsch-Tyler Company as a sales agent should cease, and that Hirsch would resign from the Wilson board of directors and sell his stock in the Wilson Company, in view of the increasingly competitive position of Hirsch-Tyler Company. Just about the same time, the Russell brothers asked that their stock be purchased by the Wilson Company, as they needed the capital involved for other business ventures of their own. Taken together this meant the picking up of 360 shares of the Wilson Company stock (200 belonging to Hirsch and 80 belonging to each of the Russell brothers) out of 1,722 shares then outstanding. Earlier in 1954, the corporation had redeemed 120 shares of its stock from the estates of John Rhoades Kearsley and Sarah J. Blatz, who were two of the original stockholders. The corporation paid $3,779.40 for these shares, or an average premium of $6,495 per share in excess of $25 par value. At December 31, 1953, the book value of the corporation's stock was $45.11 per share. Between December 16 and 20, 1954, petitioner personally purchased the stock from Hirsch and Russell brothers, borrowing from the Philadelphia National38 Bank the sum of $13,000, $12,400 of which was utilized for these purchases. As security for this loan, petitioner and his wife signed a joint demand note to the bank, and petitioner assigned to the bank life insurance on his life with a stated amount value equal to the amount of the loan. It was the understanding of the bank that the loan would be repaid in quarterly installments over a five-year period, and the bank told petitioner that if any of the quarterly installments were missed, the bank would require assignment to it of the remainder of petitioner's life insurance. The corporation was not a joint maker or endorser of this note. It is stipulated that "[before] this program was crystallized, it had the approval of the directors of the company, and this approval was memorialized in the next directors meeting of the company, which was held on February 22, 1955." The minutes of said meeting show the following: Mr. Grant moved and Mr. Fiechter seconded a motion for the adoption of a resolution that the Company Treasury purchase 360 shares of Mr. Gloninger's stock at $43.51 per share (being $5.00 less than current book value) over a period ending January 1, 1960, subject to39 the approval of the shareholders of record as of February 22, 1955. Subsequently the approval of all of the other shareholders of the corporation to the above arrangement was obtained. The joint loan of $13,000 obtained by petitioners on December 17, 1954 was paid off at the rate of $650 every three months until June 21, 1956 when the balance of $9,750 was paid off in full by proceeds of a loan in the same amount from The First Pennsylvania Banking and Trust Company. The latter loan was repaid at the rate of $650 every three months from July 1956 through October 1958, the sum of $2,600 was paid on January 6, 1959, and the balance of $650 on January 3, 1961. Both loans bore interest at the rate of 6 percent, and the amounts of interest paid annually on the loans by the petitioners were approximately as follows: YearAmount1955$721.501956565.501957409.501958249.70195939.00196039.00The corporation declared and paid dividends in the years 1955 through 1959 on the dates and in the amounts pere share, as follows: Date PaidAmount per ShareFeb. 22, 1955$0.50Feb. 28, 19561.50Jan. 19, 19571.75June 1, 19582.00June 1, 19591.5040 In addition to the redemption of 120 shares stock in 1954, described above, the corporation also redeemed stock as follows: NumberPriceofPerDateFrom Whom RedeemedSharesShare1955Irving L. W. Gloninger72$43.511956Irving L. W. Gloninger5443.511956C. G. Smith4025.001957Irving L. W. Gloninger4443.511958Luigi Onorato8050.001958Irving L. W. Gloninger7243.511959Irving L. W. Gloninger3643.51The corporation's redemptions of stock from petitioner in the years at issue herein occurred on January 2, 1958, March 28, 1958, June 27, 1958, October 3, 1958, September 14, 1959, December 10, 1959, and December 14, 1959. On December 29, 1958, the corporation sold, from its treasury, 228 shares of its stock to Laurence Whyte for $50 per share. In the years 1955 through 1959 the corporation redeemed from petitioner a total of 278 of the 360 shares purchased by him in 1954 from Hirsch and Russell brothers. In 1958, in addition to the 72 shares redeemed by the corporation, petitioner sold 72 shares to Laurence S. Whyte at $43.51 per share. Only 84 shares of stock were reported sold on the return, thus41 the sale of 60 shares of stock was not reported. The basis of the 60 shares to petitioner was $1,800, having purchased them at $30 per share in 1954 from Louis Hirsch. On the sale of these 60 shares at $43.51 per share, petitioner realized $2,610.60. The gain realized on the sale was $810.60. In his notice of deficiency respondent sent to petitioners he determined "that the redemption by the Irving L. Wilson Co. of its capital stock resulting in payments to you of $3,132.72 for 72 shares in 1958 and $1,566.36 for 36 shares in 1959 constituted taxable dividend income to you." The amount received, $4,699.08, during the years 1958 and 1959 in redemption of stock purchased by petitioner from Hirsch and the Russell brothers was a distribution that was essentially equivalent to a dividend. Opinion Section 302(a), Internal Revenue Code of 1954, provides a corporation's redemption of its stock will be treated "as a distribution in part or full payment in exchange for the stock" if any of the first four paragraphs of subsection (b) applies. Section 302(b)(1) provides: "Subsection (a) shall apply if the redemption is not essentially equivalent to a dividend." Therefore42 the single issue presented is whether the redemptions of petitioner's stock in 1958 and 1959 were not essentially equivalent to dividend payments to petitioner. We are dealing with a shareholder who controlled the corporation before and after it paid him $4,699.08 out of its earnings and profits in redemption of part of his stock. Since the distributions were not liquidating distributions the resemblance to dividend distribution is strong unless for some other reason it appears the transactions are removed from the category of a dividend. Petitioner argues dividend equivalence is not present here because the redemption of his stock in 1958 and 1959 served a business purpose of the corporation. The argument is that the redemption in the years in issue was part of a plan whereby he would buy the Hirsch and Russell brothers stock and the corporation would later redeem the stock from him. He argues that the business purpose of the corporation was to get rid of Hirsch as a stockholder and member of the board and accommodate the Russells who were the corporation's second best customer. He testified the corporation operated largely on bank loans and it had need of its credit and could43 not in 1954 redeem the Hirsch and Russell brothers stock so he raised the funds by a bank loan and bought the stock with an understanding with the other directors that the corporation would redeem the stock; that shortly thereafter this arrangement was sanctioned by action of the board and by the other shareholders. It has been recognized that a distribution in redemption that serves a legitimate corporate business purpose will, under certain circumstances, qualify as not essentially equivalent to a dividend. John A. Decker, 32 T.C. 326">32 T.C. 326, affd. per curiam 286 F. 2d 427. The question is one of fact to be determined by a consideration of all of the facts and circumstances. Sec. 1.302-2(b), Income Tax Regs., and John A. Decker, supra. From the above it will be seen that the desired objective was the sale of the stock interests of the Russells and Hirsch. The Russells and Hirsch were anxious to sell their stock. The business purpose of the corporation that would be served by such sale seems to be, under petitioner's argument, the withdrawal of Hirsch who was becoming a competitor and the accommodation of the Russells, 44 who were valued customers. Evidently, the retiring shareholders would have been satisfied, and the so-called business purpose accomplished, if anyone purchased the stock of the withdrawing shareholders. Without intimating that the desired objective would amount to a valid business purpose, it is cnough to say that it was accomplished by petitioner's acquisition of the stock. It is clear that the redemption thereafter by the corporation served no business purpose of the corporation. It is of no significance that the redemption was authorized by prior corporate resolution and consent of other shareholders. Petitioner's argument that the redemption was the last step in a plan designed to further the so-called business purpose is without merit. It was not the redemption that was designed to advance the business. The business purpose goal, even under petitioner's argument, was to accomplish the withdrawal of two minority stockholders. This goal would be attained by petitioner's acquisition of such shareholders' stock. The later redemption of such stock was unessential to the effectuation of the planned withdrawal. The redemption portion of the plan was designed to redeem petitioner's*45 stock at a profit to him with no business purpose served by such redemption. We hold for respondent on the issue presented. Decision will be entered under Rule 50.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621860/	WILLIAM L. PIERCE AND PAULA PIERCE, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, RespondentPierce v. CommissionerDocket No. 24782-84.United States Tax CourtT.C. Memo 1986-552; 1986 Tax Ct. Memo LEXIS 55; 52 T.C.M. (CCH) 1036; T.C.M. (RIA) 86552; November 18, 1986. William L. Pierce, pro se. John Naumann Strange, for the respondent. TANNENWALDMEMORANDUM FINDINGS OF FACT AND OPINION TANNENWALD, 56 Judge: Respondent determined a deficiency in the amount of $8,783.12 in petitioners' Federal income tax for the taxable year ended December 31, 1980. The sole issue is whether a $25,000 loss sustained by petitioners should be treated as a business bad debt under section 166(a) 1, deductible as an ordinary loss, or as a nonbusiness bad debt deductible as a short-term capital loss under section 166(d). Respondent does not dispute the existence or amount of the bad debt or the year of the deduction. FINDINGS OF FACT Some of the facts have been stipulated and are so found. This reference incorporates the stipulation of facts and attached exhibits. Petitioners resided in Bethesda, Maryland at the time they filed their petition in this case.They timely filed their joint Federal income tax return for the taxable year 1980. Paula Pierce is a petitioner herein solely by reason of having filed a joint return. Hereinafter, all references to "petitioner" are to William L. Pierce. 57 On September 5, 1979, petitioner formed a partnership, PHM Publishing Company ("PHM"), with Ray C. Henry ("Henry") and A. Bruce Matthews who collectively comprised the Henry Group. He invested $25,000 in PHM in exchange for a 50-percent partnership interest. PHM was formed to publish a newsletter on international human services. Petitioner agreed to edit the newsletter published by PHM and was to be paid $1,000 per month for his work. He worked at least 20 hours per week as editor of the newsletter. On December 31, 1979, PHM was dissolved at the request of petitioner because the first newsletter developed by petitioner and entitled "International Social Services Reports" had not yet been published, and he felt Henry was devoting too much time to his other businesses 2 and not enough time to the partnership. Pursuant to the dissolution agreement, the Henry Group, represented by Henry, signed a promissory note dated December 31, 1979, agreeing to pay petitioner $25,000 on December 1, 1980. The note represented the return of petitioner's investment in PHM. The $25,000 was available to58 pay petitioner's investment in cash, but Henry was desirous of retaining that cash at the time PHM was dissolved because he wanted to avoid accentuating an existing cash flow problem with respect to the publication of his other newsletters. The note became worthless during the taxable year 1980. Other than the note, petitioner never received any of his original $25,000 investment in PHM after it was dissolved. The dissolution agreement also provided that the Henry Group would retain all rights to International Social Services Reports and petitioner agreed under paragraph four of said agreement to: make his services available to "Henry" for development, editorial and other purposes related to the launching of International Social Services Reports * * in return for remuneration and other considerations to be mutually agreed to at a later date by [petitioner] and "Henry." After PHM was dissolved, petitioner worked at least 15 hours per week in providing the consultation services and research referred to above, but never received any wages or compensation for such services. He did this hoping to build a financially beneficial relationship with Henry which was also his objective59 in accepting the $25,000 note for his interest in PHM.Henry would have used the services of petitioner after PHM was dissolved even if the $25,000 loan was not made, although if choosing between two equally qualified prospective hiring possibilities, petitioner would have been preferred as a result of his making the loan. Petitioner's trade or business during 1979 and 1980 was writing and publishing. From January 1971 until September 1980, petitioner was a valuable full-time employee for the Child Welfare League, except for the six-month period from September 1, 1979 until March 1, 1980, during which time he took sabbatical leave so that he might join PHM as editor. Petitioner voluntarily resigned from his job at the Child Welfare League in September 1980, because of difficulties with his superior and the availability of an opportunity for petitioner with a new organization in the publishing field. OPINION The issue involved in this case can be simply stated. Was the $25,000 loan from petitioner to Henry (which respondent concedes became worthless in 1980) sufficiently proximately related to petitioner's trade or business as a newsletter writer so as to entitle petitioners60 to a business bad-debt deduction under section 166(a). Petitioner urges us to give a positive answer to this question. He asserts that since he could have been paid in full at the time the PHM partnership was dissolved in 1979, the loan had an independent genesis and was designed to encourage Henry to utilize petitioner's services for which he would receive compensation. Respondent counters that our answer should be in the negative and that petitioners are therefore entitled to a deduction only as a nonbusiness bad debt under section 166(d). The foundation of respondent's position seems to be that the loan represented no more than a transmutation of petitioner's PHM partnership interest. 3 Thus, respondent asserts that petitioner's dominant motive was to protect that investment rather than to stimulate Henry's use of petitioner's future services as a newsletter writer. In determining whether a loss qualifies as a business bad debt under section 166(a), a taxpayer must prove that such loss is proximately related to his trade61 or business at the time of worthlessness. United States v. Generes,405 U.S. 93">405 U.S. 93, 96 (1972); Section 1.166-5, Income Tax Regs. This proximate relationship may be established "by proof that his dominant motivation in incurring the debt was to protect his employment." Scifo v. Commissioner,68 T.C. 714">68 T.C. 714, 723 (1977). Such a determination is one of fact and the burden of proof is on petitioners. Putoma Corp. v. Commissioner,66 T.C. 652">66 T.C. 652, 673 (1976), affd. 601 F.2d 734">601 F.2d 734 (5th Cir. 1979). We hold that petitioners have carried their burden. To begin with, we are satisfied that petitioner could have received the $25,000 he invested in PHM at the time of its dissolution. Henry categorically supported petitioner's testimony in this respect, and we have no reason to doubt his word. Although the books and records of PHM were not put into evidence, it is clear to us that Henry was willing to cover petitioner's $25,000 investment from his own resources if necessary. Given the estimate of $2,000,000 annual sales of Henry's publishing enterprises, we think it reasonable to conclude that funds in that amount could have been made available62 for payment to petitioner, despite the existence of Henry's cash flow problem. Having concluded that the $25,000 could have been paid, we must determine what purpose was to be served in petitioner's loaning of such amount to Henry. The record is clear that petitioner's employment with Child Welfare was coming to an end and that he was in need of obtaining other outlets for his services. Henry's publications were an obvious resource and, although the PHM partnership with Henry had not worked out, it appears that the relationship between petitioner and Henry was, and still remains, a good one. We recognize that the record herein is not crystal clear whether Henry solicited the loan or gave petitioner any encouragement to the effect that the loan might facilitate his use of petitioner's services.However, Henry did indicate that if he had to choose in hiring between petitioner and another person of equal talent, the loan would have dictated that petitioner get the nod. In the absence of countervailing evidence, we think this is enough to tip the scales in petitioner's favor. We recognize the fact that petitioner was under no binding agreement to receive a salary from Henry at the63 time he made the loan is a factor which tends to reduce the likelihood that his employment status was the dominant motivation behind his loan, for "a loan motivated by one's status as an employee seems more plausible where its objective is to protect a present salary, rather than promote a future one." Putoma Corp. v. Commissioner,supra at 674. However, there is no hard and fast rule that a taxpayer must be in present receipt of salary at the time he incurs a debt in order for it to be related to the protection of his employment status. 4 Moreover, the fact that petitioner's loan did not result in his achieving his desired goal, namely a permanent employment position with Henry, does not transform the nature of his loss from a business to a nonbusiness bad debt. Cf. Cremona v. Commissioner,58 T.C. 219">58 T.C. 219, 222 (1972). Paragraph four of the dissolution agreement specifically provided for the future use of petitioner's services in return for a fee, and we think that this is sufficient, in the context of the totality of the facts of this case, including the fact that petitioner actually provided some of those services, albeit without receiving any64 compensation therefor. In short, since we think there can be no argument that petitioner was engaged in the trade or business of writing and publishing newsletters, by way of employment as a consultant or an employee, we conclude that petitioner made the $25,000 loan to Henry in furtherance of that trade or business. Accordingly, petitioners are entitled to a business bad-debt deduction under section 166(a). 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 year at issue, and all Rule references are to the Tax Court Rules of Practice and Procedure.↩2. Henry was involved in the publication of about 23 different newsletters in 1979.↩3. If the loan represented no more than a transmutation of petitioner's partnership interest, the loss would be a capital loss. Sections 731 and 741.↩4. Goodenough v. Commissioner,T.C. Memo 1980-28">T.C. Memo 1980-28↩.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621861/	Spencer Quarries, Inc., Petitioner, v. Commissioner of Internal Revenue, RespondentSpencer Quarries, Inc. v. CommissionerDocket No. 57489United States Tax Court27 T.C. 392; 1956 U.S. Tax Ct. LEXIS 28; November 29, 1956, Filed 28 Decision will be entered under Rule 50. Held, that the deposits in issue quarried and sold by petitioner were quartzite within the meaning of section 114 (b) (4) (A) (iii) of the Internal Revenue Code of 1939, as amended, and that the applicable rate of percentage depletion allowable is 15 per cent and not 5 per cent under section 114 (b) (4) (A) (i). Harry Thom, Esq., Frederick R. Shearer, Esq., and Hugo J. Melvoin, Esq., for the petitioner.Thomas C. Cravens, Esq., for the respondent. 29 Fisher, Judge. FISHER392 Respondent determined deficiencies in income and excess profits taxes for the petitioner for the taxable years 1951, 1952, and 1953 in the respective amounts of $ 12,577.94, $ 14,716.22, and $ 10,138.59. He 393 now concedes on brief that as to certain sales during the taxable years of deposits quarried by petitioner, percentage depletion is allowable at a rate of 15 per cent. As to the remaining sales during said taxable years, the issue is whether the deposits quarried and sold are quartzite, and entitled to percentage depletion at the rate of 15 per cent under section 114 (b) (4) (A) (iii) or limited to a rate of 5 per cent under section 114 (b) (4) (A) (i) under respondent's end-use theory.FINDINGS OF FACT.Some of the facts are stipulated, and to the extent so stipulated are incorporated herein by reference.Petitioner is now and was at all times during the taxable years involved herein, which are the calendar years 1951, 1952, and 1953, a corporation duly organized under and by virtue of the laws of the State of South Dakota with its office and principal place of business in the county of Hanson, State30 of South Dakota.During the taxable years involved, petitioner maintained its books and records and filed its Federal income tax returns on a calendar year basis, employing the accrual method of accounting. The Federal income tax returns of petitioner for the taxable years involved were duly filed with the collector (later district director) of internal revenue for the district of South Dakota.During the taxable years involved herein, petitioner owned in fee simple certain real estate in the county of Hanson, State of South Dakota, including certain lands located approximately 1 1/2 miles southwest of the city of Spencer along Wolf Creek in the northeast portion of section 24 in Edgerton Township 102 North, Range 57 West, containing natural deposits, at which petitioner operated a quarry. During said taxable years, petitioner also owned a plant, machinery, and equipment, for the quarrying of said deposits from the earth, and was engaged in the business of quarrying and selling said deposits.During the taxable years involved herein, petitioner did not pay or incur any rents or royalties with respect to any of the property or the quarrying operations above described.In general, 31 during the taxable years involved herein, petitioner caused its said deposits to be quarried and treated as follows:Overburden, if any, was removed and holes were drilled directly into the deposits, within which holes explosives were placed and detonated, causing the breaking up of the deposits selected into large, irregularly shaped pieces known as the "quarry run."The quarry run was putthrough one of two processes:(1) Iron ball breaker (sometimes referred to as a "skull cracker"). This process broke the quarry run into the maximum and minimum range of weights 394 desired. These broken deposits were at times also sorted with respect to shape (i. e., length in relation to width). The deposits so treated were commonly referred to by petitioner as "riprap."(2) Stone crushers and screens. This process broke the quarry run into units more nearly uniform in size and smaller than the deposits treated in the process described in subparagraph (1). Following the crushing, the deposits were graded according to size by being placed over square-hole screens, the weight of such deposits not being material with respect to such process. During the screening, the crushed deposits32 were washed, causing the smaller particles to be carried away to settling tanks, from which tanks these smaller particles, generally one-eighth inch and less in size, were recovered. The deposits so crushed and screened were commonly referred to by petitioner as "crushed rock" or "crushed stone" and the deposits crushed, screened, washed and recovered from settling tanks were commonly referredto by petitioner as "fines" or "sand."The appearance, weight, physical structure, and chemical composition of petitioner's deposits were generally uniform throughout petitioner's said quarry.All of the natural deposits which petitioner removed from its said quarry and sold during the taxable years involved herein are composed of and identified and classified, according to their mineralogical, petrological, geological, and chemical content, as "quartzite." Said deposits are all mineral deposits of metamorphosed or silica-cemented sandstone having a free silicon dioxide content in excess of 95 per cent; are so firmly cemented that they have the physical characteristic of breaking across rather than around the original sand grains; have a low porosity; and are very resistant to high temperatures,33 sudden changes in temperature, and most chemical reagents.With the exception of the sales hereinafter described in the next succeeding paragraph, all of the deposits which petitioner removed from its said quarry and sold during the taxable years involved herein were sold to purchasers who used the same as crushed stone, crushed rock, riprap, and sand for such purposes as the construction of roads, highways, earth dams and as concrete aggregate. Petitioner's invoices and bills of lading respecting said sales variously described said deposits as crushed stone, crushed rock, riprap, and sand.Petitioner made sales of deposits removed from its said quarry in the amounts of $ 10,340.46, $ 7,194.64, and $ 7,737 in the taxable years 1951, 1952, and 1953, respectively, through National Foundry Sand Co. of Detroit, Michigan. Said sales were made to ultimate purchasers who used said deposits for refractory and other purposes for which said deposits were peculiarly adapted by reason of their chemical composition and physical characteristics.Set forth below is petitioner's gross income from the property and petitioner's net income for depletion purposes for each of the taxable years 1951, 34 1952, and 1953: 395 Gross incomeNet incomefrom thefrom theYearpropertyproperty fordepletionpurpose1951$ 256,535.58$ 56,806.371952284,942.6964,310.661953227,500.0047,285.16The natural deposit contained in petitioner's quarry, part of which was removed and sold during the taxable years in question, is officially identified and classifiedas "quartzite" in the Areal Geology Sheet of Hanson County, South Dakota, contained in the United States Geologic Atlas, Alexandria Folio No. 100, an official publication of and prepared by the United States Geological Survey of the Department of the Interior. Petitioner's quarry is located completely within this one massive quartzite deposit.In the quarry-operating business and in the refractories business, all of the natural deposits removed from petitioner's quarry and sold during the taxable years involved herein are "quartzite" within the commonly understood commercial meaning of the term.At the time when the deposits involved herein were still in an untouched, unbroken state within petitioner's quarry, such deposits were composed of quartzite.The use or uses to which35 a purchaser of petitioner's deposits intends to put such deposits do not affect either the selection of the deposit to be quarried or the manner by which such deposit is removed from petitioner's quarry.Before the quartzite can be sold or used commercially, it is necessary for petitioner to blast out from the face of the quarry huge blocks of the mineral. Then, by further breaking, crushing, and screening, it is possible to offer a prospective purchaser pieces ranging anywhere from small particles less than one-sixteenth inch in size up to solid blocks weighing as much as 15 tons. Some of the broken pieces are crushed into sizes so small as to be described as "sand," "fines," or even "dust."Quartzite, when reduced by petitioner to the form of large, unevenly shaped pieces called riprap, is capable of being used to line river banks and to protect dam faces from erosion. When crushed into smaller pieces, it is capable of being used for road building, general construction work, and as concrete aggregate. In addition, because of its silica content, which prevents the mineral from melting or fusing except at extremely high temperatures, quartzite may also be used as a refractory.36 All of the deposits were suitable for use as a refractory material.A refractory is any material having certain properties which make it able to withstand extremely high temperatures and is used to protect 396 furnaces, ladles, forges, or other containers from the heat generated either in the melting of metal ore within the container or to protect the container from the heat of molten material being pouredinto the container. For example, an iron ore melting furnace must be lined with a refractory material so as to prevent the furnace (which itself is made of iron) from melting when the heat within the furnace is equal to the melting point of the iron. Because quartzite does not tend to fuse until the temperature rises to around 3,190 degrees (as compared with the melting point of iron, which may be as low as 2,750 to 2,800 degrees), quartzite is an ideal refractory material.Although petitioner makes a greater profit on its sales of quartzite to purchasers who use it for refractory purposes (rather than for construction purposes), such sales do not form a large part of petitioner's business because the general need of the construction industry exceeds the general need for37 refractory material and also because purchasers who use petitioner's quartzite as a refractory are all located long distances away from petitioner's quarry.All of deposits quarried and sold by petitioner involved herein were quartzite within the commonly understood commercial meaning of that term.OPINION.The issue here presented arises over the construction and application of the provisions of the Internal RevenueCode, as amended, which control the rates of percentage depletion for petitioner's product. The material provisions of the statute are set forth in footnote 1. 138 397 Petitioner's position is that, when Congress provided in section 114 (b) (4) (A) (iii) that the allowance for depletion "shall be * * in the case of quartzite * * * 15 per centum * * * of the gross income from the property during the taxable year" it intended the word "quartzite" to mean a particular class of natural deposit which is commonly and commercially known by that name; that the deposits here involved were of such a class; and that percentage depletion should be allowed in respect of all of such deposits of petitioner at the uniform rate of 15 per cent, irrespective of the end uses to which its products were put by its customers.Respondent concedes on brief that petitioner is entitled to a 15 per cent rate of depletion on all of the sales of its deposits through National Foundry Sand Co. in the years in question, the amounts of which are set forth in our findings. Respondent makes this concession because the end use of the deposits so sold was for refractory purposes, to which quartzite is specially adapted.As to all other sales, in which the end uses were otherwise, as described in our findings, respondent's position is that employment of the end-use test39 is inherently necessary in order to effectuate the purpose of Congress in enacting section 114 (b) (4) (A) wherein several natural deposits are specifically named with different rates of percentage being assigned, but where, according to respondent's contention in the instant case, such natural deposit may qualify under more than one category and rate of depletion.Respondent does not deny that the deposits in question were quartzite within the generally accepted meaning of that term. He argues that it is not quartzite within the meaning of the statute solely on the basis of his theory of end use. In support of this view, he contends that in the case of all of petitioner's sales in which he would allow only a 5 per cent depletion rate under section 114 (b) (4) (A) (i) instead of 15 per cent under section 114 (b) (4) (A) (iii), petitioner is competing with other quarries that are quarrying common stones and other natural deposits in that category. He asserts that Congress did not intend that such a competitive advantage be given petitioner, and that the end-use test is necessary and must, therefore, have been intended.40 We cannot accept respondent's view. In Virginian Limestone Corporation, 26 T.C. 553">26 T. C. 553,we considered, in principle, the identical issue. 398 That case involved dolomite (entitled to a 10 per cent rate under section 114 (b) (4) (A) (ii)) and the surrounding circumstances were the same. There we found as a fact that the rock in question was dolomite within the commonly and commercially accepted meaning of that term. We have made a like finding here that the deposits quarried were quartzite within its commonly and commercially accepted meaning. There the respondent did not deny the rock was dolomite, and here he does not deny the deposits were quartzite. In Virginian Limestone Corporation, supra, the history of the legislation which added paragraphs (i), (ii), and (iii) to section 114 (b) (4) (A) was carefully considered and it was clearly demonstrated that the names of the various enumerated items were intended to have their commonly understood commercial meaning, and further that it was intended, in any case where an item was specifically provided for at a stated rate of percentage allowance, the specific provision would govern over the allowance41 provided (whether higher or lower) for a more general classification. Cf. National Lead Co., 23 T. C. 988,reversed on other grounds 230 F. 2d 161, certiorari granted 351 U.S. 981">351 U.S. 981.As to the end-use principle, we said in Virginian Limestone Corporation, supra, at page 560:We find nothing in the applicable statute, or in its legislative history, which tends to show any intention of Congress that, where a mineral has therein been specifically provided for at a stated rate, such rate may be varied by the Commissioner in accordance with the end use to which the product is put by the taxpayer's customers. An allowance for depletion has been recognized in our revenue laws since 1913, based on the theory that the extraction of minerals gradually exhausts the capital investment in the mineral deposit, and that a deduction from gross income should be allowed to compensate for such exhaustion. All of the revenue acts enacted prior to 1954, in which such allowance was provided, speak in terms of the wells, mines, and natural deposits which are subject to the exhaustion, as distinguished from the products therefrom or the uses to42 which such products may be put by customers.In the Revenue Act of 1926, there wasintroduced the new concept of percentage depletion. Under this concept, the determination of the "reasonable allowance" for depletion of certain minerals, was removed from the control of the Commissioner; and such allowance was fixed by Congress itself at certain stated percentages of the gross income from the property. One of the principal reasons for this change was the determination by Congress that administration of the then existing provisions for discovery depletion in respect of oil and gas had proved difficult; and that a change was desirable "in the interest of simplicity and certainty in administration."Subsequently, under the Revenue Acts of 1928, 1932, 1942, 1943, and 1951, the benefits of percentage depletion were extended to various other minerals and natural deposits. Although the history of these Acts indicates that one of the reasons for such extension was that certain minerals not previously entitled to percentage depletion were competing with other minerals receiving such benefit, there is no indication that after Congress had selected the additional minerals and had provided stated43 rates of depletion therefor, such rates were to be subject to variation by theCommissioner.399 We think the provisions of the statute are specific and free from ambiguity. Under the circumstances, there is no room for interpretation which would permit the Commissioner to vary the stated rates either upward or downward.In view of the thorough consideration given to the problem in Virginian Limestone Corporation, supra, we think further discussion is unnecessary except to add that we have reviewed E. J. Lavino & Co. v. United States, 72 F. Supp. 248">72 F. Supp. 248 (E. D., Pa., 1947), and find it as clearly inapplicable to quartzite as it is to dolomite.We hold, therefore, that the deposits here in issue, quarried and sold by petitioner, were quartzite within the meaning of section 114 (b) (4) (A) (iii) and that the applicable depletion rate is 15 per cent.Decision will be entered under Rule 50. Footnotes1. Internal Revenue Code of 1939:SEC. 23. DEDUCTIONS FROM GROSS INCOME.In computing net income there shall be allowed as deductions: * * (m) Depletion. -- In the case of mines, oil, and gas wells, other natural deposits, and timber, a reasonable allowance for depletion and for depreciation of improvements, according to the peculiar conditions in each case; such reasonable allowance in all cases to be made under rules and regulations to be prescribed by the Commissioner, with the approval of the Secretary. * For percentage depletion allowable under this subsection, see section 114 (b), (3) and (4).SEC. 114. BASIS FOR DEPRECIATION AND DEPLETION.(b) Basis for Depletion. -- * * *(4) Percentage depletion for coal and metal mines and for certain other mines and natural mineral deposits. -- (A) In General. -- The allowance for depletion under section 23 (m) in the case of the following mines and other natural deposits shall be --(i) in the case of sand, gravel, slate, stone (including pumice and scoria), brick and tile clay, shale, oyster shell, clam shell, granite, marble, sodium chloride, and, if from brine wells, calcium chloride, magnesium chloride and bromine, 5 per centum,(ii) in the case of coal, asbestos, brucite, dolomite, magnesite, perlite, wollastonite, calcium carbonates, and magnesium carbonates, 10 per centum.(iii) in the case of metal mines, aplite, bauxite, fluorspar, flake graphite, vermiculite, beryl, garnet, feldspar, mica, talc (including pyrophyllite), lepidolite, spodumene, barite, ball clay, sagger clay, china clay, phosphate rock, rock asphalt, trona, bentonite gilsonite, thenardite, borax, fuller's earth, tripoli, refractory and fire clay, quartzite, diatomaceous earth, metallurgical grade limestone, chemical grade limestone, and potash, 15 per centum, and(iv) in the case of sulfur, 23 per centum,of the gross income from the property during the taxable year, excluding from such gross income an amount equal to any rents or royalties paid or incurred by the taxpayer in respect to the property. Such allowance shall not exceed 50 per centum of the net income of the taxpayer (computed without allowance for depletion) from the property, except that in no case shall the depletion allowance under section 23 (m) be less than it would be if computed without reference to this paragraph. [Emphasis added.]↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621863/	Transoceanic Terminal Corporation v. Commissioner.Transoceanic Terminal Corp. v. CommissionerDocket No. 42217.United States Tax Court1954 Tax Ct. Memo LEXIS 271; 13 T.C.M. (CCH) 227; T.C.M. (RIA) 54080; March 18, 1954271 The percentage used in 1947 and 1948 by petitioner in computing deductions for depreciation of industrial fork-lift trucks used in its stevedoring business was reasonable. John F. Lang, Esq., for the petitioner. Arthur L. Nims, Esq., for the respondent. ARUNDELLMemorandum Findings of Fact and Opinion The respondent determined a deficiency of $4,277.09 in the income tax of petitioner for the fiscal year ended September 30, 1948, which is the taxable year here in question. The fiscal year ended September 30, 1947, is involved only as regards a net operating loss carried over from that year. The sole question to be decided is whether respondent was correct in reducing the allowable depreciation on petitioner's fork-lift trucks from 20 per cent to 10 per cent for 1947 and 1948. Other adjustments in the deficiency notice are not contested and will be reflected in the Rule 50 computation. The stipulated facts are incorporated herein by this reference. Findings of Fact Petitioner was organized under the laws of the State of New York on April 17, 1946, and commenced operations as a stevedoring contractor on or about October 1, 1946. It maintains its principal272 office and place of business in New York City. Petitioner files its corporate income tax returns on the basis of fiscal years ending September 30. The return for the year ended September 30, 1948, was filed with the collector for the second district of New York. Petitioner operates a fleet of motorized vehicles used in the loading and unloading of ships of the Belgian line in New York harbor. It began its operations with old equipment acquired from Atlantic Overseas Corporation, which equipment is not here in question. Between November, 1946, and March, 1948, petitioner bought 12 new fork-lift trucks on which it took deductions for depreciation at the rate of 20 per cent in its tax returns for the fiscal years ending in 1947 and 1948. The equipment was often used up to 16 hours a day. The operators of the lift trucks were selected by the union and were under the supervision of a union foreman. The taxpayer had little control over these men. The operators were extremely careless, taking no pride in the equipment. The trucks were used on rough and uneven pier surfaces and were frequently overloaded by the operators, resulting in bent frames, forks, axles, broken hydraulic cylinders273 and general breakdown. After five years of such use, it was more economical and efficient to purchase new equipment than to continue making the major repairs necessary to keep the trucks in operation. As of October, 1953, the petitioner had disposed of eight of the fork-lift trucks which it purchased during the years under consideration, as shown in the following table: Cost ofVehicleDateReplacementNo.CostDisposedAllowanceVehicle 12$3,748.887/31/53$1,800.00$7,979.7733,522.867/31/531,800.007,979.7743,692.707/31/531,800.007,979.7753,861.99Oct. 19531,900.007,800.0063,707.027/14/502,300.006,050.2473,707.037/14/502,300.006,050.2483,826.79Oct. 19531,900.007,800.00114,068.457/31/531,800.007,979.77 These trucks were disposed of on an average of 68 months after acquisition. Petitioner was able to obtain trade-in allowances considerably in excess of the actual value of the equipment traded in. By 1953, prices for equipment of the type in question were substantially higher than in 1947 and 1948. 274 Some of the replacement vehicles were of larger capacities than the trucks traded in. Among the new vehicles were the first four diesel powered trucks bought by petitioner. The seller granted unusually high trade-in allowances in order to demonstrate the suitability of diesel power to petitioner's operations. The 12 lift trucks in question had a useful, economic life of not more than five years. Opinion ARUNDELL, Judge: The single issue to be decided is an uncomplicated and factual one. We are asked to determine whether petitioner properly computed the depreciation deduction on its fork-lift trucks during the years in question on the basis of a useful life of five years. Section 23 (1) permits the deduction of "A reasonable allowance for the exhaustion, wear and tear * * " of property used in a trade or business. It is respondent's position that a 20 per cent deduction was not reasonable and that petitioner was entitled to deduct only 10 per cent annually, based on a useful life of 10 years. We are of the opinion that the five-year basis employed by petitioner was reasonable and proper. Competent witnesses, with many years of experience with the problems of stevedoring275 in general and petitioner's situation in particular, testified that five years was the maximum efficient and useful life of the equipment in question under the conditions of its use. It is clear from the record that these particular machines were given unusually hard treatment. Petitioner was forced to accept whatever operators were sent by the union and they frequently overloaded and otherwise misused the equipment, having no regard for its proper maintenance. The pier surfaces were rough and uneven, resulting in more wear and tear than would ordinarily be expected and the trucks were in use under these conditions up to 16 hours a day. Respondent's contention that the trucks should have been depreciated on a ten-year basis has been computed by the use of mathematical formulae. His figures are derived from a comparison of average costs not recovered through salvage to average age at disposal. We think, however, that there is a basic fallacy in his application of this method. Respondent treats the average amount received as a trade-in allowance as salvage value in reducing average cost. The trade-in allowance is not, in our opinion, a reliable or even realistic measure of the actual*276 value of the equipment traded in. The evidence shows that the cost of equipment of this type had become highly inflated by 1953 when most of the trade-ins were made, and that in some cases the replacement vehicles were of heavier capacity than the ones traded. Furthermore, in the case of four of the new trucks, the dealers were willing to give extraordinarily high trade-ins in order to effect the sale of the first diesel powered lift trucks to petitioner. All of these factors had a tendency to raise the amount of the trade-in allowances without any relation whatsoever to the actual value of the old equipment. It follows that respondent erroneously disallowed depreciation deductions at a 20 per cent annual rate on the equipment in question. Decision will be entered under Rule 50. Footnotes1. The trade-in allowance was deducted from this figure.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4475184/	OPINION. Murdock, Judge: The question here is whether the petitioner’s wife was a real partner, and that depends upon their intent. Commissioner v. Culbertson, 337 U. S. 733. The petitioner relied solely upon the facts agreed to by the parties and called no witness. Cf. Max Cohen, 9 T. C. 1156, 1162; Wichita Terminal Elevator Co., 6 T. C. 1158, 1165; affd., 162 Fed. (2d) 513. The respondent called Dorothy, the alleged limited partner, and her testimony supports the Commissioner’s determination. The petitioner’s counsel argues that her testimony is not reliable because of her break with the petitioner and because she may benefit if the taxes shown on her return are refunded. She was subpoenaed as a witness. The Court has carefully considered her appearance, demeanor, manner of testifying, and certain corroborating documents which she produced, as well as the circumstances mentioned by the petitioner, in the light of the entire record, and believes that she has told the truth as she saw it. Her testimony was not contradicted or weakened except as the agreement of October 2, 1944, might contradict it. Due consideration has been given to that document, but its terms are not conclusive on the Court. Converse & Co., 1 B. T. A. 742; Park Chamberlain, 41 B. T. A. 10; Elliot Paint & Varnish Co., 44 B. T. A. 241; Haverty Realty & Investment Co., 3 T. C. 161; Stern v. Commissioner, 137 Fed. (2d) 43. Dorothy signed the agreement of March, 1944, to accommodate the petitioner, but knew only vaguely that it had to do with a partnership in which she was to be a partner in some way so that her husband could. benefit taxwise. She did not know what rights, if any, she had under the agreement. Her knowledge of the borrowing of $15,000 and the use to which that money was to be put was likewise vague, because her husband would not discuss business affairs with her. She knew practically nothing about the business. She testified, and this is the only direct evidence of intent in the record aside from the agreement, that she never really intended to join with her husband as an actual partner of any kind in the business and that he told her to sign the papers so that his income tax would be reduced. No other purpose in having her sign appears in the record. The earnings were all out of proportion to the capital involved. It does not appear that the business needed money. Dorothy could not furnish either money or credit. The $15,000 was apparently borrowed on the petitioner’s credit. She took no part, even the part which a limited partner might take, in the business. She saw no books and did not know that she had any right to see them. She claims that all of the money which she received was in settlement of marital rights and differences between her and the petitioner. Although she had employed counsel, she apparently thought that her husband was using his partnership funds to settle with her in connection with the divorce and was not, in part, giving her partnership earnings to which she was entitled. She actually received $25,000 net, the amount she says he agreed to pay. The divorce settlement and her supposed share of the 1944 partnership earnings are tied in, one with the other. The alleged partnership was changed promptly after the divorce, as soon as the books were closed, to exclude Dorothy. She received nothing for her alleged right to participate in the business as a limited partner. Cf. Smith v. Henslee, 173 Fed. (2d) 284, in which the wife continued as a partner for more than a year after the divorce and then was paid for her interest. In short, the arrangements in regard to the partnership were always made to suit the convenience of the petitioner as it appeared at the moment. Not only does the stipulation fail to show that the Commissioner erred in holding that Dorothy’s purported participation in the partnership was lacking in genuineness, but the record as a whole shows affirmatively that the petitioner did not in good faith and acting with a business purpose intend to have Dorothy join with him and Hoffman in the conduct of the business even to the extent of a limited partner. Commissioner v. Culbertson, supra. The agreement relied upon by the petitioner was executed about March 17,1944, yet it was dated back to January 2, 1944. Obviously, one-half of all 1944 earnings of the business up to March 17 belonged to the petitioner, so that he could not escape Federal income tax thereon by any device short of subsequent losses. Decision will be entered for the respondent.	01-04-2023	01-16-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621865/	APPEAL OF ERNEST P. WAUD AND THE NORTHERN TRUST CO., EXECUTORS, ESTATE OF GEORGE F. GRIFFIN.Waud v. CommissionerDocket No. 5612.United States Board of Tax Appeals6 B.T.A. 871; 1927 BTA LEXIS 3385; April 16, 1927, Promulgated 3385 Where under the will of a decedent the income of a trust fund is payable to a designated beneficiafy for a period of years, or in the event of the death of such beneficiary is payable to his estate, and such beneficiary dies, held, that the annual income from the trust fund is taxable as income to the estate of such deceased beneficiary. Raymond M. Ashcraft, Esq., for the petitioners. Arthur H. Murray, Esq., for the Commissioner. PHILLIPS 871 This matter comes before the Board upon an appeal by the executors of the estate of George F. Griffin, deceased, late of Chicago, Ill., from the proposed assessment by the Commissioner against the estate of an additional income tax of $4,869,84, for the period from May 4, 1920, the day following decedent's death, to December 31, 1920. The executors allege that the Commissioner erred in determining the income of this estate by including in the gross income 872 subject to tax $29,451.80 representing dividends on capital stock distributable during the taxable period to this estate from the trustees of the estate of Thomas A. Griffin. The facts are stipulated. FINDINGS OF FACT. The petitioners3386 are the executors of the estate of George F. Griffin, deceased, late of Chicago, Ill., and have their principal office at 50 South LaSalle Street, Chicago. Thomas A. Griffin, father of George F. Griffin, died August 12, 1914, a resident of Massachusetts, leaving a will which was admitted to probate in the Probate Court of Suffolk County, Massachusetts, and leaving his daughter, Marie G. Dennett, and his son, George F. Griffin, the decedent in this case, surviving him. The wife of Thomas A. Griffin did not survive him. The will of Thomas A. Griffin provided that all of his stock in the Griffin Wheel Co. should be held by the trustees named therein for a period of ten years from the date of his death, during which time the net income derived therefrom or from the proceeds thereof should be paid in equal shares to the said son and daughter. The will directed that at the end of the ten-year period one-half of the trust estate should be divided in equal shares between the said son and daughter, and the remaining one-half continued in trust for the grandchildren of Thomas A. Griffin. The will of Thomas A. Griffin further provided that in the event of the death of either of the said3387 children of Thomas A. Griffin, the issue of such child should take the share of the trust estate and of the income therefrom to which the deceased child would have been entitled if living, with a remainder over in each case to the other child in the event of the death of either child without issue. After the death of Thomas A. Griffin, his daughter, Marie Dennett, his son, George F. Griffin, and the trustees of the estate of Thomas A. Griffin entered into a compromise agreement, modifying certain provisions of the will. It was provided in the agreement that in the event of the death of either the said Marie Dennett or George F. Griffin, during the ten-year period following the death of Thomas A. Griffin, the share of the income to which the one so dying would have been entitled during the remainder of the term of ten years, should be taken by the estate of that one, rather than the issue, as provided in the will. The compromise agreement was subsequently approved by the decree of the Supreme Judicial Court of Massachusetts. George F. Griffin, son of the said Thomas A. Griffin, was a resident of Chicago and died on May 3, 1920. George F. Griffin until his death received one-half3388 of the net income of the trust estate created under his father's will. Since the 873 death of George F. Griffin, and until August 12, 1924, the end of the ten-year period, his estate has received his portion of such net income in accordance with the will of Thomas A. Griffin, as modified. The present value of the right of the estate of George F. Griffin to the income from the Thomas A. Griffin trust from May 3, 1920, the date of his death, to August 12, 1924, was determined as of the date of his death and included in his gross estate for purposes of the Federal estate tax. The value placed on this item in the estate-tax return was $554,723.42. The income distributable to the estate of George F. Griffin from the trustees of the estate of Thomas A. Griffin, according to the terms of the will of Thomas A. Griffin as modified by the compromise agreement, from May 3, 1920, to the end of that year, is the basis for the deficiency assessment in this case. The executors of the estate of George F. Griffin, in their income-tax return for the period from May 4 to December 31, 1920, noted the fact that the estate had distributable funds from the estate of Thomas A. Griffin during3389 the period, but stated that these funds were not included in the gross income of the estate of George F. Griffin subject to tax because they were advised that the funds in question represented corpus or capital of the estate and not income. The amount of distributable income to the estate of George F. Griffin from the estate of Thomas A. Griffin during the period from May 4, to December 31, 1920, and represented by dividends on capital stock, was $29,451,80; the remainder was exempt from tax, as determined by the Commissioner. The Commissioner on auditing the return of the estate of George F. Griffin has included in its gross income the portion of such distributable income from the estate of Thomas A. Griffin represented by dividends on capital stock. Whether or not this fund should be treated as income, or part principal and part income, is the only question involved in this proceeding. In a proceeding brought by the executors and trustees of the estate of George F. Griffin a decree was entered by the Superior Court, Cook County, Illinois, on February 10, 1925, in which the court found and determined that as between those persons entitled to the income in the George F. Griffin3390 estate and those persons eventually entitled to the principal thereof, each payment received by the estate of George F. Griffin from the trustees of the estate of Thomas A Griffin during the remainder of the said ten-year period represented both principal and income to the estate of George F. Griffin, and that the present worth as of the date of the death of George F. Griffin, of each payment to be received, represented principal and that the portion of such payment in excess of such present worth represented income, and the executors and trustees were directed 874 to account accordingly to the beneficiaries of the estate of George F. Griffin, for the payments so received. OPINION. PHILLIPS: Although an attempt has been made to distinguish the situation here from that passed upon by the Supreme Court in Irwin v. Gavit,268 U.S. 161">268 U.S. 161; 45 Sup.Ct. 475; 5 Am. Fed. Tax Rep. 5380, we fail to see any legal distinction which would take this case from under the reasoning of that decision. The court advanced two grounds for its decision in that case. As to the first of these it said: We think that the provision of the act that3391 exempts bequests assumes the gift of a corpus and contrasts it with the income arising from it, but was not intended to exempt income properly so called simply because of a severance between it and the principal fund. * * The money was income in the hands of the trustees and we know of nothing in the law that prevented its being paid and received as income by the donee. This reasoning has the same weight here as it had there. Later in its opinion the court, in what appears to be the second line of reasoning followed in reaching its conclusion, said: A gift of the income of a fund ordinarily is treated by equity as creating an interest in the fund. Apart from technicalities we can perceive no distinction relevant to the question before us between a gift of the fund for life and a gift of the income from it. The fund is appropriated to the production of the same result whichever form the gift takes. Here the comparison is to an estate for years rather than for life, but otherwise no apparent distinction may be drawn. It is suggested in effect that at the time of his death the decedent was vested with an estate for years, that his estate acquired it from him by devise3392 or bequest, and that here the principal of the bequest was another bequest, the realization of the whole of which it is sought to tax as income. However, it would appear from the stipulated facts that the property came to the estate of George F. Griffin by virtue of a trust created by the will of Thomas A. Griffin, as modified by an agreement between the beneficiaries and the trustees. The interest of George F. Griffin in the fund ceased with his death and the interest of his estate then arose pursuant to the previous agreement and not under any gift, devise or bequest of his. That which the estate took never had been the property of the decedent, if we correctly interpret the stipulation. Under the agreement his rights ceased with his death and the rights of the next beneficiary of the agreement, his estate, came into fruition under the agreement but through no bequest of his. The income which it is sought to tax being, therefore, received by the estate as a beneficiary of the trust created by Thomas A. Griffin, the estate here involved is in no different position than was the beneficiary in the case of 3393 Irwin v. Gavit, supra.875 It is contended that because the right to receive these dividends was valued and taxed as a part of the gross estate of the decedent, such value can not be taxed as income. But, referring to the reasoning of the Supreme Court in Irwin v. Gavit, supra, it would appear that the situation is to be treated as though the taxpayer had received an estate for years in certain property. The estate may have a present value, but the income produced by the property is nevertheless income and taxable as such. In legal contemplation the taxpayer's right was to receive the accretions to a principal fund and under the constitution and taxing acts these are held to be income. Irwin v. Gavit, supra;Heiner v. Beatty, 17 Fed.(2d) 743. The fact that the state court has decided that a part of this income is distributable to those entitled to the corpus of the estate and a part to those entitled to the income of the estate, can not affect the question whether such amounts are income to the estate during the period of administration. The situation is similar to that which arises3394 with respect to profits from the sale of assets of the estate, but since the decision of the Supreme Court in Merchants Loan & Trust Co. v. Smietanka,255 U.S. 509">255 U.S. 509; 41 Sup.Ct. 386; 3 Am.Fed. Tax Rep. 3102, there is no ground for the contention that such gains are not taxable, although they may, for distribution in the state court, constitute a part of the corpus. Decision will be entered for the Commissioner.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621866/	GRACE CAPPUCCILLI, ET AL., 1 Petitioners v. COMMISSIONER OF INTERNAL REVENUE, Respondent Cappuccilli v. CommissionerDocket Nos. 2095-77, 2097-77, 2207-77, 2208-77, 5255-77, 5801-77.United States Tax CourtT.C. Memo 1980-347; 1980 Tax Ct. Memo LEXIS 239; 40 T.C.M. (CCH) 1084; T.C.M. (RIA) 80347; August 28, 1980, Filed Victor Chini, for the petitioners. Kenneth Bersani and John D. Steele, Jr., for the respondent. TANNENWALDMEMORANDUM FINDINGS OF FACT AND OPINION TANNENWALD, Judge: In these consolidated cases, respondent has determined deficiencies against petitioners for the taxable years 1970, 1971, and 1972 as follows: PetitionerDocket No.YearDeficiencyGrace Cappuccilli2095-771970$ 7,140.1319717,089.582208-77197269,974.26Dorothy Cappuccilli2097-7719707,422.5419717,467.602207-77197271,077.22Gerald F. and CarolinePaduano5801-7719707,590.1019716,486.685255-77197259,895.65The tax year 1975 is also involved for all of the petitioners because of, and to the extent of, a disputed bad debt deduction which resulted in a claimed loss carryback to 1972. 2242 The issues presented in these cases are: (1) whether respondent properly allocated interest for the years 1970, 1971, and 1972 under section 482 3 to the partnership of Cappuccilli, Cappuccilli, & Paduano (CCP or the partnership) from two related corporations on account of mortgage notes held and cash loans made by CCP; (2) whether interest income properly allocated to CCP under section 482 on account of the above-mentioned mortgages and cash loans in 1967, 1968, and 1969 (see Paduano v. Commissioner, T.C. Memo 1975-69">T.C. Memo. 1975-69, affd. mem. 538 F.2d 312">538 F.2d 312 (2d Cir. 1976), cert. denied 425 U.S. 992">425 U.S. 992 (1976)), may be the subject of a bad debt deduction in either 1972 or 1975; (3) whether the gain which CCP realized pursuant to section 1038, because of his foreclosure of a mortgage in 1972, is ordinary or capital in nature, and, if capital, whether it is long or short term. FINDINGS OF FACT Some of the facts were stipulated. The stipulations of facts and stipulated exhibits are incorporated243 herein by this reference. At the time the petitions herein were filed, Grace Cappuccilli (Grace) and Dorothy Cappuccilli (Dorothy) resided in Syracuse, New York, and Gerald F. Paduano (Paduano) and Caroline Paduano resided in Sarasota, Florida. Grace, with her husband Peter L. Cappuccilli (Peter), who is not a party to these cases, timely filed jointed income tax returns with the North Atlantic Service Center, Andover, Massachusetts, for the taxable years 1970, 1971, and 1972, as did Dorothy and her husband Rocco M. Cappuccilli (Rocco), who is also not a party to these cases, and the Paduanos. On May 6, 1976, Peter and Rocco each filed separate petitions with the United States District Court for the Northern District of New York, pursuant to Chapter XII of the Bankruptcy Act. Pursuant to section 6871, the District Director of Internal Revenue, Buffalo, New York, assessed income tax deficiencies for the taxable years 1970, 1971, and 1972 against both Peter and Rocco. The deficiencies which were assessed against them are the deficiencies which are the subject of their wives' petitions herein. In 1954, Peter, Rocco, and Paduano (hereinafter collectively referred to as the244 developers) formed CCP. Each had a one-third interest in the partnership. CCP was principally engaged in the real estate business in the Syracuse, New York, area. Stonehedge Development Corporation (Stonehedge) was organized on April 8, 1953. The stock of Stonehedge was owned equally by Peter, Rocco, and Paduano from its organization through May 26, 1969. Seneca Sewerage Corporation (Seneca) was organized on April 1, 1961, for the purpose of operating a sanitary sewage treatment plant. The stock of Seneca was owned equally by Peter, Rocco, and Paduano through May 26, 1969. On May 27, 1969, Paduano retired from active participation and ownership in all the corporate and business ventures they had undertaken together, except with respect to the partnership. Subsequently, in 1969, and in all of 1970, 1971, and 1972, the stock of Stonehedge was owned equally by Peter and Rocco, as was the stock of Seneca. The partnership ownership interests remained the same, although Paduano did not take an active part in the operations of CCP. The general plan of the developers was to have CCP acquire options and purchase individual properties until it had put together a parcel of land which245 could be developed; CCP would make no efforts to improve or subdivide the parcel but would subsequently sell it, at a profit, to Stonehedge, which would make the necessary improvements, obtain new zoning (if necessary), subdivide the lots, and construct and sell houses or other buildings. The proceeds from these sales would provide Stonehedge with the necessary funds to discharge the obligations which it incurred in acquiring the land from CCP. CCP also owned other properties for investment purposes, such as a bowling alley, an office building, and other rental properties.Between 1955 and 1962, Stonehedge developed a community known as Seneca Knolls in the Town of Van Buren, New York. Henderson farm, lying adjacent to Seneca Knolls, was purchased by CCP on March 8, 1960, for $125,460. The farm was sold to Stonehedge on February 20, 1961, in consideration of a cash payment of $28,122.25, the assumption of mortgage obligations totaling $107,605.14, and a note in the amount of $81,000, bearing interest at six percent per annum, secured by a purchase money mortgage, and providing for payment of principal to be made in equal installments plus interest on the first and second anniversaries246 of the sale. During the period February 22, 1961, through January 3, 1962, CCP acquired five contiguous farms (hereinafter the Seneca Knolls farms) at a total cost of $320,083. 4The Seneca Knolls farms lay between two previously completed sections of the Seneca Knolls Community. CCP anticipated that the Seneca Knolls farms would be sold to Stonehedge (or another developer) who would then subdivide them into lots for individual sale. Prior to purchasing the Seneca Knolls farms, however, Stonehedge wanted to be relatively certain that the Town of Van Buren would rezone the land for residential lots of the size they desired. Peter and Rocco had contacts with various town officials and were given conflicting signals regarding the zoning request. Nonetheless, in late 1961 and early 1962, their lawyer, 247 James M. Cerio, 5 drafted the necessary documents for the Seneca Knolls farms to be transferred to Stonehedge. Cerio brought these documents -- a closing statement, mortgage note, mortgage, and the deed -- with him to a meeting at the developers' offices on January 10, 1962. At that meeting, Peter signed the closing statement, note, mortgage, and deed as president of Stonehedge; Peter, Rocco, and Paduano all signed the deed. During the meeting, while signing the documents, the parties realized that there was a serious question whether the zoning request, with negotiated modifications, would be approved. Consequently, the individuals held up signing the closing statement and concluding the sale until they were reasonably satisfied that the zoning problem would be resolved. Cerio left and Peter placed the documents in the CCP files in the office. 6CCP paid the real estate tax on the properties for 1962. On December 28, 1962, another meeting248 was held to close the sale. Checks were written to cover transfer and recording fees, legal fees, and the cash balance due CCP according to the closing statement. Cerio recorded the deed later that day; when the deed was returned after the recording, it was placed in the Stonehedge file. Stonehedge made no payments on the purchase between January 10 and December 28, 1962. The total purchase price for the farms was $1,353,600. Stonehedge was to assume mortgages on the land (from CCP's purchases) totaling $275,170. In addition, it gave CCP a mortgage and non-interest bearing note for $1,075,000 to be paid $75,000 on January 10, 1964, and $100,000 on each successive January 10 until the balance was paid in full. The deed, note, and mortgage retained the January 10, 1962, date reflected in the documents originally prepared for the sale. After the January 10, 1962, meeting, Stonehedge continued its attempts to get the zoning change. In an application to the Planning Board of the Town of Van Buren in June 1962, Stonehedge stated that the land was "now owned by deed or contract by Stonehedge," and that "[prior] to development, complete title by deed will be held by the Corporation. 249 " Its petition to the Town Board merely made the former statement as did Cerio in his appearance for Stonehedge at an August 16, 1962, hearing on the application. 7 Cerio's presentation, as well as the petition to the board, explained that the development planned on the parcel was "in conformity with the developer's master plan of development conceived and laid out prior to the enactment of the present zoning ordinances [in 1961]." The Town Board refused Stonehedge's request, so Stonehedge brought an action to compel approval of the rezoning request in August 1963. In its complaint, Stonehedge stated that it "is and at all times hereinafter mentioned was the owner of [the Seneca Knolls farms];" that period included the summer of 1962, during which time the rezoning applications were pending. During all of the taxable years 1970 and 1971, and during the period from January 1 until March 13, 1972, CCP carried two mortgage receivables on its books and records due from Stonehedge. These mortgages resulted from the sale of the Henderson farm and the Seneca Knolls farms by CCP to Stonehedge. The250 outstanding balances on these two mortgages on various relevant dates were as follows: DateHenderson FarmSeneca Knolls FarmsDate of purchase$81,000$1,075,0001/1/7070,0001,052,85012/31/7070,0001,052,8501/1/7170,0001,052,85012/31/7170,0001,052,8501/1/728-- 9 1,010,972 3/12/72--1,010,972During the taxable years 1970, 1971, and 1972, CCP carried a mortgage receivable on its books and records due from Seneca in the amount of $25,000. 10 This mortgage resulted from the sale of half the Preston farm (20 acres) by CCP to Seneca on April 16, 1961. The Preston farm was purchased on April 15, 1961, by CCP from Stonehedge. 251 Neither Stonehedge nor Seneca paid CCP any interest on their respective mortgages during the taxable years 1970, 1971, or 1972. Due to Stonehedge's development problems, Seneca was unable to realize revenue from anticipated tap-ins. During the taxable years 1970, 1971, and 1972, CCP had loans due from Stonehedge (in addition to the mortgage loans discussed supra) on which no interest was charged or paid in the following amounts: 1970BalanceBalance 1/1/70$120,000Balance 12/31/70(repaid 10/29/70)01971Balance 1/1/710Advance 6/21/71$6,000$ 6,000Advance 7/20/716,00012,000Advance 8/10/714,00016,000Advance 10/23/714,00020,000Advance 11/24/713,00023,000Balance 12/31/7123,0001972Balance 1/1/72$23,000Balance 12/31/7223,000These loans resulted from advances to Stonehedge in order to keep the corporation going and to meet priority obligations on first mortgages. On or about November 12, 1968, the State of New York acquired by eminent domain a portion of the Seneca Knolls farms property. Stonehedge rejected the state's offer of $52,300 for the property (on which a partial payment had been252 made in 1969). The condemned property had a cost basis of $130,138. On January 26, 1970, Stonehedge filed a claim against the State of New York for $2,000,000; $1,000,000 in direct damages and $1,000,000 consequential damages.It expected to realize $600,000 to $700,000 on this claim.By judgment entered May 16, 1973, the Court of Claims of the State of New York determined that Stonehedge was entitled to $245,399 for the parcel taken by the State. The total amount paid Stonehedge, including interest, was $294,032.91, of which $39,225 had been received as a partial payment in 1969.In 1970, Stonehedge assigned its anticipated award from the State as security for a $500,000 loan to be used to develop land in Van Buren from the Merchants National Bank and Trust Company of Syracuse (Merchants Bank). The loan was also secured by mortgages on two farms and the personal quarantees of Peter and Rocco, which Merchants had considered insufficient collateral without the assignment of the claim against the State. Interest was payable at 1-1/2 percent over the prime rate. Merchants Bank made this loan, in part, in anticipation of receiving mortgage applications from the purchasers of units253 from Stonehedge and its affiliated corporations. Had it known, however, that only $254,807.91 would be received from the State for the assigned claim, it probably would not have made the loan. Prior to the pledge of Stonehedge's potential claim against the State to Merchants Bank, it was not otherwise pledged, assigned, or made the subject of a security interest. On March 14, 1972, Stonehedge sold approximately 115 acres of land in the Seneca Knolls farms tract and paid CCP the $223,756 proceeds of the sale. 11 This money was used to reduce the principal of CCP's mortgage on the property (the partial release of which was a precondition to the sale), after which $899,094 of mortgage principal remained outstanding. On or about March 14, 1972, Stonehedge gave CCP a deed in lieu of foreclosure of the CCP mortgages for the Henderson farm and the remainder of the254 Seneca Knolls tract. CCP took ownership of the properties in full satisfaction of its mortgages. CCP realized a gain of $482,577 on its reacquisition of the properties from Stonehedge. Stonehedge's balance sheets for the years ending December 31, 1970, 1971, and 1972 reflected the following: 197019711972ASSETSCurrent assets12 $ 303,836 $ 16,230$ 13,285Equipment (lessdepreciation)4,9953,49626,145Land (at cost)1,338,6541,338,797200,175Due from Seneca71,95068,95069,350Seneca mortgage10,00010,00010,000Total Assets$1,729,435$1,437,473$318,955LIABILITIES ANDSTOCKHOLDERS' EQUITYCurrent liabilities$ 90,174$ 116,348$174,500Mortgages payable1,146,1521,142,1019,249Merchants' Bank loan13 496,000 14 472,000 306,000Other liabilities57,41666,38590,39715 Common stock 15 8,357 15 8,357 15 8,357 Retained earnings(68,664)(367,718)(269,548)Total Liabilities andStockholders' Equity$1,729,435$1,437,473$318,95519731974ASSETSCurrent assets$ $Equipment (lessdepreciation)Land (at cost)Due from SenecaSeneca mortgageTotal Assets$ 4,819$ 5,118LIABILITIES ANDSTOCKHOLDERS' EQUITYCurrent liabilities$ $Mortgages payableMerchants' bank loanOther liabilities15,90815,84715 Common stock 15 8,357 15 8,357 Retained earnings(19,446)(19,086)Total Liabilities andStockholders' Equity$ 4,819$ 5,118255 The following table shows Stonehedge's earnings during the taxable years indicated as shown on its financial statements and/or tax returns: 16Gross profit or lossNet earnings (or loss)Yearfrom salesOther Incomeafter provision for taxes1967$40,341.95$ 4,216$ 3,2851968(26,683.23)6,269(54,687)1969No sales listed6,113(35,948)1970No sales listed1,175(43,645)1971No sales listed2,321(299,054)1972No sales listed1,24517 (39,563) 1973No sales listed18 254,708 9,7791974No sales listed86(125)256 The notes to the 1970 and 1971 financial statements' schedules of land and mortgages payable, referring to the Seneca Knolls farms, state: "It is the opinion of management that the market value of the land exceeds the stated amount of each mortgage." For the taxable years 1967, 1968, and 1969, the District Director of Internal Revenue, Buffalo, New York allocated interest on the mortgages given CCP by Stonehedge and Seneca, and on advances made by CCP to Stonehedge and to Cappy's Real Estate, Inc., another related corporation, pursuant to section 482. In 1975, this Court sustained respondent's allocation of interest, and its effect on the distributable partnership income of each of the partners, for those three taxable years. Our decision was affirmed by the United States Court of Appeals for the Second Circuit, and the Supreme Court denied certiorari. Paduano v. Commissioner, T.C. Memo. 1975-69,257 affd. mem. 538 F.2d 312">538 F.2d 312 (2d Cir. 1976), cert. denied 425 U.S. 992">425 U.S. 992 (1976). The amounts of interest allocated for the taxable years 1967, 1968, and 1969 were $69,428.49, $68,134.93, and $64,070.31, respectively.In its amended partnership return for 1975, signed August 13, 1976, after the Supreme Court denied certiorari, CCP claimed a bad debt deduction for the interest allocated for 1967, 1968, and 1969. The taxpayers then filed amended returns for 1975 and refund claims to carryback the net operating loss to the taxable year 1972. On June 13, 1975, the boards of directors of Stonehedge and Community Technology, Inc. (CTI), and their shareholders, 19 approved the merger of their corporations, together with PRG Enterprises, Inc., another related corporation, which owned all the shares of Village Green of Van Buren, Inc., into CTI. The purpose of this merger was to reduce costs by simplifying their operations.As originally planned, each entity was to serve a particular function, but in practice they began overlapping, complicating both their internal and external dealings. 258 On or about May 13, 1976, CTI filed a petition in the United States District Court for the Northern District of New York pursuant to Chapter XI of the Bankruptcy Act, coincident with Peter's and Rocco's filing under Chapter XII of the Bankruptcy Act. The primary purpose of filing all three petitions was to renegotiate the secured indebtedness of Peter, Rocco, and CTI. In its Statement of Affairs filed with the Bankruptcy Court on June 11, 1976, CTI listed total property in the amount of $7,048,737.25, and total debts of $8,970,466.79. These debts, however, included one liability of $1,979,127 which was a mortgage debt against a project which had been conveyed subject to the mortgages, so the value of this property, $2,400,000, was not included as an asset of CTI. Another debt for $1,500,000 included on CTI's debt schedule was secured by certain phases of a project owned by Peter and Rocco, which had a market value in excess of $5,000,000 and was not otherwise encumbered; it, too, was not reflected in CTI's asset schedule. The secured indebtedness was successfully renegotiated. On or about October 6, 1977, the Bankruptcy Court approved a Plan of Arrangement with the unsecured259 creditors providing for 100-percent payment of their claims by June 10, 1984. In addition, Peter and Rocco agreed to a subordination of their individual claims against CTI. In the course of the bankruptcy proceeding, CCP filed a proof of claim in the sum of $325,718.90 for interest allocated by respondent pursuant to section 482 for the period 1967 until March 1972. The Bankruptcy Court disallowed this claim because under New York law, no interest liability by CTI to CCP existed.The United States filed an amicus curiae brief in the Bankruptcy Court opposing CCP's claim on these grounds. ULTIMATE FINDINGS OF FACT CCP had a reasonable expectation that, if it had charged interest to Seneca during the taxable years at issue, such interest could have been paid during such years of within a reasonable time thereafter. CCP had a reasonable expectation that, if it had charged interest to Stonehedge during the taxable years at issue, such interest could have been paid during such years or within a reasonable time thereafter. At the time of the sale to Stonehedge, CCP held the Seneca Knolls and Henderson farms properties primarily for sale to its customers in the ordinary course260 of its trade or business. The sale to Stonehedge took place on December 28, 1962. OPINION The parties have presented us with three issues to be resolved. Whether: (1) respondent's allocations of interest to CCP pursuant to section 482 20 for the taxable years 1970, 1971, and 1972 should be upheld; 21 (2) CCP may deduct as a bad debt in either 1972 or 1975 the interest properly allocated to it for the years 1967, 1968, and 1969; and (3) the character of the gain to CCP upon its foreclosure of the mortgages on the Henderson and Seneca Knolls Farms. 261 Petitioners do not dispute the principle that where one member of a group of commonly controlled entities becomes indebted to another but is charged no interest, respondent may allocate interest to the creditor under section 482, if interest would have been charged under like circumstances in an arm's-length transaction. B. Forman Company v. Commissioner, 453 F.2d 1144 (2d Cir. 1972), affg. in part and revg. in part 54 T.C. 912">54 T.C. 912 (1970). Petitioners acknowledge that no interest was charged during the years in issue, but argue that (a) the corporations and partnership were not commonly controlled, and (b) since interest would not have been accrued under the circumstances by unrelated entities, respondent cannot allocate it under section 482. We find petitioners argument that the necessary control (under section 482) did not exist to be frivolous. They contend that when Paduano relinquished his stock interests in 1969, the common control also disappeared. Section 482 and regulations thereunder 22 clearly state that common control, direct or indirect, not common ownership, is all that is necessary. Charles Town, Inc. v. Commissioner, 372 F.2d 415">372 F.2d 415, 419-420 (4th Cir. 1967),262 affg. a Memorandum Opinion of this Court. The language is broad and sweeping, and is ample to cover the present case. Cf. Ach v. Commissioner, 42 T.C. 114">42 T.C. 114, 125 (1964), affd. 358 F.2d 342">358 F.2d 342 (6th Cir. 1966). We are to apply a realistic approach to the control question. B. Forman Company v. Commissioner, 453 F.2d at 1153.23 Though there may have been a potential conflict of interest between Paduano and the Cappuccillis, because of the former's continued ownership of a one-third interest in the partnership, petitioners have demonstrated no actual conflict. 24 In fact, the only evidence presented indicates that Paduano had retired from active participation in CCP, thereby manifesting common direct control in Peter and Rocco over the entities. Even if the evidence had indicated a continuing active role for Paduano in CCP, we would find the necessary control.In failing to collect interest from Stonehedge and Seneca, CCP was merely continuing its practice established while Paduano was involved in the corporations. We have no evidence that Paduano attempted to change such practice, despite his new status263 solely as a creditor of the corporations via the partnership, rather than as a shareholder, thereby indicating an acquiescence in the management decisions by Rocco and Peter. Petitioners have failed to convince us that the actual control of the partnership and the corporations was not exercised by the latter two individuals at all times during the taxable years 1970, 1971, and 1972. We, therefore, find the requisite control by the same interests. See also Grenada Industries, Inc. v. Commissioner, 17 T.C. 231">17 T.C. 231, 253-254 (1951), affd. 202 F.2d 873">202 F.2d 873 (5th Cir. 1953). In Dallas Ceramic Co. v. United States, 598 F.2d 1382">598 F.2d 1382 (5th Cir. 1979), Brittingham v. Commissioner, 66 T.C. 373">66 T.C. 373, 395-400 (1976), affd. per curiam 598 F.2d 1375">598 F.2d 1375 (5th Cir. (1979), and Cedar Valley Distillery, Inc. v. Commissioner, 16 T.C. 870">16 T.C. 870 (1951), relied upon by petitioners, the ownership involved was so disparate that the necessary common control under section 482 was found not to exist. These cases are clearly distinguishable. 264 It is clear that respondent may allocate interest to CCP in respect of its loans to the corporations even if the corporations did not realize income from the loans during the year. B. Forman Company v. Commissioner, supra; Latham Park Manor, Inc. v. Commissioner, 69 T.C. 199">69 T.C. 199 (1977). He is to make such allocation -- in order to prevent "evasion of taxes or clearly to reflect the income." The legislative history of section 482 indicates that it was designed to prevent evasion of taxes by the arbitrary shifting of profits, the making of fictitious sales, and other such methods used to "milk" a taxable entity. The Commissioner has considerable discretion in applying this section and his determinations must be sustained unless he has abused his discretion. We may reverse his determinations only where the taxpayer proves them to be unreasonable, arbitrary, or capricious. * * Ach v. Commissioner, 42 TC. at 125-126. [Citations omitted.] Petitioners argue that the financial status of Stonehedge and Seneca was such that, even if an adequate rate of interest had been charged (as presumably an unrelated third party would have done), 265 such interest would not have been accruable, because there was no reasonable expectation of collection during the taxable years at issue, and that, therefore, respondent was without power to allocate interest income to CCP in respect of those years. Respondent argues that he may apply section 482 to allocate interest income regardless of the debtor's ability to pay (see section 1.482-1(d)(4), Income Tax Regs.) and, in any case, that the financial condition of Stonehedge and Seneca were such that CCP had a reasonable expectation of collecting interest and, therefore, if an adequate interest had been charged, it would have been accruable. We deal first with the question as to whether an unrelated taxpayer or CCP (had it charged an adequate rate of interest) would have been required to report for tax purposes interest income during any of the taxable years at issue. Under the accrual method of accounting, income is includable in gross income when all the events have occurred which fix the right to receive such income and the amount can be determined with reasonable accuracy. Section 1.451-1(a), Income Tax Regs. Where, however, income is of doubtful collectibility or it is reasonably266 certain that it will not be collected within a reasonable time after the taxable year, i.e., in the absence of "reasonable expectancy of its receipt," a taxpayer is justified in not accruing the item. Corn Exchange Bank v. United States, 37 F.2d 34">37 F.2d 34 (2d Cir. 1930). The mere financial difficulty of the debtor or postponement of making payment does not constitute the requisite absence of reasonable expectancy of receipt. Harmont Plaza, Inc. v. Commissioner, 64 T.C. 632">64 T.C. 632, 650 (1975), affd. by order 549 F.2d 414">549 F.2d 414 (6th Cir. 1977). 25 The determination of whether CCP would have had a "reasonable expectancy" of collecting interest from Seneca and Stonehedge is a question of fact. Chicago & North Western Railway Co. v. Commissioner, 29 T.C. 989">29 T.C. 989, 996 (1958). In approaching the question of "reasonable expectancy," we recognize that this involves an exception to the general rule of accruability and that it should be applied narrowly in order that the exception does not swallow up the rule itself. Cf. Georgia School-book Depository, Inc. v. Commissioner, 1 T.C. 463">1 T.C. 463, 469 (1943). Furthermore, we recognize the problem267 in examining cash flow in the context of leveraged real estate transactions such as Stonehedge engaged in (see Harmont Plaza, Inc. v. Commissioner, 64 T.C. at 650), a problem which is accentuated where related corporations and the consequent opportunity for manipulation are involved. We note initially that, as to Seneca, we have only Peter's self-serving and unsubstantiated testimony that it could not pay interest. Though petitioners filled the record with Stonehedge's tax returns and audited financial statements, the only documentation relating to Seneca was its corporate income tax returns for the fiscal years ending June 30, 1968, and 1969, years not involved herein. These returns show that, although Seneca operated at a loss during those years, it had substantial gross receipts, and there is no evidence that such flow of receipts did not continue during the taxable years 1970, 1971, and 1972 and that interest could not have been paid therefrom. 26 Petitioners have totally failed to carry their burden of proof ( Welch v. Helvering, 290 U.S. 111">290 U.S. 111 (1933);268 Rule 142(a), Tax Court Rules of Practice and Procedure). Accordingly, we uphold respondent's determination that CCP should have accured interest income due from Seneca during the years in issue. Cf. Bryan v. Commissioner, 281 F.2d 238">281 F.2d 238, 243 (4th Cir. 1960), affg. in part and remanding 32 T.C. 104">32 T.C. 104 (1959). The issue of "reasonable expectancy" as to Stonehedge is not as clear-cut. Throughout the taxable years 1970, 1971, and 1972, Stonehedge's real estate holdings were heavily leveraged. Based upon its tax returns and financial statements during such years, its liabilities far exceeded its assets, 27 it was unprofitable, and it had cash flow problems. But, Stonehedge received substantial amounts of cash during those years which, for aught that appears in the record herein, could have been used to pay interest had it been charged -- some $496,000 by way of loan from Merchants Bank and $223,756 from the sale of acreage to a third party. 269 Petitioners' arguments that the proceeds of the Merchants Bank loan could not have been used to pay interest had it been charged are not persuasive. We were not favored with any written evidence as to the terms of the $500,000 loan which would have revealed the restrictions, if any, on the use of funds advanced by the bank thereunder. Nor did the oral testimony of Gschwender (the loan officer of Merchants Bank involved with the loan to Stonehedge) enlighten us on this score. He merely testified that Merchants Bank would have loaned funds for the purpose of paying interest to CCP only on a subordinated basis and did not testify as to the conditions imposed by the bank on the loan actually made. We do not think that the evidence of record as to the collateral and guaranties which Merchants Bank required is sufficient to indicate whether any such restrictions existed, or the nature thereof.Nor were we favored with any evidence as to how the funds received from Merchants Bank were in fact used, although we presume they were used to pay operating expenses which, according to the financial statements, with minor exceptions, did not involve any construction or other direct costs of270 developing Stonehedge's land. Similarly, no evidence was submitted to show the source of funds with which repayments were made to Merchants Bank. 28 In this connection, we note that in 1971 and 1972 the loan balance was reduced. Thus, we are not satisfied that the funds advanced by Merchants Bank could not have been used to pay interest to CCP during the taxable years at issue. Our position is reinforced by the fact that during 1970 Stonehedge repaid $120,000 of advances by CCP. Since Stonehedge had only a miniscule amount of income during that year, such repayment presumably was made from funds received from Merchants Bank on the theory that such advances were for the purpose of facilitating the development of Stonehedge's properties. The use of such advances to pay interest on CCP's mortgage (had it been charged) could presumably have been supported on the same basis, since the mortgages represented the proceeds of sales of land to Stonehedge for purposes of development. As far as the $223,756 is concerned, it appears that such payment was necessary to release271 CCP's mortgage in order that the property in question could be sold. The funds were applied to the discharge of the principal of the mortgage; in fact, there was no reason for it to have been applied otherwise, since at the time of application, Paduano v. Commissioner, T.C. Memo. 1975-69, affd. mem. 538 F.2d 312">538 F.2d 312 (2d Cir. 1976), cert. denied 425 U.S. 992">425 U.S. 992 (1976), had not been decided to say nothing of the fact that the deficiency notices which gave rise to the Paduano case had not even been issued (they were issued in June 1972). Moreover, under New York law, such application would have been recognized as binding between the parties. Cf. Foss v. Riordan, 84 N.Y.S. 2d 224, 233-234 (West. Cty. 1947), affd. 273 App. Div. 982, 79 N.Y.S. 2d 515 (2d Dept. 1948), and cases cited thereat. See New england Waterworks Co. v. Farmers' L. & T. Co., 54 App. Div. 309, 66 N.Y.S. 811">66 N.Y.S. 811, 815 (1st Dept. 1900); Laney v. Whitaker, 91 Misc. 2d 949">91 Misc. 2d 949, 398 N.Y.S.2d 839">398 N.Y.S. 2d 839, 840 (Monroe Cty. 1977), citing Bank of California v. Webb, 94 N.Y. 467">94 N.Y. 467, 472 (1884). Moreover, respondent's own272 regulations seem to recognize that payments are applied first to principal (at least in the absence of a contrary application by the parties) in outlining the method by which the time periods for computing allocated interest are determined. See section 1.482-2(a)(3), Income Tax Regs.Under these circumstances, we incline to the view that the $223,756 should not be considered as being available for the payment of the interest allocated in respect of the taxable years at issue. However, as we see it, there was still another source of funds which could have been available to pay interest had it been charged. CCP received $404,422 in October 1973 as proceeds from the sale of land. The record does not clearly reveal what land was sold. A part of it ($245,399) apparently was the principal proceeds of the State condemnation award, which for the reasons hereinafter stated (see p. 37, infra) we do not believe should be taken into account. The balance of the proceeds ($159,023) apparently came from other land which presumably was available for sale by Stonehedge at an earlier date. Stonehedge's 1973 return shows a cost of the land not involved in the condemnation award as $70,015273 which indicates that of the total gain of $204,224 reported -- a figure as to which we have been unable to construct a reconciliation on the basis of the record before us -- $89,008 ($159,023 less $70,015) was available to pay interest had it been charged. 29Based on the foregoing, Stonehedge would appear to have had at least $589,008 available (and possibly more, see footnote 29, supra) available cash funds during the taxable years at issue or within a reasonable time thereafter. Granted that it was reasonable to expect that some of these funds were needed for operations (although, as we have pointed out, no hard evidence on this score was forthcoming), there would still seem to have been enough which could have been used to pay interest had it been charged. The amounts of allocated interest to CCP from Stonehedge for the three years at issue herein aggregated only $129,339 (1970 -- $61,111; 1971 -- $56,564; 1972 -- $11,664). If we were to take into account the $196,380 of interest274 allocated to CCP from Stonehedge for 1967, 1968, and 1969, 30 we would reach the same conclusion; the aggregate allocated interest for all six years (some $325,719) was still substantially less than the funds which appear to have been available, even after making some allowance for expenditures to cover operating costs. In sum, petitioners have simply not carried their burden of proof ( Welch v. Helvering, supra; Rule 142(a), supra) that there was not a "reasonable expectancy" that, had such interest been charged Stonehedge by CCP, it could not have been paid. 31Petitioners' argument that we should not take allocated interest into account because it was not clear, at least until275 Paduano v. Commissioner, supra, was decided by this Court in 1975, that there was any liability for such interest is beside the point. The test we have applied is, not whether there was a "reasonable expectancy" of collectibility of allocated interest, but whether, if a third party (or CCP) had in fact charged interest in the amounts allocated by the respondent, such interest could have been reasonably expected to have been collected. See pp. 27-28, supra. Because we have concluded that respondent's allocation of interest to CCP for the taxable years at issue should be sustained for the reasons stated above, we do not reach respondent's arguments that we should hold that there was a "reasonable expectancy" of collectibility because Stonehedge had available unrealized appreciation in its real estate 32 and because of the availability, prior to its assignment to Merchants Bank, of the State condemnation award.33 Similarly, we do not reach the issue as to whether, even if there was no reasonable expectancy of collectibility, respondent nevertheless had the power to allocate interest by analogy to the "creation of income" cases. See Latham Park Manor, Inc. v. Commissioner, 69 T.C. at 214-216,276 and cases collected thereat; section 1.482-1(d)(4), Income Tax Regs. In this latter connection, we observe that the "creation of income" cases involved the question whether it was material to the existence of respondent's power to allocate income under section 482 that funds represented by non-interest-bearing loans were used to produce income (in which context, the Court of Appeals in B. Forman Company v. Commissioner, supra, rejected the standard of correctness "from a pure accounting standpoint" and held that section 482 could be utilized, see 453 F.2d at 1156), whereas, in the instant case, had we found no reasonable expectancy of collectibility, our analysis would have started from the premise that respondent had the power to "create" income under section 482 and would then have proceeded to deal with the question whether the interest income so created should have been included in CCP's income even though an independent third party (or CCP) would not have been required to report such interest had it been charged, 34 a question not faced in the "creation of income" cases. 35277 The next issue to be resolved is whether petitioners are entitled to a bad debt deduction in either 1972 or 1975 for the interest respondent successfully allocated to CCP under section 482 for the years 1967, 1968, and 1969 (see Paduano v. Commissioner, supra.) Petitioners argue that the "debt" became worthless in either 1972 or 1975. Their 1972 claim is based upon B. Forman Company v. Commissioner, supra, the first case upholding respondent in his allocation of interest on non-interest-bearing loans under section 482, being decided in that year, including the denial of a petition for certiorari (407 U.S. 934">407 U.S. 934 (1972)) and a rehearing thereon (409 U.S. 899">409 U.S. 899 (1972)), and their receipt in that year of the deficiency notices for 1967, 1968, and 1969. Their alternative claim for 1975 rests on the fact that in that year, we decided Paduano v. Commissioner, supra, upholding respondent's allocation of interest from Stonehedge and Seneca. For the reasons which follow, we hold that if a "debt" was created, it did not come into existence until 1976. It is well-settled that a debt does not exist for278 purposes of section 166 where the obligation to repay is subject to a contingency which has not occurred. Lieberfarb v. Commissioner, 60 T.C. 350">60 T.C. 350, 354 (1973); Ewing v. Commissioner, 20 T.C. 216">20 T.C. 216, 229 (1953). The obligation of the petitioners' in Paduano v. Commissioner, supra, to pay the tax on the allocated interest was contingent on both our decision and its affirmance on appeal. Blake v. Commissioner, 67 T.C. 7">67 T.C. 7, 18-20 (1976), and cases discussed thereat, affd. as to this issue 615 F.2d 731">615 F.2d 731, 736 (6th Cir. 1980); North American Coal Corporation v. Commissioner, 28 B.T.A. 807">28 B.T.A. 807, 851 (1933). Cf. United States v. Consolidated Edison Co., 366 U.S. 380">366 U.S. 380 (1961); Lucas v. American Code Co., 280 U.S. 445 (1930). See sections 6215 and 7485. See generally, 2 Mertens, Law of Federal Income Taxation (Malone Rev. 1974) sec. 12.66, pp. 267-269. Petitioners argue that the requirements of section 7485 and Rule 192, Tax Court Rules of Practice and Procedure, that the filing of a notice of appeal does not stay assessment or collection of the deficiency determined279 by this Court unless a bond is filed with this Court, remove the contingency. We disagree. We think it a fair assumption that their appeal of the Paduano decision was in good faith and not a dilatory tactic. See section 7482 (c)(4). Thus, we will not now hear petitioners argue that they did not believe their tax liability was in dispute and subject to a real contingency in 1975. Similarly, since the tax liability was contingent until 1976, a debt for it could not have been in existence in 1972. Petitioners' argument that the debt arose in that year because the deficiency notice was "presumptively correct," is clearly without merit. 36Thus far, the discussion has centered on the petitioners' 280 tax liability in Paduano v. Commissioner, supra, whereas we are concerned herein with the underlying interest liability. That interest obligation, however, was the alter ego of the tax liability; the allocation of interest was contingent on our tax decision. Had we, or an appellate court, decided in favor of the petitioners in Paduano, there would have been no allocation of interest, nor any question as to whether it was a valid and enforceable obligation. Until the decisions were final, therefore, the interest liability (if it ever were to legally arise) was subject to a contingency which had not yet occurred. It is analogous to the situation in which the tax liability is contingent on when the underlying claim is finally resolved. E.g., Dixie Pine Co. v. Commissioner, 320 U.S. 516">320 U.S. 516 (1944) (all events have not occurred where liability is contingent and in contested by taxpayer). 37281 We turn now to the final issue, i.e., the character of the gain recognized by CCP pursuant to section 1038 (b)(1), upon the foreclosure of the mortgages on the Seneca Knolls and Henderson farms in 1972. 38 The characterization of the gain as ordinary or capital is controlled by the circumstances of the original sale. Section 1.1038-1(d), Income Tax Regs. Thus, we must decide whether the Seneca Knolls and Henderson farms were capital assets within the meaning of section 1221 in CCP's hands, when originally sold to Stonehedge.Section 1221(1) denies capital gain treatment to gains arising from the sale of "property held by the taxpayer primarily for sale to customers in the ordinary course of his trade or business." The purpose of this provision "is to differentiate between 'the profits and losses arising from the everyday operation of a business' on the one hand * * and 'the realization of appreciation in value accrued over a substantial period of time' on the other, * * ." Malat v. Riddell, 383 U.S. 569">383 U.S. 569, 572 (1966). The ultimate determination is a factual one, to be based on all the282 surrounding circumstances. Adam v. Commissioner, 60 T.C. 996">60 T.C. 996, 999 (1973). Rather than list the factors deemed relevant by the courts (see e.g., Gault v. Commissioner, 332 F.2d 94">332 F.2d 94, 96 (2d Cir. 1964), affg. a Memorandum Opinion of this Court; Adam v. Commissioner, supra), we shall only discuss those relevant to our decision herein. The relationship among the factors and their mutual interaction changes in each case depending on the facts. Biedenharn Realty Co. v. United States, 526 F.2d 409">526 F.2d 409, 415 (5th Cir. 1976). The focus of the factual inquiry is the statutory tests, i.e., (1) what was CCP's trade or business? (2) was CCP holding the property primarily for sale in the ordinary course of its trade or business, and (3) was Stonehedge a customer of CCP in that trade or business? Cf. Suburban Realty Co. v. United States,615 F.2d 171">615 F.2d 171, 178 (5th Cir. 1980). Petitioners argue that CCP and Stonehedge were separate taxable entities, as were the partner/shareholders, so that the activities of each should not be attributed to the others. See Gordy v. Commissioner, 36 T.C. 855">36 T.C. 855 (1961).283 They then argue that CCP merely acquired the individual farms as a speculative investment, assembling enough contiguous parcels to make it worthwhile for a purchaser to seek a zoning change. They claim that CCP undertook no other activity to rezone, subdivide, or otherwise improve the land, nor any sales activities. In addition, they deny that CCP was in the trade or business of selling land, claiming that its real estate transactions were few and isolated. 39The developers were careful, on paper, to separate their activities and those of Stonehedge from the partnership's, but that is where the separation ended. CCP cannot be permitted to insulate itself from the acts of an entity (Stonehedge) whose efforts are so closely related to its own; 40 the supplier of developable land may be regarded as a joint participant with the builder in an integrated real estate development business. Bauschard v. Commissioner, 31 T.C. 910">31 T.C. 910, 916-917 (1959), affd. 279 F.2d 115">279 F.2d 115, 118 (6th Cir. 1960). Cf. Pointer v. Commissioner, 48 T.C. 906">48 T.C. 906, 917 (1967),284 affd. 419 F.2d 213">419 F.2d 213, 216 (9th Cir. 1969). Peter explained the role each entity played in their development plan. The jointness of the venture may be seen from how the land sales were structured -- no interest was actually charged on either the Henderson or Seneca Knolls mortgages, repayment was scheduled over several years as the land was expected to be developed and resold, delivery of the deed was held up until the principals believed (incorrectly) that the zoning would be approved, and essentially all of the risk of non-development fell on CCP, which apparently expected no payment until the buildout had proceeded and did not foreclose until it had abandoned its development plan, at least with respect to the use of Stonehedge. 41 In this context, we hold that CCP was in the trade or business of land development and sales at the time the Seneca Knolls properties were sold. 285 From the record, it is clear that CCP acquired and held the farms intending to resell them to Stonehedge. 42 These contiguous parcels lay between the already completed sections of Seneca Knolls and were included in Stonehedge's master plan of development which had been previously filed with the Town of Van Buren. Furthermore, we have found that the developers' method of operation was to have CCP acquire the land and Stonehedge develop it. The fact that the sale here was to one customer does not prevent characterization of the gain as ordinary income. Pointer v. Commissioner, 48 T.C. at 917. 43 Thus, the sale was of land primarily held for sale to a customer in the ordinary course of CCP's trade or business. The gain reported by CCP on the foreclosure of the mortgages is, therefore, taxable to CCP and through it to petitioners as ordinary income. 44286 Decisions will be entered for the respondent. Footnotes1. Cases of the following petitioners are consolidated herewith: Dorothy Cappuccilli, docket Nos. 2097-77 and 2207-77; Grace Cappuccilli, docket No. 2208-77; and Gerald F. and Caroline Paduano, docket Nos. 5255-77, 5801-77.↩2. In his preliminary statement on brief, respondent states that these consolidated cases are also for the redetermination of an overpayment of income tax of the petitioners for 1975 in the following amounts: Grace Cappuccilli, $1,460; Dorothy Cappuccilli, $2,815; and Gerald F. and Caroline Paduano, $1,072.↩3. All section references, unless otherwise indicated, are to the Internal Revenue Code of 1954, as amended and in effect during the taxable years at issue.↩4. ↩Date ofPurchaseExistingInterestFarmPurchasePriceMortgageper annumWalter2/22/61$ 64,065$54,0004 percentCommane10/20/6171,83051,8305 percentGreen10/26/6134,78824,6905-1/2 percentPatterson11/24/6122,40018,6500 percentHiggins1/ 3/62127,00084,0005 percent42,0005 percent (Hunt)5. Cerio was the attorney for CCP, Stonehedge, and Seneca, as well as Peter, Rocco, and Paduano. ↩6. CCP and Stonehedge were both operated out of the same office, as were various other enterprises of the Cappuccillis and Paduano.↩7. No separate contract of sale of the farms to Stonehedge is in evidence.↩8. These figures are not available in the record. ↩9. There is no explanation in the record as to how the mortgage balance went from $1,052,850 on 12/31/71 to $1,010,972 on 1/1/72, only one day later.↩10. It is not clear from the record whether this note bore interest, or at what rate, because the exhibit which the parties stipulated to be the note is, in fact, the mortgage note from Stonehedge to CCP on the Henderson farm. Petitioners' brief indicates the note called for six percent interest, as does the testimony.↩11. The two purchasers, PRG Enterprises, Inc., and the Village Green of Van Buren, Inc., were corporations related to Stonehedge and CCP. The date of March 14, 1972, is stipulated by the parties, although the foreclosure document states that these two entities were conveyed land in deeds dated December 30, 1971.↩12. This includes $250,000 due from two affiliated companies, Stevemark Realty Corp. and Cappy's of Syracuse, Inc., of which $240,324 was written off as uncollectible in 1971. ↩13. Of this amount, $104,000 was due within one year. ↩14. Of this amount, $24,000 was due within one year. ↩15. Stonehedge originally issued at par 180 out of 200 authorized shares of $100 par value common stock. Paduano's shares were purchased by the corporation in 1969 for $9,643.22 and held as treasury stock. It is the net of these figures, $8,357, which is reflected as shareholders' equity in common stock.↩16. For 1973, the financial statement covers only the five-month period ending May 31, whereas the tax return covers the entire year.↩17. The statement of earnings reflects a capital gain of $137,733.16, presumably from the foreclosure, which, under the circumstances, represents no cash receipts. ↩18. Includes $48,634 in interest in respect of the condemnation award and $204,224 reported as long-term gain, the source of which was not identified.↩19. In addition to Peter and Rocco, one Alfred Cappuccilli was also a shareholder and director of CTI.↩20. The interest was allocated in respect of the Stonehedge and Seneca mortgages under section 482 rather than section 483 because the sale to Stonehedge occurred prior to July 1, 1963. With respect to the Seneca mortgage, even if it bore interest at six percent (see footnote 10, supra) such interest was not paid (nor does the record reveal that CCP reported any such interest on its tax returns for the years at issue) and, in any event, petitioners make no separate argument with respect to respondent's use of a five-percent rate in making his allocation. Cf. Liberty Loan Corporation v. United States, 498 F.2d 225">498 F.2d 225, 231-232↩ (8th Cir. 1974). 21. Petitioners concede that if interest is properly allocable to CCP under the circumstances herein, the rate utilized by respondent is appropriate. Respondent has allowed Stonehedge and Seneca additional interest deductions for the years in issue in amounts equal to the interest income which he has allocated to CCP under section 482. Section 1.482-1(d)(2), Income Tax Regs.↩22. Section 1.482-1(a)(3)↩.23. Since the business entities involved herein are Stonehedge and Seneca, on the one hand, and the CCP partnership on the other, we are not required to decide whether we will accept the full import of the reversal of our holding in F. Forman Company v. Commissioner, 453 F.2d 1144">453 F.2d 1144 (2d Cir. 1972), affg. in part and revg. in part 54 T.C. 912">54 T.C. 912↩ (1970). 24. Petitioners' argument that "it should be obvious that Paduano was looking forward to having CCP collect its mortgage obligations, including interest, from Stonehedge and Seneca," is ludicrous. CCP had no enforceable right to collect interest from Stonehedge on its mortgage loan under New York law. New York State Thruway Authority v. Hurd, 25 N.Y.2d 150">25 NY 2d 150, 158, 303 N.Y.S.2d 51">303 N.Y.S. 2d 51, 56 (1969). Moreover, he was well aware that CCP had not been collecting interest from either corporation. Paduano's explained absence from the trial means, at most, that his failure to testify will not be held against petitioners (see Snyder v. Commissioner, T.C. Memo. 1969-173↩), not that they may speculate as to what such testimony might have been.25. See also IDI Management, Inc. v. Commissioner, T.C. Memo. 1977-369↩.26. See Merit Tank and Body, Inc. v. Commissioner, T.C. Memo. 1980-175↩.27. On its balance sheet of December 31, 1970, current assets exceeded current liabilities. The current assets, however, included $250,000 in accounts receivable from related corporations, of which $240,324 was written off as uncollectible in 1971. See footnote 12, supra↩.28. The loans from Merchants Bank aggregated $472,000 at the end of 1971 and $306,000 at the end of 1972.↩29. For aught that appears in the record, this land may well have been held free of encumbrances by Stonehedge so that the full $159,663 proceeds from its sale could have been so available.↩30. The remaining $5,254 ($201,634 less $196,380) allocated for these years involved other entities and need not be considered.↩31. We reach this conclusion on the basis of a "preponderance of the evidence" standard of proof and, therefore, do not reach the question whether, because section 482 is involved, a higher standard of proof, i.e., that respondent's determination was arbitrary, is required of petitioners on the subsidiary issue of reasonable expectancy.↩32. At trial, because of the manner in which the evidence was developed, the Court stated that, in any event, it was not disposed to deal with this issue. ↩33. We note that this argument has an aura of incongruity, since the amount, if any, which Stonehedge would receive beyond the $13,075 excess over what the State had paid in 1969 was highly speculative; the final award of $245,399 was not made until May 16, 1973, well after the close of the last taxable year involved herein. ↩34. See Pitchford's, Inc. v. Commissioner, T.C. Memo 1975-75">T.C. Memo. 1975-75, where respondent conceded solely for the purposes of that case that section 482 should not be applied under such circumstances -- a conclusion which he now characterizes as "inopportune." Section 1.482-1 (b)(1), Income Tax Regs., provides: (b) Scope and purpose. (1) The purpose of section 482 is to place a controlled taxpayer on a tax parity with an uncontrolled taxpayer, by determining according to the standard of an uncontrolled taxpayer, the true taxable income from the property and business of a controlled taxpayer. The interests controlling a group of controlled taxpayers are assumed to have complete power to cause each controlled taxpayer so to conduct its affairs that its transactions and accounting records truly reflect the taxable income from the property and business of each of the controlled taxpayers. If, however, this has not been done, and the taxable incomes are thereby understated, the district director shall intervene, and, by making such distributions, apportionments, or allocations as he may deem necessary of gross income, deductions, credits, or allowances, or of any item or element affecting taxable income, between or among the controlled taxpayers constituting the group, shall determine the true taxable income of each controlled taxpayer. The standard to be applied in every case is that of an uncontrolled taxpayer dealing at arm's length with another uncontrolled taxpayer↩. [Emphasis added.] 35. Respondent's reliance on Hennessey v. Commissioner, T.C. Memo. 1977-122↩, is also misplaced. In that case, we found that Hennessey had a reasonable expectation of collecting interest payments and, therefore, did not have to face this issue. Our passing reference to the fact that the question of reasonable expectation of collectibility is "not entirely distinct from their creation of income argument" is too thin a reed to support respondent's contention.36. The effect of the deficiency notice is to place the burden of proof on the issues raised therein on the petitioners. Many petitioners are able to carry this burden, although the petitioners in Paduano v. Commissioner, T.C. Memo 1975-69">T.C. Memo. 1975-69, affd. mem. 538 F.2d 312">538 F.2d 312 (2d Cir. 1976), cert. denied 425 U.S. 992">425 U.S. 992 (1976), were not. See generally, Llorente v. Commissioner, 74 T.C. (May 13, 1980) (Tannenwald, J↩., concurring).37. If a debt was not created, petitioners may be entitled to a loss. See Tharp v. Commissioner, T.C. Memo. 1972-10. See also Corn Exchange Bank v. United States, 37 F.2d 34">37 F.2d 34, 35 (2d Cir. 1930). Our findings regarding the proper taxable year apply to this issue, as well. Section 1.165-1(d)(1), Income Tax Regs.↩38. Petitioners concede that the amount of said gain is $482,577.↩39. Petitioners do not question that Stonehedge was holding property for sale to customers in the ordinary course of its trade or business.↩40. See and compare Bush v. Commissioner, T.C. Memo. 1977-75, affd. 610 F.2d 426">610 F.2d 426↩ (6th Cir. 1979). 41. While Merchants Bank anticipated repayment from the "buildout," it also required a minimum payment schedule and did not offer this entire package of benefits.↩42. Even with our finding that certain of the properties were not sold to Stonehedge until December 28, 1962 (see footnote 43, infra↩), the sales of the parcels involved herein to Stonehedge by CCP took place within a short period of time after their acquisition by the latter -- the longest period CCP held any such parcel was from February 2, 1961 to December 28, 1962, less than two years. 43. Our ultimate finding of fact as to the date of the sale by CCP to Stonehedge (see p.21, supra↩) has been included solely in the interests of completeness. In light of our conclusion, the holding period of CCP has no effect on the character of the gain therefrom.Moreover, also in the interest of completeness, we note that we have taken into account, in making our finding of fact, certain admissions against interest revealed in the record. 44. See also Bush v. Commissioner, supra↩, footnote 40.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621868/	Samuel Bornstein and Lena Bornstein v. Commissioner.Bornstein v. CommissionerDocket No. 91038.United States Tax CourtT.C. Memo 1963-291; 1963 Tax Ct. Memo LEXIS 55; 22 T.C.M. (CCH) 1489; T.C.M. (RIA) 63291; October 24, 196355 Held, that the principal petitioner is not entitled to a deduction for "prepaid interest" paid to a bank in connection with a tax reduction scheme conceived and engineered by M. Eli Livingstone, involving the purported purchase of United States Treasury Notes with allegedly "borrowed" funds. There was no commercial or economic reality to the transaction, and no bona fide indebtedness between the petitioner and the bank. John M. Doukas, for the petitioners. Robert B. Dugan, for the respondent. PIERCE Memorandum Findings of Fact and Opinion PIERCE, Judge: The respondent determined a deficiency in the income taxes of the petitioners for the taxable calendar year 1958, in the amount of $18,318.38. The only issue for decision56 is whether the husband-petitioner is entitled to a deduction under section 163(a) of the 1954 Code, of $34,143.56, for an amount which he paid to a Chicago bank and which he claims represents interest on indebtedness. Findings of Fact Petitioners Samuel and Lena Bornstein are husband and wife, residing in Brookline, Massachusetts. They filed a joint Federal income tax return for the calendar year 1958 with the district director of internal revenue at Boston. Lena Bornstein is a party in the present case only because she joined in the filing of the joint return. The term "petitioner," in the singular, as used herein will have reference to Samuel Bornstein. Petitioner was, during the taxable year and for many years prior thereto, an executive officer of a corporation known as the North American Packing Corporation, which was engaged in a business of processing and distributing meat and canned meat products, with its principal office in Boston. For a number of years, North American Packing had retained the services of a Boston accounting firm, Coven and Suttenberg, one of the partners in which was a certified public accountant named Lawrence Suttenberg. Suttenberg's firm also57 represented a Boston brokerage house, Livingstone & Company, the owners of which were M. Eli Livingstone and his brother, Samuel. Suttenberg had himself participated in, and had recommended to a number of his firm's clients that they participate in, a tax reduction plan designed by the Livingstones, which had as its central feature an alleged purchase of United States Government bonds, using allegedly borrowed funds on which interest would be prepaid to maturity at the time the funds were borrowed, with the claimed benefits to participants therein of income tax deductions for the prepaid interest and a modest capital gain on disposition of the bonds at maturity. Some time during October 1958, Suttenberg approached petitioner, and related in broad outline the Livingstone plan, and recommended that petitioner participate therein. One or two additional conferences were held between petitioner and Suttenberg, and at the last of these conferences petitioner indicated his willingness to participate in the plan by "purchasing" $400,000 face amount of United States Treasury Notes, at a price below par or face value, with funds "borrowed" from a bank. Suttenberg indicated to petitioner that58 the Livingstones would arrange for a bank to provide the necessary "borrowed" funds, and that they would also draw up all of the necessary instruments and correspondence required to effectuate the plan. Thereafter, on or about October 28, 1958, petitioner entered into a transaction which, in form, involved the steps set forth in the following numbered paragraphs. 1. On October 28, Suttenberg brought to petitioner's office a prepared set of letters and other instruments which petitioner, who had never seen the Livingstones and who had not met or had any dealings with the parties to whom the instruments ran, was to sign in implementation of his participation in the program. All of these had been prepared by M. Eli Livingstone. Among the Livingstone-prepared instruments were two 1 identical documents purporting to be promissory notes, each of which was dated November 5, 1958, was in the principal amount of $182,500, was payable to the order of the South Side Bank & Trust Co. of Chicago, bore interest at the rate of 3.8 percent per annum, and was due and payable on April 1, 1963. Each of said notes, after calling for the deposit of $200,000 face amount of United States Treasury 1 1/2 Percent59 Notes due Paril 1, 1963 (hereinafter called Treasury 1 1/2's), as collateral security, provided in part as follows: Total interest charge is $30,571.78, of which $17,071.78 is paid herewith, and the balance of interest is to be paid by application of coupons on the collateral deposited, which are hereby assigned for this purpose. This is a term loan, and payment may not be accelerated. The undersigned shall not be called upon to furnish additional collateral during the term of this loan. The rate of interest agreed upon is predicated upon the express agreement that the loan will not be prepaid, and that the full dollar amount of interest to maturity will be prepaid, and there shall be no obligation to return the collateral until the maturity date of this note. Petitioner signed the notes and at the same time, he signed two identical letters addressed to the South Side bank, which letters likewise had been prepared by Livingstone, wherein he (petitioner) authorized the sale or assignment of the justmentioned promissory notes and the transfer to the bank's vendee or assignee of the Treasury 1 1/2's mentioned as the collateral security therefor. 60 2. Petitioner drew a check dated October 31, 1958, on his personal account in a Boston bank, payable to the order of the South Side bank, in the amount of $34,143.56, purportedly as a prepayment to maturity (April 1, 1963) of interest (i.e., actually that portion of the interest which would not be covered by the coupons attached to the notes) in the amount of $17,071.78 on each of the above "promissory notes." Petitioner turned over the notes, the letters and the check to Suttenberg who either mailed the same to the South Side bank or took them to the offices of Livingstone & Company, from which place they were mailed to the said bank. 3. Also, on October 28, 1958, M. Eli Livingstone placed an order in petitioner's name with the Boston office of C. F. Childs and Company, a New York and Boston brokerage house specializing in the sale of Government securities, for petitioner to purchase two blocks of Treasury 1 1/2's, due April 1, 1963, each block of such notes to have a par or face value of $200,000. Treasury 1 1/2's were then selling at 91-8/32 (so that each block of $200,000 cost $182,500) plus accrued interest ($288.46 for each block of notes). Livingstone instructed the Childs61 company to deliver said two blocks of notes to the Hanover Bank in New York City on November 5, 1958, for the account of the South Side bank of Chicago. In the course of the same telephone conversation in which Livingstone placed the order for petitioner to purchase $400,000 face amount of Treasury 1 1/2's, he also placed a short sale order with the Childs company, for the Corporate Finance Corporation (more fully described herein-below) to sell to Childs two $200,000-blocks of Treasury 1 1/2's, with delivery likewise to be made at the Hanover Bank on November 5, 1958. The selling price of these notes was 91-6/32 plus accrued interest ($182,375, plus interest of $288.46, on each $200,000-block of notes). 4. Still on October 28, 1958, petitioner signed two more sets of identical letters in the Livingstone-prepared package: One set to the Childs company's New York office instructing it to deliver on November 5 to his account at the South Side bank in Chicago, $400,000 face value Treasury 1 1/2's, against payment by said bank of $365,000; and the second set to the South Side bank to receive from the Childs company $400,000 face value Treasury 1 1/2's, against payment to that company62 of $365,000. All of these letters bore the date of November 5, 1958, although they were signed by petitioner on October 28, 1958. These letters, together with the above-described notes, check, and other letters were turned over by petitioner to the accountant Suttenberg, who either himself mailed them to the appropriate parties, or took them back to Livingstone & Company's office, whence they were mailed. 5. On November 5, 1958, the South Side bank (having received the letters, notes and check from petitioner, whom no official at the bank had ever seen at that time) opened a loan account in the name of the petitioner; and on the same date it drew two cashier's checks payable to the order of the petitioner in the amount of $182,500 each, being the proceeds of the above-mentioned "loans" evidenced by the two "promissory notes" above mentioned. These checks were never sent to the petitioner; rather the bank stamped an endorsement on the reverse side of each, which stated that they were to be credited to the loan account of the petitioner. 6. On the very same date of November 5, 1958, the South Side bank purported to sell petitioner's promissory notes to the Corporate Finance Corporation63 (more particularly described hereinbelow), and to assign to said corporation the collateral security therefor ($400,000 face value, Treasury 1 1/2's). 7. By letter dated November 3, 1958, the South Side bank advised Hanover Bank to receive on November 5, 1958, from the Childs company, Treasury 1 1/2's, in the face amount of $400,000 (these being the notes for which Livingstone had entered a "purchase" order in petitioner's name on October 28, as above mentioned); and after charging the South Side bank's account with the Hanover Bank, the latter bank was ordered to deliver the same notes to the Childs company on the same date for the account of Corporate Finance. (This step would have the effect of satisfying Corporate Finance's obligation to deliver notes to the Childs company, pursuant to Livingstone's above-mentioned October 28 short sale to the Childs company of $400,000 face amount of Treasury 1 1/2's, in the name of Corporate Finance.) 8. By two identical letters, prepared by Livingstone and dated November 5, 1958, Corporate Finance directed the South Side bank to deliver the Treasury 1 1/2's, which the bank was "holding" as "collateral," to the Childs company, at the Hanover64 Bank in New York, against payment to the South Side bank of $182,500 as to each block. The proceeds thus "realized," by the South Side bank were to be applied by it in satisfaction of the price of the notes which Corporate Finance was "purchasing" from the South Side bank. 9. On November 12, 1958, the South Side bank forwarded to Corporate Finance, petitioner's "promissory notes" along with an accounting for the $34,143.56 of "prepaid interest." 2South Side bank retained $1,404.12 of the last-mentioned sum as "interest, service charges and reimbursement of attendant expense of these transactions"; and it deposited the balance of $32,739.44 to the account of Corporate Finance. This last-mentioned account had been opened on Corporate Finance's behalf by Livingstone. 65 10. The "purchase" of petitioner's "promissory notes" from the South Side bank was recorded on the books of Corporate Finance by entries showing a debit in the amount of $365,000 (2 X $182,500) to an asset account "Notes Receivable-Client" and a credit to an accounts payable liability account to the Childs company in the amount of $1,345,937.50, which latter amount represented the total of five notes, including the two of petitioner's acquired by Corporate Finance on November 5, 1958. The foregoing credit entry was made, because the collateral security (Treasury 1 1/2's) was to be delivered to Corporate Finance's account with the Childs company on November 5, 1958. 11. The above-mentioned October 28, 1958, "short sale" of the $400,000 face value Treasury 1 1/2's by Corporate Finance (handled as found above, by Livingstone) was recorded in the sales journal of the corporation by an entry dated October 28, 1958. Said notes were to be delivered to the Childs company on November 5, 1958; and the delivery was to be accomplished by the South Side bank's delivery of the Treasury 1 1/2's (which it purportedly held as collateral to secure petitioner's "promissory notes") to the Childs company, 66 for the account of Corporate Finance. Paragraph numbered 7 above of these findings, reveal that the South Side bank had requested the Hanover Bank to "receive" and then immediately deliver for the account of Corporate Finance the $400,000 Treasury 1 1/2's. The Hanover Bank duly charged the South Side bank's account $365,000 for the said Treasury 1 1/2's; and then immediately made a second entry crediting the account in the same amount (thus clearing it), and debiting (i.e., creating a receivable) Corporate Finance's account. These Treasury 1 1/2's furnished the means of satisfying Corporate Finance's obligation to deliver $400,000 Treasury 1 1/2's to the Childs company which had been short sold to that company on October 28, by Livingstone, acting for and in the name of Corporate Finance. Corporate Finance Corporation was organized in 1956 under the laws of the Commonwealth of Massachusetts; and as of December 31, 1956, it had 200 shares of no par value common stock outstanding, with a stated aggregate value of $1,000. The only asset which it had at that date was an account receivable due from shareholders, in the amount of $1,000, representing their then unpaid subscriptions for67 its capital stock. No other capital was at any time invested in the corporation. As of December 31, 1957, its balance sheet showed the following assets, liabilities, and stockholders' equity: AssetsCash in bank$ 196,369.91Accounts receivable - Customers1,423,744.98Notes receivable - Customers47,479,833.70Prepaid items60.84Total Assets$49,100,009.43LiabilitiesAccounts payable$ 385,599.39Notes & acceptances payable13,000.00Accrued taxes7,623.25Bonds borrowed46,732,805.96Deferred credits - Interest1,948,134.07Total Liabilities$49,087,162.67Stockholders' EquityCapital stock$ 1,000.00Surplus11,846.7612,846.76Total Liabilities and Stock-holders' Equity$49,100,009.43Corporate Finance Corporation owned no securities and no collateral of its own with which to obtain loans. It "financed" the purchase of petitioner's "promissory notes" from the South Side bank by "selling short" to the Childs company, Treasury 1 1/2's equal in amount and denomination to the Treasury 1 1/2's ordered for petitioner by Livingstone - all as above described. Corporate Finance was affiliated with Livingstone68 & Company, which latter company directed clients to Corporate Finance. Most of its cash receipts were disbursed to Livingstone & Company by Corporate Finance. Corporate Finance operated out of the law offices maintained by its president and treasurer, Harry N. Cushing. It had one employee, other than Cushing; it was not listed in the Boston telephone directory; and it did no advertising. Between 1951 and 1958, Cushing was president and treasurer of six other corporations and treasurer of a seventh corporation, each of which corporations was, like Corporate Finance, operated out of his law office and without any tangible assets. Petitioner, on his 1958 return reported adjusted gross income of $69,952.78. Among the itemized deductions on page 2 thereof which were utilized in arriving at taxable income, was one for "interest" paid to the South Side bank of $34,143.56. Respondent, on audit of petitioner's 1958 return, disallowed said interest deduction; and in his statutory notice of deficiency, he explained his action as follows: It has been determined that the claimed deduction on your return for the taxable year ended December 31, 1958 in the amount of $34,143.56 for alleged69 interest paid to the South Side National Bank, Chicago, Illinois does not constitute an allowable deduction under section 163 of the Internal Revenue Code of 1954Ultimate Findings of Fact The purported purchase of United States Treasury Notes and borrowing of funds by petitioner to finance such purchase was a sham transaction without commercial substance. There was no genuine and bona fide indebtedness existing between petitioner and the South Side Bank & Trust Company of Chicago, Illinois. Opinion This case presents the question of the deductibility of "interest" paid on allegedly "borrowed" funds in a transaction concocted and engineered by M. Eli Livingstone, a Boston broker. This and other courts have held that interest deductions claimed by Livingstone's clients were not allowable, on the grounds that the transactions lacked commercial and economic reality, and that no genuine indebtedness existed between the taxpayers and the purported lenders. See Eli D. Goodstein, 30 T.C. 1178">30 T.C. 1178, affd. (C.A. 1) 267 F. 2d 127; Broome v. United States, (Ct. Cls.) 170 F. Supp. 613">170 F. Supp. 613; Sonnabend v. Commissioner, (C.A. 1) 267 F.2d 319">267 F. 2d 319,70 affirming a Memorandum Opinion of this Court; Lynch v. Commissioner, (C.A. 2) 273 F. 2d 867, affirming 31 T.C. 990">31 T.C. 990; Leslie Julian, 31 T.C. 998">31 T.C. 998; Egbert J. Miles, 31 T.C. 1001">31 T.C. 1001; Becker v. Commissioner, (C.A. 2) 277 F. 2d 146, affirming a Memorandum Opinion of this Court; Morris R. De Woskin, 35 T.C. 356">35 T.C. 356; Perry A. Nichols, 37 T.C. 772">37 T.C. 772, affd. (C.A. 5) 314 F. 2d 337; and Rubin v. United States, (C.A. 7) 304 F. 2d 766. We think that the decisions in those cases compel a denial of the claimed interest deduction in the instant case. Of persuasive authority also is the recent decision of the Supreme Court in Knetsch v. United States, 364 U.S. 361">364 U.S. 361, wherein interest deductions were denied in respect of amounts paid to an insurance company by the taxpayer as "interest" on so-called "loans" made to purchase single-premium annuity savings bonds. The instant case does present one slight variation from the pattern in the above Livingstone cases. In each of those cases the "lender" was one of the several corporations formed by Harry Cushing, one of which is Corporate Finance71 Corporation involved in the case at bar. Here, the ostensible "lender" was the South Side bank, but it is plain that the bank was merely a conduit in routing the "notes" and related "interest payments" to Cushing's Corporate Finance Corporation, and that said bank did not lend petitioner any money. A similar situation was present in A. A. Helwig, 37 T.C. 1046">37 T.C. 1046, a Knetsch- type case where a bank had been interposed between the taxpayer and the insurance company. We there said, respecting the presence of the bank in the scheme: It is clear * * that at most the bank lent petitioner the use of its name, not its funds, and that in reality petitioner neither borrowed money from nor paid interest to either the bank or the All Service Life Insurance Corporation. * * The bank's participation herein was merely commercial window dressing * * In substance, the bank made no loans to customers of All Service such as petitioner and risked none of its money. For a small service charge it permitted the use of its name in such transactions and served as a conduit of the so-called interest payments to its depositor, All Service. In these circumstances, the $7,341.20 paid by petitioner72 to the bank * * does not qualify as "interest paid * * * on indebtedness" under section 163* * Those words lescribe the South Side bank's position in the instant case to a tee. The presence of the South Side bank does not furnish a legally significant difference between this and the other Livingstone cases. And, what we said in Perry A. Nichols, supra, effectively disposes of petitioner's contention that this case is distinguishable from the other Livingstone cases because he was not a party to the sham dealings: Even if we accept as true the proposition that petitioners were fooled by Livingstone to the extent indicated, the contested deductions cannot stand. No matter what petitioners' intent may have been upon entering the transaction, the transaction itself remains a sham that cannot give rise to valid interest deductions. What was said by the Court of Appeals for the Second Circuit in Lynch v. Commissioner, supra [273 F. 2d 867] at 872, in answer to a contention by the petitioners therein that they, too, were innocent of "the roundrobin nature" of Livingstone's dealings, is especially pertinent here. Save in those instances where73 the statute itself turns on intent, a matter so real as taxation must depend on objective realities, not on the varying subjective beliefs of individual taxpayers. Cf. MacRae v. Commissioner, supra [294 F. 2d 56] at 59. The "objective realities" here were that petitioners purchased no Treasury notes, borrowed no funds from Corporate Finance, and paid no true interest on indebtedness. Therefore, regardless of what petitioners may have intended or believed or expected, there can be no interest deductions under the statute. The "good faith" of petitioners is irrelevant. Cf. 296 F. 2d 86 (C.A. 5), denying rehearing in 296 F. 2d 90, reversing 175 F. Supp. 208">175 F. Supp. 208 (S.D.Tex.). We decide the case for the respondent. Decision will be entered for the respondent. Footnotes1. As will shortly appear, petitioner's purported "loan" in this case was $365,000, an amount which exceeded the state-imposed limits on loans which could be made at one time to any one borrower by the Livingstone-selected bank, the South Side Bank & Trust Co. of Chicago. The bank accordingly separated the "loan" into two smaller "loans" of $182,500 each, in order to preclude (as it believed) violation of the Illinois loan limits. Hence it was necessary that there be two of most of the letters, documents, and instruments involved in carrying out the plan - one for each purported $182,500 "loan."↩2. This step in the transaction had the effect of reducing the petitioner's "loan account" balance to zero, as is shown in the following transcript of the entries in said account (all entries being dated November 5, 1958): DebitsCreditsBalance$182,500.00 (c)$182,500.00 (a)702.06 (e)16,369.72 (d)182,500.00 (c)182,500.00 (a)702.06 (e)16,369.72 (d)34,143.56 (b)00(a) Proceeds of petitioner's "loan" from South Side bank. (b) Petitioner's check for "interest". (c) Purported distribution on behalf of petitioner. (d) Unearned "interest" distributed to Corporate Finance Corporation. (e) South Side bank's charges for handling the purported loan transactions involving the petitioner.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621870/	Morris A. Stoltzfus and Ruth E. Stoltzfus v. Commissioner. M. A. Stoltzfus, Inc. v. Commissioner.Stoltzfus v. Comm'rDocket Nos. 3827-67 and 3828-67. United States Tax CourtT.C. Memo 1970-337; 1970 Tax Ct. Memo LEXIS 23; 29 T.C.M. (CCH) 1610; T.C.M. (RIA) 70337; December 10, 1970, Filed 23 Morris A. Stoltzfus and corporate petitioner engaged in certain horse-related activities during the years at issue and deducted certain expenses with respect thereto which the Commissioner disallowed on the ground that neither petitioner was engaged in a trade or business in connection with these disallowed items. Respondent also included certain items as additional income to individual petitioners. Held, individual petitioner was not engaged in the business of breeding, raising, and selling American saddle bred horses in 1961 since he lacked requisite profit-making intention. Accordingly, disallowed deductions were proper. However, he was so engaged in 1962. Disallowed amounts were improper. Held, further, petitioner-corporation was not engaged in any profit-motivated business with respect to its horse activities during its fiscal years ended October 31, 1961, and October 31, 1962. Therefore, disallowed deductions were proper. However, redetermination necessary as to additional income to individual petitioners in 1962. Held, further, petitioner-corporation was engaged in saddle horse business during the taxable years ended October 31, 1963, and October 31, 1964, respectively. 24 Disallowed amounts were improper. Howell C. Mette, State Street Bldg., 500 North 3rd St., P.O. Box 727, Harrisburg, Pa., and Charles B. Zwally, for the petitioners. Stephen P. Cadden, for the respondent. IRWINMemorandum Findings of Fact and Opinion IRWIN, Judge: The Commissioner determined deficiencies in the individual petitioners' income taxes as follows: CalendarYearDeficiency1961$ 4,451.55196242,757.21196385,793.92 He also determined deficiencies in the income taxes of petitioner-corporation in the following amounts: FY EndedDeficiency10-31-61$ 3,783.2810-31-623,308.2510-31-6342,430.8110-31-6425,089.01The primary issue 1 for our decision is whether the horse activities25 conducted first by Morris A. Stoltzfus and then allegedly undertaken by M. A. Stoltzfus, Inc., constituted a trade or business entered into for profit, so that the expenses attributable thereto are deductible. In the event that we resolve that issue in the negative, there are a number of subsidiary issues for our determination, all of which relate to the horse venture: Docket No. 3827-67 1. Whether the individual petitioners received additional income of $600 in 1961 as a result of the purchase of a horse cart and harness by petitioner-corporation. 2. Whether the individual petitioners claimed unallowable deductions of $4,951.86 in 1961. 3. Whether the individual petitioners received additional income of $1,881.79 in 1962, as a result of the disallowance of certain deductions claimed by the corporate petitioner. 4. Whether the individual petitioners received $38,900 in 1962 as a result of petitioner-corporation's purchasing five horses. 5. Whether the individual petitioners claimed unallowable deductions of $21,518.86 in 1962, as expenses relating to horse activities. 26 6. Whether claimed investment credits should be disallowed to the individual petitioners to the extent of $338.35 for 1962. 7. Whether the individual petitioners received additional taxable income of $68,833.36 in 1963 growing out of horse expenses paid by M. A. Stoltzfus, Inc. 8. Whether the individual petitioners received additional taxable income of $1,512 and $37,500 in 1963 growing out of tack room improvements made by petitioner-corporation and horses purchased by it. 9. Whether the individual petitioners claimed unallowable deductions for depreciation of $2,307.65 on stable and equipment allegedly 1611 rented by the individual petitioners to M. A. Stoltzfus, Inc. 10. Whether the individual petitioners claimed investment credit of $320.54 for 1963 for depreciable furniture and fixtures for the stable, costing $4,579.20, allegedly acquired for renting said stable to M. A. Stoltzfus, Inc., in its trade or business, should be disallowed. Docket No. 3828-67 11. Whether the following deductions claimed by M. A. Stoltzfus, Inc., the corporate petitioner, relating to saddle horse activities should be disallowed as being assets acquired or expenditures made primarily27 for the personal benefit of the controlling stockholder, Morris A. Stoltzfus: FY EndedAmount10-31-61$ 90.0010-31-626,394.0010-31-6389,919.5010-31-64122,137.0912. Whether the following claimed net operating loss deductions carrybacks by M. A. Stoltzfus, Inc., the corporate petitioner, from fiscal year ended October 31, 1964, should be disallowed, as determined: FY EndedAmount10-31-61$12,610.9210-31-6211,434.1910-31-6358,630.9013. Whether the claimed investment credit by M. A. Stoltzfus, Inc., the corporate petitioner, of $770 and $105.84 for fiscal year ended October 31, 1963, should be disallowed. Findings of Fact The parties have stipulated some facts which, together with the exhibits attached thereto, are incorporated herein by this reference. Petitioners Morris A. Stoltzfus (sometimes hereinafter referred to as petitioner or Stoltzfus) and Ruth E. Stoltzfus (sometimes hereinafter referred to as Ruth), husband and wife who resided in Talmage, Pa., at the time of the filing of the petition herein, timely filed joint Federal income tax returns for the calendar years 1961, 1962 and 1963, respectively, with28 the district director of internal revenue, Philadelphia, Pa. They reported their income for those years on the cash receipts and disbursements method. Petitioners have two daughters, Marianne E. Nordstrom (referred to sometimes as Marianne) and Ruth Louise Jones (sometimes referred to as Ruth Louise). Marianne was born on April 5, 1937, and Ruth Louise on May 14, 1940. M. A. Stoltzfus, Inc. (sometimes referred to as MAS or petitioner-corporation), was incorporated in Pennsylvania on February 6, 1957, and has its principal place of business in Talmage, Pa. MAS, which reported its income on the accrual method, timely filed U.S. corporation income tax returns for the taxable years ended October 31, 1961, through October 31, 1964, respectively, with the district director of internal revenue, Philadelphia, Pa. Petitioner Morris A. Stoltzfus and his father Daniel M. Stoltzfus had operated quarry enterprises for many years. In 1949, this business was incorporated in Pennsylvania under the name D. M. Stoltzfus & Son, Inc. (hereinafter DMS), and was operated by petitioner and his father until the latter's death in February 1956, at which time petitioner continued the management of that29 corporation. From January 1, 1960, until the time of the trial herein, petitioner was the president and primary management executive of DMS, which operates a large limestone quarry in Talmage, Pa., and other quarries in Pennsylvania and Maryland, and is also engaged in the production and sale of crushed stone, aggregates, and related products, and in the paving construction business. Petitioner has also served as president and principal management official of the following corporations which have business related to the quarry business of DMS: 1. Pennsylvania Aggregates, Inc., which is engaged in quarrying and holding quarry reserve land; 2. Becker Company, Inc., which engages in trucking and hauling stone in interstate commerce; 3. M. A. Stoltzfus, Inc., the petitioner-corporation, which is engaged in rock and earth drilling, holding quarry reserve land, and farming, grazing, and breeding cattle thereon; and 4. Lancaster Construction Company, which is engaged in paving construction business. At the time of the trial herein, the estimated sales volume of DMS and these four related companies was five or six million dollars per year. 1612 Petitioner's duties and30 responsibilities with respect to these companies occupy his time six or seven days a week and twelve to fourteen hours a day. The following table indicates data relevant to the capital stock of MAS: StockholderNumber ofDescriptionPar ValueDateSharesof StockPer ShareIssuedMarianne E. Nordstrom100Nonvoting Class A.Common$ 100Nov. 1957Ruth LouiseJones100NonvotingClass A.Common100Nov. 1957Morris A.Stoltzfus50Voting ClassB. Common100Feb. 1957TOTAL CAPITALSTOCK$ 25,000Dividends may be paid to holders of class A common stock without payment of dividends on class B common stock. However, no dividends can be paid to class B common stockholders without payment of an equal or greater amount per share to class A common stockholders. Except for the different voting and dividend rights between the two classes of stock, the rights of the stockholders thereof are identical. During the calendar years 1962 to 1966, the officers of MAS were the following persons: NameOfficeMorris A. StoltzfusPresidentMarianne E. NordstromVice PresidentJohn BeyerSecretaryRuth E. StoltzfusAssistant SecretaryMorris A. StoltzfusTreasurer31 From 1966 to the date of the trial, the officers of petitioner-corporation were: NameOfficeMorris A. StoltzfusPresidentRuth E. StoltzfusVice PresidentJohn BeyerSecretaryMarianne E. NordstromAssistant SecretaryRuth Louise JonesTreasurerMarianne and Ruth Louise actively participated in the business affairs of their father during the years 1960 to 1967. They had full access to all financial records of MAS and were listed as employees by DMS and the other related companies during those years. More particularly, Marianne has been employed by the Stoltzfus companies since the age of 15. Her duties consisted of maintaining trucking records and posting accounts payable and receivable for Becker Company, Inc.; keeping job costs for each job of Lancaster Construction Company; keeping payroll records, assisting in the preparation of quarterly tax returns, keeping paving job costs, preparing checks for salaried truckers, and assisting in the billing and pricing department of DMS; and preparing payroll, posting cash disbursements and preparing checks for MAS. Ruth Louise was first employed on a part-time basis by the corporations managed by her father32 at 16 years of age. Upon graduating from Southern Seminary and Junior College in Virginia in June 1960, Ruth Louise began to work on a full-time basis for the Stoltzfus companies. Her duties varied, but she worked primarily in the credit department where she collected accounts receivable, assisted in preparing payroll and payroll tax reports of DMS and in preparing checks and payroll for MAS. In addition to the aforesaid duties, Ruth Louise also participated in the horse operations in question. From the fall of 1961 until December 1964, she did all the general office work and correspondence with respect thereto, which included obtaining mortality insurance on the horses and registering the horses with different breeders' associations. During the same period, Ruth Louise served as an amateur rider, which required her to practice almost every day riding different horses. The purpose of her riding was to demonstrate to the public at horse shows that an amateur female rider was able to handle such horses, and thereby interest people in buying these horses for themselves or their children. Marianne, however, was not interested in horses because of an experience she had prior to the33 years in question in which a horse she was riding became uncontrollable. Thereafter, she never rode again. On November 6, 1957, petitioner transferred to the newly incorporated MAS his drilling enterprise as well as an interest in a quarry lease. Thereafter, MAS purchased, from time to time, various tracts of real estate to serve as quarry reserve property. In particular, MAS desired a source of shale, which is used to produce a light-weight 1613 aggregate. Speculating that a shale light-weight aggregate might be specified for use in constructing bridge decks for the new Maryland turnpike and aware of the results of certain tests which indicated the presence of shale and limestone deposits in three tracts of farm land in Warwick Township, Lancaster County, Pa., the management of MAS authorized the purchase in 1959 of this land which contained 148 acres and was known as Garmen Farm Number 2. Petitioner-corporation has utilized Garmen Farm Number 2 since its acquisition for raising hogs and cattle, approximately 125 head, and for the production of grain, wheat, barley and corn. From the date of its incorporation until the time of the trial, MAS was restricted by the terms of34 its corporate charter to engage in quarry and related activities. In addition to the aforesaid farming and livestock operation of Garmen Farm Number 2, petitioner supervised, on a part-time basis, the management of two other farm operations: 1. Garmen Farm Number 1 owned by the individual petitioners and used for raising about 125 head of steers and producing corn, wheat and barley; and 2. Bards Crossing Farm, a 94-acre farm with improvements located in Upper Leacock Township, Lancaster County, Pa., which was purchased years ago by Daniel M. and Lydia Z. Stoltzfus, the parents of petitioner, and was leased to him by his mother for the purpose of raising steers after his father died in 1956. The cattle operations of MAS produced the following financial results during the years indicated: Year EndedYear EndedOctober 31, 1960October 31, 1961Sale of Cattle$ 31,579.59$ 27,877.96Cost of Cattle20,978.3018,765.30Net Gain$ 10,601.29$ 9,112.66Respondent's agent, Thomas A. Gannon, conducted an audit examination of both petitioner and MAS. It has been stipulated that the agent, if called upon to testify, would do so as set forth in his "Report35 of Audit Examination" dated March 16, 1965, which was introduced into evidence. In his audit report, he concluded that the losses incurred from the farm and cattle operations of the individual petitioner and of MAS could not be successfully challenged. He enumerated four factors underlying his conclusion. They were: (1) there is substantial income derived from the farm; (2) there is a full-time employee supervising the farm; (3) Stoltzfus does not reside on the farm; and (4) there was no indication that petitioner is "personally interested" in steers or hogs. Petitioner has been interested in and engaged in farming and breeding livestock practically all of his life. In fact, he was born and reared on a farm which his father owned and operated. In addition to his interest in and activities with regard to farming and livestock petitioner has always been interested in horses because of his family background. His father and grandfather were both reputed and successful horse dealers in Lancaster County, Pa. Moreover, in the formative years of his father's quarry business, at a time when power driven vehicles were not widely utilized, petitioner handled and drove the horses which36 were used to pull cart loads of rock at quarry sites. Prior to July 1955, petitioner had, on occasion, ridden horses for pleasure. However, he suffered two serious heart attacks at that time, and upon the advice of his doctor, he has not ridden since. During the period 1957 to 1961, petitioner purchased the following six horses, used primarily for pleasure by his daughters: Name of TupeDateVendorPriceDisposi-HorseAcquiredtionDinaPleasureHorseSpring1957John Glick$ 150.00Gift toGeorgeMiller1957Flaxie SisQuarter Horse -Mare1957600.00Sold - April 1962MontagueQuarterHorse -Stallion1958 Karsos1,500.00Sold - PalaminoFall 1061UnnamedAppaloosa-Stallion4-18-57FrankGroff540.15Sold - April 1962UnnamedAppaloosa-Mare6-5-61PublicSale962.00Sold -April 1962DixieTennesseeWalkingHorse1959 HermanShore250.00Died 1959in auto-mobileaccident 1614 At the time he purchased the quarter horses and the appaloosas, petitioner was considering breeding them. However, he concluded that there was no market for such horses in Lancaster County, Pa., and so he decided not to do so. 37 He disposed of the last of these horses at a public auction in April 1962. Petitioner first became interested in American saddle bred horses (sometimes referred to as saddle horses) sometime in 1961. O. Wendell Jones, Sr., now deceased, (hereinafter referred to as Jones) was an American saddle bred horse trainer, originally from Kentucky, who operated a stable in York County, Pa., during 1961. Jones had an excellent reputation at that time as a trainer of, and person knowledgeable with regard to, American saddle bred horses. In fact, he was generally considered one of the top men in this field in the eastern part of the United States. Petitioner had become acquainted with Jones sometime prior to that year. At various times during 1961, petitioner discussed at length with Jones his interest in American saddle bred horses, and he expressed to him that he was considering investing in this type horse. Jones advised him that a considerable amount of money could be made from the breeding, raising and sale of saddle horses. Petitioner's daughter, Ruth Louise, was present at some of these discussions and remembered conversations with respect to her father's starting a breeding operation38 of saddle horses. On August 14, 1961, upon the advice of Jones, petitioner purchased for $1,248 his first show horse, a standardbred brood mare named Silkness. Shortly thereafter, on September 5, 1961, petitioner purchased for $3,500 another show horse, this time a saddle bred gelding named Royal Mantle. Both horses were boarded at Jones' stable in York, Pa. Ruth Louise, petitioner's daughter, rode Royal Mantle in various horse shows. She also showed Silkness a few times, but Jones, who was hired by petitioner to train and prepare Royal Mantle for show purposes, also rode Silkness in shows. At the time of the purchase of these two horses, petitioner had not definitely decided to embark upon any saddle bred horse operation. In fact, he did not even consult his wife, Ruth, with respect to his purchase of Silkness because he was aware that she did not like horses and did not approve of shows on Sundays due to religious convictions. Furthermore, one of her most serious objections to her husband's purchase of saddle horses was that he had suffered two heart attacks and she did not want him to become involved in breeding and raising horses since it would be an added burden to him. 39 Despite Ruth's dislike of horses, petitioner discussed with her and their daughters, in particular Ruth Louise, the possibility of undertaking horse breeding activities. Petitioner had considered breeding standardbreds or road horses, rather than saddle horses, but Ruth Louise advised him that there was a better market for saddle bred horses. In addition to discussions with his family and Jones, petitioner investigated further into the possibility of breeding saddle horses. In this regard, he made trips to Kentucky and other parts of the country during 1961 and 1962. Sometime in 1961, petitioner visited Castleton Farms, Lexington, Ky., a successful American saddle bred horse operation which produces saddle horses for show purposes and horses for racing purposes. Dodge Stables, a division thereof, breeds saddle horses and has been doing so for approximately 20 years. Petitioner, accompanied by Jones, spoke with the owner of the farm, Mrs. Dodge, and with Earl Teater (hereinafter Teater), the manager-trainer. He toured the farm and 1615 facilities there and discussed with Teater the feasibility of commencing a saddle bred horse operation in Lancaster County, Pa. Teater, a respected40 and well-known trainer, felt that such an operation was advisable because he predicted an increase in the sale of saddle horses over the course of the subsequent five or ten years. During 1961 and 1962, petitioner and Jones attended the Tattersall Sales, a wellknown public auction sale for saddle horses in Lexington, Ky., held in the spring and fall of each year. These sales are attended by persons interested and occupied in the saddle horse business. Petitioner did not attend the sales for the purpose of purchasing horses, but rather to meet people interested in purchasing saddle horses and to study the types and quality of horse sold and the prices thereof. While at one of these auctions in 1961 or 1962, Jones introduced petitioner to James B. Robertson (sometimes hereinafter referred to as Robertson), a professional horse breeder, trainer, and operator of a horse farm located near Lexington, Ky. Robertson, who was then interested in buying quality saddle bred horses for certain of his clients, was under the impression at the time of their meeting that petitioner was going to start a saddle horse operation. In addition to the aforesaid trips, late in 1961 or early 1962, petitioner, 41 once again accompanied by Jones, also visited the horse farm owned and operated by George W. Gwinn (sometimes hereinafter referred to as Gwinn) in Danville, Ky. Gwinn spent a little over half a day with petitioner and Jones, showing them his farm and breeding facilities and discussing with them the prospect of petitioner's embarking upon the saddle bred horse business. Gwinn advised petitioner to be careful in the selection of horses and to buy quality stock. Stoltzfus also visited other saddle horse farms in 1961 and 1962, viz., Bill Mountjoy's farm in Lawrenceburg, Ky., and Frank and Garland Bradshaw's farm in Danville, Ky. In November 1961, petitioner, accompanied by his wife, his daughter, Ruth Louise, and Jones, visited Emerald Farms in Delaware, Ohio, where he purchased a fine harness saddle horse named Uptown. While there, petitioner spoke with E. A. Knowlton, owner of Emerald Farms, with respect to his breeding farm and he also made an extensive visual inspection of the stables and other related facilities there. On his return from Emerald Farms, Stoltzfus began to formulate plans for the construction of a stable. Preparation of final plans for the construction of a stable42 and related breeding facilities occupied considerable time. Petitioner prepared a rough design for the facilities in November 1961, and in 1962, he directed H. M. Stauffer & Son, construction and building suppliers, to prepare final construction drawings and specifications based upon his rough design. Petitioner was desirous of acquiring Bard's Crossing Farm for the purpose of constructing his breeding facilities thereon. Bard's Crossing Farm had been used by petitioner for the raising and fattening of steers since leasing it from his mother in 1956. Neither Stoltzfus, his parents, nor any members of his family had even lived there; nor had the farm ever been used for other than business purposes. This land contains limestone deposits, but the built-up nature of the surrounding area made it a less likely place for a quarry operation. Petitioner planted the Bard's Crossing pastureland with Kentucky "blue grass," which thrives in limestone soil and is reputed to be good for raising horses and other livestock. Petitioner discussed the proposed acquisition of this land with his mother, and on October 20, 1962, she made a gift of Bard's Crossing Farm to him. Thereafter, late in43 1962, construction was commenced. In the spring of 1963, the stable and other related buildings were completed at a cost of $90,922.84. There was no opening celebration upon completion of the stable at Bard's Crossing Farm in April 1963. The horses owned by petitioner or MAS were moved there shortly thereafter. Shortly before the new stable was opened, a name was adopted for the saddle horse venture, viz., Greystone Manor Stables, division of M. A. Stoltzfus, Inc. The aforesaid horse stable and related facilities were leased by Stoltzfus to MAS at an annual rental of $12,000 during the taxable years ended October 31, 1963, and October 31, 1964, 2 respectively. As finally constructed, the stable is a long, narrow building, two stories high. 1616 The first floor has a long corridor through the center of the building with stalls on each side of the corridor. A large portion of the second floor is used as a hay loft to store44 straw and hay; the smaller portion thereof is a lounge. Attached to one end of the stable is another large building, which is the indoor working arena. Petitioner incorporated a number of laborsaving devices into his plan of the stable. Each stall has a small opening from the second floor hay loft, which is a hay chute, through which straw is dropped directly into each stall. There is also a conveyor system underneath the stables for use in cleaning them. The refuse is dropped through an opening in each stall to the conveyor belt and is thereby transported to the back of the building. The lounge on the second floor of the stable has a large picture window overlooking an outside work ring, located immediately behind it. The lounge was designed for the convenience of prospective purchasers and their wives so that they may step inside to use the rest room or to warm themselves while still being able to watch the horses being worked in the ring. The lounge is also used by the manager as an office and as a place for filing records. With the exception of two occasions upon each of which petitioner gave a dinner for Cardiacs Unlimited, a club composed of men who have suffered heart45 attacks and of which petitioner is a member, the lounge has not been used by him or any member of his family for pleasure or any social events. The lower level of the stable also has a trophy room, which is shown to prospective customers, and a washroom, which is used to wash the horses' blankets and bandages. In view of the fact that saddle horses must be worked regularly on a daily basis, an indoor arena was constructed in which the horses may be worked if weather conditions do not permit use of the outdoor work arena. In addition to the above features, petitioner had a pond built near the stable and other related buildings for fire protection. In 1962, one of the existing barns on Bard's Crossing Farm was converted by petitioner into a brood mare barn. However, as of the time of the trial herein, there had been no substantial changes to the farm since completion of the main stable in 1963 and the conversion of existing buildings to accommodate the horse operation. A few trees have been planted since then and an existing corn barn was converted into a breeding barn for the sake of privacy. Prior to the conversion of the corn barn, breeding took place behind the brood mare46 barn. The exact date of this conversion is uncertain, but it appears to have occurred sometime shortly after the last of the years at issue. It was after his visit to Emerald Farms in November 1961, that petitioner decided he wanted to acquire American saddle bred horses and undertake a saddle horse operation. In pursuance of this desire, Stoltzfus instructed Jones to procure for him a good blood line of brood mares for breeding purposes. On March 5, 1962, Jones succeeded in acquiring for petitioner for $400 a brood mare with good blood lines named Sensation's Last Love. This horse was purchased at such a low price because she was crippled and could no longer be shown. Sensation's Last Love was brought to the Jones stable in York immediately after she was purchased because petitioner at that time did not have a stable. Several days thereafter, she was sent to Robin Hill Farm in New Jersey to be bred. Sensation's Last Love died while delivering a colt on May 14, 1964. Insurance proceeds of $3,000 were received on account of the death of this mare by MAS, which had insured her. Stoltzfus no longer saw a need to retain his quarter and appaloosa horses and on April 9, 1962, 3 a47 dispersal sale of them was held. In the same month, Jones 4 was employed on a full-time basis as manager of petitioner's saddle horse operation and as a trainer. The basis of Jones' compensation was salary plus a 10 percent commission on horses sold. Even prior to April 1962, Jones received a commission for selling horses for Stoltzfus. As part of his duties, Jones was also instructed by petitioner to look for quality 1617 untrained saddle horses which could be trained and developed for sale. Jones advised petitioner to purchase a good stake horse, that is, a top finished 5 show horse which could compete for the top stake prizes at major horse shows. 48 In addition to Sensation's Last Love, petitioner purchased the following horses during 1962: NameDateType CostDisposi-Date ofProceedsAcquiredtionDisposi-tionChoice4-6-62Untrain-ed$ 8,000On Hand----Command-erGelding6New Look4-6-62Untrain-ed3,500Sold2-5-65$ 25,000GeldingShining4-6-62Untrain-ed3,500SoldMay 1964575 Command-erGeldingLady Viola6-2-62BroodMare1,200SoldOct. 1964300 Petitioner decided to have MAS conduct the saddle horse activities. The exact date is not clear, but it appears that Stoltzfus made this decision sometime during the last seven months of 1962. His decision was based upon his concern over his heart condition and his desire to have49 the saddle horse operation continue in the event of his death. Stoltzfus consulted the accounting firm of Hatter, Harris and Beittel of Lancaster, Pa., as to the manner of effectuating the transfer. The accountants advised petitioner to make January 1, 1963, the effective date of the transfer of the assets relating to the saddle horse operation to MAS. The following journal entries were made on the books of petitioner-corporation as of January 1, 1963, to reflect the transfer of the following assets at cost basis from the individual petitioner to MAS: AccountAssetCost BasisNumber28Machinery and Equipment$ 1,923.2229Autos and Trucks11,451.4430Horses39,348.0028RReserve for Deprecia-tion Macinary and Equipment$ 441.4829RReserve for Deprecia-tion Autos and Trucks2,290.2930RReserve for Deprecia-tion Horses4,242.20Morris A. Stoltzfus745,748.69To record horses, vanand equipment trans-ferred to corporationby Morris A. StoltzfusNo notes or other evidence of indebtedness with respect to this transfer of assets were presented at trial. Although the effective50 date of the transfer was recorded as January 1, 1963, the journal entry itself was not made by the accountants until some time subsequent to that date, apparently in May or June 1963. Proper books of account were at all times maintained by petitioner-corporation with respect to the horse operation. Subsequent to his decision in 1962 to transfer the saddle horse venture to petitioner-corporation, petitioner did not purchase any saddle horses for his own personal account. However, MAS, the corporate petitioner, did purchase and owned the following saddle horses during 1962: 1618 Date ofDateDispo-Dispo-NameAcquiredTypeCostsitionsitionProceedsHayfieldConquer-or7-18-62Finished$ 25,000SoldOct.$ 2,2001964ChiefGrey-stone7-27-62StudColt3,500On HandLadyEsther88-20-62Stand-ardbredBrood400Sold7-31-659 500(Madela-tion)MareBelle ofGrand-view11-2-62BroodMare7,500Died7-30-646,000Princeof Knight12-8-62Unfinis-hed Gelding2,500Sold10-31-664,00051 Hayfield's Conqueror was the only finished horse purchased by Stoltzfus or MAS during 1962. The management of MAS did not wish to purchase finished horses, but agreed to do so because of Jones who insisted that it was necessary to acquire a stake horse, that is, a finished gaited horse to compete in top stakes at major horse shows. At the time of the purchase of Hayfield's Conqueror in July 1962, Stoltzfus also owned another finished gaited horse named Royal Mantle. However, Jones did not consider this horse good enough for stake competition, and MAS agreed to acquire Hayfield's Conqueror in order to placate Jones. Chief of Greystone (hereinafter sometimes referred to as Chief) was three weeks old when purchased by MAS from Castleton Farms. The colt was selected by petitioner who was impressed by the physical characteristics and blood lines of the stud colt. Chief was sired out of Carol Trigg by Wing Commander, a horse reputed to be the "Nation's Sire" at that time. Because Wing Commander sired Chief at the age of 22, petitioner realized that he would not sire many more colts and this contributed to his decision to buy Chief, who could be used for stud purposes by MAS. Before retiring52 Wing Commander from servicing outside mares, Castleton Farms charged $1,000 per stud service for him. 10Chief was acquired by MAS to be trained and developed into a superior show horse. It was anticipated that once he obtained a reputation for himself and for Greystone Manor Stables, division of MAS, Chief could then be used for breeding purposes. Following the purchase of Chief, he was boarded at Dodge Stables until the spring of 1963, at which time the stable at Bard's Crossing Farm was completed. During this period, Castleton Farms attempted to repurchase Chief for triple his purchase price. The management of petitioner-corporation, in particular petitioner, did not want to show Chief but preferred to start breeding him at the earliest possible time. Due to the urging of Charles E. Crabtree, Jr. (hereinafter referred to as Crabtree), who took over as manage-trainer of the saddle horse operation on March 1, 1965, the management of MAS agreed to allow Chief to be shown and thereby establish his value. However, from the time of Chief's purchase, the management of MAS intended53 to use him for breeding purposes. Stoltzfus had wanted Crabtree to breed mares to Chief when he was first being shown, but this was not feasible because very few horses can perform stud services and be shown at the same time. Chief developed into a superior show horse, due primarily to the efforts of Crabtree. During his short career as a show horse, Chief won three "World Championships." 11 Winning the "World Championship" increases a horse's value more than winning at any other show. Chief won 15 other major show prizes during the years 1964 through 1967. Chief's reputation as a champion had been sufficiently established and he was removed from show competition following the 1967 show season so that he could be utilized for breeding purposes. When removed from competition, Chief was five years old, a comparatively young age to remove a horse from show competition. However, his 1619 temperament was such that he could not be trained for show purposes and used for stud service simultaneously. When he was retired from the show ring, Chief had not realized his full potential54 as a show horse. If he had not been retired, there was no reason not to expect continued success from him in horse shows. Since the 1967 season, Chief of Greystone has been used for stud services only. At the time of the trial herein, the stud charge was $400 per service. This is a relatively low price, but was set in order to encourage owners of outside mares to use Chief and thereby get his colts in the market. During 1968, MAS bred 20 of its own brood mares to Chief and 30 outside mares. It would have taken a number of years to draw that many outside mares had Chief never established his reputation in shows. As Chief's colts are proven to be good horses, the fee for his stud service will be increased. Eighty stud services per year is considered to be average for a saddle horse stallion. At the time of the trial herein, Chief was acknowledged to be the best son of Wing Commander. In fact, he defeated in show competition the horse which Castelton Farms, owner of Wing Commander, selected to replace Wing Commander. The fact that Castleton Farms no longer breeds outside mares to Wing Commander enhances the value of Chief since it is up to his sons to sire champion colts. Petitioner-corporation55 has received several offers to purchase Chief, one of which was for $85,000. MAS did not accept any offers since it was felt that Chief was more valuable providing stud services. As of December 31, 1968, Crabtree placed a valuation of $100,000 on Chief of Greystone. George Gwinn of Danville, Ky., has been engaged in breeding, developing, buying, and selling horses since 1924. This is his sole source of income. His business is known as Gwinn Island Stock Farm, which consists of 400 acres with approximately 200 head of horses, including brood mares, colts, and horses in training. At the time of the trial, Gwinn was a member of the American Saddle Horse Breeders' Association and the American Horse Show Association. He was at that time a senior recognized judge in the American Horse Show Association and has judged horse shows throughout the country, including the "World Championship" at the Kentucky State Fair in Louisville, Ky., and the Junior League Horse Show of Lexington, Ky., which is the largest outdoor horse show in the American Horse Show Association. Gwinn has sold horses to almost everyone in the saddle horse business. In Gwinn's opinion, Chief of Greystone was undervalued56 by Crabtree. Gwinn estimated his value at $125,000 to $150,000, and further stated that it would be a mistake for MAS to sell Chief because he is very valuable to its saddle horse breeding operation. James B. Robertson is a professional horse man who managed several saddle horse operations prior to starting his own stable in approximately 1954, which is called the Jim B. Robertson Farm and the Winganeek Farm. He is a member of the American Saddle Horse Breeders' Association and the American Horse Show Association. His sole source of income is the saddle horse business and his principal source of income in that field is from the sale of horses. Robertson estimated that Chief could earn approximately $15,000 per year in stud fees and $250,000 over a fiveyear period starting in 1969 from the sale of his colts. In addition to the aforementioned horses purchased by petitioner or by MAS during 1961 and 1962, the following additional saddle horses were acquired and owned by MAS during 1963: 1620 NameDateTypeCostDisposi-Date ofProceedsAcquiredtionDisposi-tionLady4-9-63BroodTalmageMare$ 15,000On handWings4-19-63BroodMare8,000On handDelightVain Model4-19-63BroodMare8,000On handKnights4-19-63Unfinis-hed4,000DiedInsuredOct. 1965$ 2,500CrusaderGeldingGrey-stone's7-19-63Unfinis-hed2,000On handAdmira-tionFilly 12Sunshine7-19-63BroodMare2,500On handGeniusLadyClear8-1-63Stud5,000Sold7-3-6828,500CommandDream9-3-63BroodMare 10,000Sold7-19-6612,500SequenceBit OChoice9-30-63BroodMare3,500Sold2.27-68200Anacoho11-14-63Finished14,500Sold196822,500Chief-tain57 The first four horses listed on the above chart were purchased while Stoltzfus was visiting the Tattersall Sales. At this auction, he became acquainted with certain horse owners and it was from these men that the horses were purchased. Stoltzfus had not intended to buy any horses while on this trip to the Tattersall Sales, and consequently did not bring with him any checks of MAS. However, when the opportunity presented itself to purchase these four horses, he used his own personal checks to cover the purchase price. However, Stoltzfus intended to buy the horses for petitioner-corporation, and upon his return from Kentucky, he transferred these horses to MAS and instructed the bookkeepers of MAS to record said horses on the corporation books and to set up an account payable to him for the money he expended therefor. No notes or other evidence of indebtedness with respect thereto were introduced at trial. During 1963, Stoltzfus personally expended certain sums for certain show horse expenses. These expenditures which were recorded on the books of MAS as expenses of that corporation were: Nature of ExpenseAmountBreeding$ 166.00Utilities61.21 Show Expenses566.14 Feed and Straw559.03 Boarding1,875.00Veterinary150.50 Stable Supplies1,198.17Advertising122.02 Groom153.00 Total$ 4,851.0758 The following journal entries were made on the books of petitioner-corporation during the year ended October 31, 1963, in order to reflect expenditures made by Stoltzfus for the purchase of the four aforesaid horses and these other show horse expenses: NumberAccount30Horses purchased$ 35,000106Horse expense4,851.0711Morris A. Stoltzfus13 $ 39,851.07To reflect expedituresby Morris A. StoltzfusDuring 1964, the following saddle horses were purchased and owned by MAS: 1621 NameDateTypeCostDisposi-Date ofProceedsAcquiredtionDisposi-tionEnsign's9-19-64BroodMare$ 750DiedInsured8-8-68$ 2,500HeavenlyGloryWilmaStone-wall7-13-64BroodMare3,500On HandMount joy'sTopTalent7-13-64Mare3,500Sold8-30-6812,500Major'sPrincess7-13-64BroodMare14On Hand1459 In addition to the horses purchased during the years at issue, MAS has acquired approximately 43 saddle horses over the period from November 1, 1964, to June 1968, at a cost of approximately $215,000. As of May 1968, MAS had the following saddle horses on hand: 30 brood mares; 8 studs, 5 of which were in breeding; 4 geldings in training; 6 two-year-old mares in training; and 9 yearlings. The breeding activities during the years at issue produced the following six foals: Year ofNameDamDispositionBirth 151963King AndersSilknessSold1964Bard of CornwallSensation's LastLoveSoldLimestone MajorMajor's PrincessSoldUnnamedLady Ester(Medelation)Sold1965General HarperEnsign's Heaven-ly GlorySoldUnnamed (Stallion)Wilma StonewallSoldThe saddle horse breeding operations of MAS have produced approximately 61 foals in the years 1965 through 1968. All of the 1968 foals were on hand in January 1969; 27 of the foals produced from breeding activities subsequent to the years at issue were sold or traded primarily for brood mares. All cash proceeds from the sale of the60 foals were paid to petitioner-corporation, and in instances where they were traded for brood mares, MAS acquired title to these mares. Moreover, death benefits, which were payable under the mortality horse insurance policies taken out by MAS on October 8, 1963, and October 8, 1964, on all the horses on hand on those dates, were paid to petitioner-corporation. In particular, insurance proceeds were received by MAS on the death of Sensation's Last Love, one of the horses originally purchased by Stoltzfus and transferred to MAS as of January 1, 1963. Petitioner-corporation continued to insure the horses it owned subsequent to the years involved herein. During the years 1961 to 1964, inclusive, accountants prepared and filed Pennsylvania state tax returns for MAS, as a result of which filing petitioner-corporation paid capital stock tax, which is in effect a property tax, upon saddle horses transferred to it by Stoltzfus and those otherwise acquired by it. By way of background to the saddle horse industry, the American Saddle Horse Breeders' Association referred to previously is a registry association for American bred saddle horses. It is a stock company, its stockholders consisting61 of horse owners and breeders. Its purposes are to maintain breeding records, register transfers, and register offspring of saddle horses in order to have and keep records of blood lines. This association is not a governmental agency and is not in any way connected with any state or local government. Its objective is not to record ownership of horses, but to maintain records of the pedigrees. Whenever there is a transfer of a saddle horse registered with this organization, the seller or transferor marks the transfer on the back of the certificate of registration and then sends the certificate to the association's office, which records the transfer and sends the certificate to the 1622 buyer or transferee. Errors in registration of owners' names are common, and this is particularly true where the owner is a corporation with a name similar to the name of the individual managing the corporation. All, except nine, of the horses purchased by petitioner-corporation during the years at issue were properly registered with this association, and the certificates indicated MAS as owner. One of these nine, Hayfield's Conqueror, was registered to H. G. Whittenberg, the owner prior to MAS. 62 Debbie Denmark was registered to Greystone Manor Farms, while the remaining seven were registered in the name of Morris A. Stoltzfus. However, one of these seven, Lady Talmage, was registered in the name of Morris A. Stoltzfus, Inc., with another association called the American Horse Show Association. Since, on all horse purchases by MAS, the sellers were instructed to register the horses to Greystone Manor Stables, division of Morris A. Stoltzfus, Inc., these improper registrations were erroneous. Moreover, it is not customary in the saddle horse industry to treat American Saddle Horse Breeders' Association registration certificates as title certificates. In fact, with respect to nonbreeding stock, viz., geldings, it is not unusual to transfer them without delivery of registration certificates. There is a large market for American saddle bred horses in the United States, and the majority of persons who purchase such horses acquire them for show purposes. Those who invest in saddle bred horses for pleasure or as a hobby generally buy horses that are already trained, finished, and ready for show. It is possible to develop a profitable business venture from raising, breeding, and63 selling American saddle bred horses. In fact, there are many large, profitable saddle horse businesses as well as many individual transactions in saddle horses which result in substantial profit to sellers. It is not unusual to experience losses during the formative years of a saddle horse business. It is estimated to take approximately five to ten years to develop a financially successful saddle horse breeding business. Several years of development are required in order to build a reputation and to produce and develop stock for sale. Colts must not only be produced, but must be started in training in order to show their potential, before it is profitable to sell them. However, once a saddle horse business becomes well established and establishes the reputation of its breeding stock and colts, it will be able to sell profitable yearling colts without any training. George Gwinn, James B. Robertson, and Charles E. Crabtree are all experienced in the saddle horse business and are in substantial agreement as to the appropriate steps that an investor should take in order to start and build a profitable saddle horse business. The following steps were suggested: (a) The investor should64 employ the services of a person knowledgeable about saddle horses and with a good reputation in the industry for the training and handling of saddle horses. (b) The investor should provide adequate facilities, including a stable to house the horses, indoor and outdoor exercise areas for training and showing horses to customers, and pasture land for grazing. There should also be separate barn or stable facilities for housing the operation's brood mares. (c) The investor should acquire the highest quality stock available of the following types: (1) quality breeding stock (studs and brood mares) with good blood lines and a record of success in show competition; (2) quality young unfinished horses to train, show and sell; and (3) some finished horses to show for the purpose of putting the business' name before the saddle horse purchasing public and to establish the business' reputation. Geldings are the preferred type in the industry for the latter two categories, since they are the easiest and most popular type of saddle horse to train, show and sell. It is considered very important for an investor to show horses competitively in order to develop a financially successful saddle65 horse business. Gwinn, Robertson, and Crabtree are all acquainted with most of the saddle horses purchased by petitioner and MAS during the years at issue, and they agree that they consisted of quality stock of the types necessary to develop a financially successful saddle horse business. The quality of the stock is apparent because the saddle horses have earned prizes at horse shows throughout the country. Despite the quality horses which were available during the years in question, improper handling and mismanagement of the horses led to a series of unfortunate occurrences 1623 and hampered the development of the horse operation. The gelding Uptown was shown for approximately two years, when the horse was foundered by improper handling. Attempts to rehabilitate the horse failed and in 1966, Uptown was donated to the University of Pennsylvania Hospital. Sensation's Last Love was the first mare acquired by Morris A. Stoltzfus. She died on May 14, 1964, while having a colt. Insurance proceeds of $3,000 were received by MAS which had insured her. The gelding Shining Commander was untrainable, and was sold in 1964. After repeated unsuccessful attempts to breed Lady Viola, 66 the horse was sold as barren. Hayfield's Conqueror foundered during a horse show in 1962, as a result of poor handling and was finally sold. The mare Belle of Grandview died July 30, 1964, while carrying a colt. Insurance proceeds were paid to MAS upon the death of this horse. The gelding, Prince of Knight, was traded for two mares with an aggregate value of $4,000. The mare Wings Delight foundered as a result of improper handling at a horse show in 1963. The horse has been retained as a brood mare. The gelding Knights Crusader developed into a good show horse, but died suddenly in October 1965. Insurance proceeds were received by MAS on account of its death. The mare Dream Sequence broke down and was unable to take part in horse shows as a result of being driven too hard. Therefore, she was sold. The mare Bit O Choice could not carry colts and aborted each time. She was sold in 1968. Because of the aforementioned misfortunes, Stoltzfus became dissatisfied during 1963 with Jones as manager and trainer of the horse operation. Jones' drinking habits interfered with his work, and several injuries to horses were attributable thereto. Jones was given a leave of absence in67 1963, but, upon his return, it became evident that his performance was unsatisfactory and he was dismissed from his position in December 1963. One of Jones' sons, Wendell C. Jones was then retained as manager-trainer, but his work was also unsatisfactory, and this led to his dismissal in December 1964. During 1964, the general condition of the saddle horses on hand deteriorated due to Wendell C. Jones' mismanagement. Stoltzfus was also dissatisfied with the work of Jones and his son because they did not properly implement a breeding program. They had represented to petitioner that they were knowledgeable in breeding saddle horses, but Stoltzfus finally discerned that neither one was knowledgeable in crossbreeding procedures. Charles E. Crabtree was first contacted in 1963 by R. H. Brown, an emissary for Stoltzfus who wanted to ascertain whether Crabtree was interested in working for Greystone Manor Stables. Crabtree declined the offer. Crabtree was again contacted shortly after Christmas in 1964 as to the possibility of working for MAS as managertrainer of the horse activities. During these discussions, Crabtree attempted to ascertain whether petitioner was interested in saddle68 horses for pleasure or just as a "passing fancy." Having become convinced that Stoltzfus was interested in saddle horses as a business, Crabtree accepted the offer. As of March 1, 1965, the date he began to work for MAS, Crabtree found the saddle horses to be in a "sorry condition," and he could not recommend any of them as to their soundness. They were whip-shy and in a state of frenzy. Approximately eight of them were foundered at that time. However, since Crabtree became manager, only one horse out of approximately 100 horses that he has handled for petitioner-corporation has become foundered. There were very favorable results from the other horses purchased during the years at issue. Choice Commander, who developed slowly, was not gaited 16 until Crabtree became manager of the MAS saddle horse operation. He was up for sale at the time of the trial and was valued by the management of petitioner-corporation at $25,000. New Look was trained, gaited and shown, and finally sold in 1965 for $25,000 by MAS. Silkness, a standardbred mare, was bred in 1962 and delivered a foal, King69 Anders in 1963, which was subsequently sold. Lady Esther, also a standardbred mare, was bred in 1963 and delivered a foal in 1624 1964. However, management of MAS determined not to raise and train standardbreds in addition to saddle horses because there was not enough of a market for them to justify the additional costs involved. Therefore, she was sold, along with two standardbred colts in 1965. Lady Talmadge was acquired to be shown and used for breeding. She was bred in 1965 and delivered a foal in 1966. The foal died a short time thereafter. Lady Talmadge was being used by MAS as a brood mare at the time of the trial. Wing's Delight and Vain Model were also acquired for show and to be used as brood mares. They were both being used by MAS for breeding as of January 1969. Greystone's Admiration, a filly, was acquired to be trained, shown, and then used as a brood mare. She was bred in 1966 and delivered a foal in 1967. She was still being used for breeding at the time of the trial. Sunshine Genius Lady was purchased as a brood mare. She was bred and has produced two foals for M. A. Stoltzfus, Inc. At the time of the trial, she was on hand and was being used as a brood70 mare by the corporation. Clear Command was purchased as a stud for the corporation. He was sold by MAS for $28,500. Ensign's Heavenly Glory was purchased in 1964 and was immediately bred and produced a foal in 1965. The mare produced two more foals for the corporation, one in 1966 and another in 1967. All three foals were sold by the corporation. Ensign's Heavenly Glory died in 1968, being insured by MAS, which received $2,500 in insurance proceeds. Wilma Stonewall was purchased in 1964 and was immediately bred and produced a foal in 1965. She has produced foals in 1966, 1967 and 1968. She was on hand and was being used as brood mare by the corporation as of January 1969. Three of her foals have been sold; her 1967 foal, My King's Stonewall, was on hand as of January 1969 and was valued at $1,000. Mountjoy's Top Talent, a mare, was purchased in 1964 for show and sale or use as a brood mare. This horse developed and was sold by petitioner-corporation for $12,500, a gross profit of $9,000. Major's Princess, a mare, was carrying a foal when acquired and delivered the foal in 1964. The foal was sold for $750 in 1967. She has produced foals in 1966 and 1968. Her 1966 foal, Bird71 in Hand, was on hand at the time of the trial and was valued at $8,500. Major's Princess was also on hand then and was being used by MAS as a brood mare. Stoltzfus and his wife do not participate in any of the social events connected with horse shows. They do not entertain at horse show events and are generally not socially active. As of January 1969, MAS had 72 saddle horses on hand, including foals, with a cost basis of $207,481. In Crabtree's opinion, the total market value of these horses was $545,500. Gwinn and Robertson both feel that this valuation was reasonable, and that, if anything, it was too low. The foregoing recounted the nature and extent of the saddle horse operations of petitioner and MAS. The following deals with the deficiencies asserted and the grounds therefor. During the years at issue, petitioners reported taxable income and income tax liabilities on their respective returns in the following amounts: Docket No. 3827-67 (Petitioner)TaxableTax YearIncome (Loss)Liability1961$43,912.37$16,658.27196244,208.4516,503.48196370,828.5032,444.88Docket No. 3828-67 (Petitioner-corporation) FYTaxableTax EndedIncome (Loss)Liability10-31-61$12,231.0817 $3,669.3210-31-62828.6517 248.6010-31-6320,192.7218 010-31-64(58,630.90)072 In a statement attached to the notice of deficiency mailed to Morris A. Stoltzfus and Ruth E. Stoltzfus, respondent advised petitioners, in part, as follows: During taxable years ended December 31, 1961, December 31, 1962 and 1625 December 31, 1963, M. A. Stoltzfus, Inc., of which you are the controlling shareholders, purchased assets for your personal benefit and pleasure. These assets were for use in the show horse activity. Some of these assets were registered in your names. Others, though apparently registered in the name of M. A. Stoltzfus, Inc. were acquired for your personal benefit and pleasure. Accordingly the purchase price of these assets represent ordinary income to you under section 61(a) of the Internal Revenue Code of 1954. In addition to the foregoing, M. A. Stoltzfus, Inc. also incurred certain alleged expenses in connection with the show horse activity. 73 These expenses were also incurred for your personal benefit and pleasure. Accordingly the excess of the expenses incurred by M. A. Stoltzfus, Inc. over income received by M. A. Stoltzfus, Inc. relative to the show horse activity is ordinary income to you under section 61 of the internal revenue code of 1954. The income as computed is limited to the excess of cash expenditures (to the extent not deductible by you) over income received by M. A. Stoltzfus, Inc. The computation of additional income to you as a result of payments by M. A. Stoltzfus, Inc. in taxable years ended December 31, 1961, December 31, 1962 and December 31, 1963 is summarized as follows: Taxable Year Ended Dec. 31196119621963Excess of cash and non-cash show horse expenses of M.A.Stoltzfus, Inc.over show horseexpense [sic] 19$ 90$ 6,394.40$ 89,919.50Less: Non-cashitems and otheradjustmentsDepreciation(90) (4,083.44)(12,546.08) Rent1 (7,000.00)Interests(429.17) 2 (1,540.06)Total non-cashitems and Adjustments$ 0$ 1,881.79$ 68,833.36Add: Assetspurchased by M.S. Stoltzfus, Inc. for you oryour benefitHorse Cart andHarness600 Tack Room Improvements1,512.00 Horses38,900.00 37,500.00 $ 600$ 40,781.79$ 107,845.3674 For taxable years ended December 31, 1961 and December 31, 1962 you claimed deductions for show losses incurred in your show horse activities in the respective amounts of $4,951.86 and $21,518.86. These claimed deductions representing the excess of claimed expenses over income derived from your show horse activities are reflected on schedule F. Form 1040, for the taxable years ended December 31, 1961 and December 31, 1962. It has been determined that your show horse activity was undertaken for your personal pleasure and gratification. As such it does not constitute a business undertaking for profit * * . Accordingly, the claimed deductions have been disallowed to the extent that the claimed expenses exceed income. The following tabulations set forth the items in dispute: 19611962IncomePrizes$ 490.00$ 2,838.08Breeding Feed40.00 Total income$ 490.00$ 2,878.08ExpensesFeed$ 85.26 Horse expenses2,067.51Horse show expenses488.47 $ 313.19License - Horse Trailer30.00 Depreciation - Horses1,251.423,104.80- Machinery & equipment2,488.77Blacksmith370.15 Horse training8,352.22 Entry fees3,594.37Supplies619.20 Insurance900.00 Feed, supplies, insurance, etc6,173.44 Total expenses$ 5,441.86$ 24,396.94Net Loss on Horses$ 4,951.86$ 21,518.8675 In 1962 you listed on schedule F. Form 1040, new equipment having a cost basis of $2,033.45 and $11,451.44. In connection therewith, you claimed an investment credit of $373.12. It has been determined that the property having a cost basis of $11,451.44 was acquired for use in the show horse activity. It has also been determined that of the property having a cost basis of $2,033.45, the sum of $1,288.45 represents property acquired for use in the show horse activity. The balance of such property having a cost basis of $745.00 (hay crimper) was used in the farming activity. Since the property acquired for use in the show horse activity does not constitute business assets the investment credit is limited to the amount shown. With respect to the year 1963 the investment credit of $320.54 as claimed was based on furniture and fixtures for the stable having a cost basis of $4,579.20. For reasons previously stated this does not constitute business property and the claimed credit has been disallowed in full. * * * Taxable Year Ended December 31, 1961 Adjustments to Taxable IncomeTaxable income as disclosed by return$ 43,912.37Unallowable deductionsand additional income:(a) Show horse activity$ 600.00(b) Other income1,603.95(c) Schedule "F"4,951.86(d) Ordinary Income751.25 7,907.06 Total$ 51,819.43Nontaxable income and additional deductions(e) Gain and lossesfrom sales of property375.63 Taxable income corr-ected76 1627 Explanation of Adjustments[1961](a) and (c) As explained in preliminary statement.(b) It is determined that the amounts as shown below are includable in income:(1) Payment of personal expensesdetermined in previous examinationof D.M. Stolzfus & Sons, Inc. fortaxable year ended 1961$ 751.11(2) Payment of personal expenses determined in previous examinationof Pa. Aggregates, Inc. for taxableyear ended 1961598.36 (3) Insurance paid on personal items by M. A. Stoltzfus, Inc. for taxable year ended 1961254.48 Total$ 1,603.95(d) To include as ordinary incomethe gain on sale of a tractor to D. M. Stoltzfus & Sons, Inc. a corporation owned by you. Taxable Year Ended December 31, 1962Adjustments to Taxable IncomeTaxable income as disclosed by return$ 44,208.45Unallowable deductionsand additional income:(a) Show horse activity$ 40,781.79(b) Other income2,039.33 (c) Schedule "F"21,518.8664,339.98 Total$ 108,548.43Nontaxable income andadditional deductions:(d) Gains and lossesfrom sales of property999.30 Taxable income corrected$ 107,549.13 * * Explanation of Adjustments[1962](a) and (c) As explained in prelimin-ary statement.(b) It is determinedthat the amounts as shown below are includible in income:(1) Payment of personalexpenses (meals) asdetermined in previous$ 699.99examination of D. M.Stoltzfus & Sons, Inc.for taxable year ended1962(2) Payment of personalexpenses as determinedin previous$ 249.66examination of Pa.Aggregates, Inc. fortaxable year ended 1962 MealsDiplomat Motel680.93 Taft Hotel408.75 1,339.34 Total$ 2,039.3377 * * 1628Taxable Year Ended December 31, 1963Adjustments to Taxable IncomeTaxable income as disclosed by return$ 70,828.50Unallowable deductionsand additional income:(a) Show horse activity$ 107,845.36(b) Other income1,792.09 (c) Schedule "F"2,307.65 111,945.10Taxable incomecorrected$ 182,773.60Explanatin of Adjustments[1963](a) As explained in preliminarystatement.(b) It is determined that the amounts as shown below are includible in income:(1) Payment of personal expenses asdetermined in previous examinationof D. M. Stoltzfus & Sons, Inc. for$ 1,430.01taxable year ended 1963: Meals$ 806.40 Florida trip 623.61(2) payment of personal expenses asdetermined in previous examinationof Pa. Aggregates, Inc. for taxable362.08 year ended 1963: MealsTotal$ 1,792.09 (c) It is determined depreciation claimed on stable and equipment rented by you to M. A. Stoltzfus, Inc. in connection with show horse activities, constitutes personal expenses and is therefore not allowable. Such items are set forth as follows: Stable$1,818.46Stable Equipment63.32Furniture andFixtures 425.87Total $2,307.6578 1629 In a similar statement attached to the notice of deficiency mailed to MAS, respondent advised petitioner-corporation, in part, as follows: During each of the taxable years ended October 31, 1962, 1963 and 1964, you claimed deductions for certain expenditures in connection with the training and showing of horses. It has been determined that expenditures incurred in this connection as well as depreciation on assets used in training and showing horses were incurred primarily for the personal benefit of your controlling shareholders, Morris A. and Ruth E. Stoltzfus. The claimed deductions do not represent ordinary and necessary business expenses or losses from transactions entered into for profit. Accordingly, the claimed deductions have been disallowed to the extent that they exceed income from the show horse activity. The items giving rise to this disallowance are set forth in the following tabulation: Taxable Years Ended October 31196219631964IncomeShow awards0$ 3,235.00$ 4,836.33Boarding0650.000277.00 Manure0075.00 Total Income0$ 3,885.00$ 5,188.33Claimed ExpensesInterest$ 429.17 $ 1,540.16$ 1,870.57Insurance1,000.007,267.65 6,400.82 Horse Trainingand ShowExpenses881.79 Depreciation4,083.4412,546.0814,681.79Breeding1,385.83 Payroll21,531.8128,195.57Employment Taxes1,359.24 1,239.13 Rent8,588.10 12,000.00Supplies5,189.85 3,138.24 StableMaintenance3,280.65 2,711.03 Utilities1,044.09 2,502.61 Show Expenses12,722.7811,173.91Feed and Straw5,358.99 4,343.10 Boarding3,730.28 1,760.00 Vet890.40 1,264.80 Blacksmith790.56 1,734.22 Riding Apparel1,295.59901.61 Stable Supplies1,795.51 1,237.42 Trainer's Expenses453.09 1,943.26 Transporatation2,977.215,037.18 Advertising913.32 449.15 Groom435.00 Miscellaneous94.14 1,160.08 Net Loss on Saleof Horse22,195.10 Total Expenses$ 6,394.40$ 93,804.50$ 127,325.42Net Loss Deducted($ 6,394.40)($ 89,919.50)$ 122,137.0979 Inasmuch as the net operating loss disclosed on your return for the taxable year ended October 31, 1964 in the amount of $58,630.90 has been converted to taxable income, there exists no net operating loss deduction and the tentatively allowed overassessment are therefore recoverable. * * * 1630 Taxable Year Ended October 31, 1961 Adjustments to Taxable IncomeTaxable income as disclosed by return$ 12.23 Unallowable deductionsand additional income:(a) Taxes$ 35,36(b) Insurance$ 254.48(c) Depreciation90.00 379.84 Taxable income corrected$ 12,610.92 Explanation of Adjustments (a) To allow the proper amount of Pennsylvania corporate net income tax with adjustment being computed as follows: As per state return$ 733.86As per income tax return769.22 Adjustment$ 35.36 (b) To disallow portion of premium paid to Paul G. Murray & Son to insure personal belongings of Mr. M. A. Stoltzfus. (c) For the taxable year ended October 31, 1961 you claimed a deduction of $90.00 for depreciation attributable to a cart and harness for use in showing horses. It has been determined that these assets were acquired for80 the benefit of your controlling shareholders, Morris A. and Ruth E. Stoltzfus. Hence, this property is not a business asset subject to the allowance of a deduction for depreciation. Accordingly the claimed deduction of $90.00 has been disallowed. * * Taxable Year Ended October 31, 1962 Adjustments to Taxable IncomeTaxable income as dis-closed by return$ 828.65 Unallowable deductionsand additional income:(a) Repairs$ 4,933.27(b) Taxes100.00 (c) Loss incurred onshow horses6,304.40 11,427.67 Total$ 12,256.62Nontaxable income andadditional deductions:(d) Depreciation822.13 Taxable income corrected$ 11,434.19Explanation of Adjustments [1962] (a) It is determined that the overhaul of aningersoll Rand Drillmaster in August 1962, constitutes a capital expenditure and is being disallowed as a repair expense. (b) To allow the proper amount of Pennsylvania capital stock tax with the adjustment being computed as follows: As per state return$ 650.00As per return750.00 Adjustment$ 100.00 (c) As explained in preliminary statement. (d) It is determined that the item capitalized in adjustment (a) 81 above had a three-year life. Double declining balance method is being used and depreciation is being allowed for 1/4 year. ($4,933.27 X 2/3 X 1/4 = $822.13). * * 1631 Taxable Year Ended October 31, 1963 Adjustments to Taxable IncomeTaxable income as disclosed by return$ 20,192.72Unallowable deductionsand additional income:(a) Loss incurred onshow horses89,919.50 Total$ 110,112.22Nontaxable income andadditional deductions:(b) Depreciation$ 2.740.90(c) Rent Expense96.25 2,837.15 Taxable income corrected$ 107,275.07Explanation of Adjustments[1963](a) As explained in preliminary statement.(b) To allow deprecia-tion on item capital-ized in taxable yearended October 31, 1962with computation beingas follows:Cost$ 4,933.27Depreciation allowed infiscal year ended10/31/62822.13 Remaining basis$ 4,111.14Rate.6667 Depreciation Allowable$ 2,740.90 (c) It is determined that you are not entitled to investment credit claimed on a rented horse trailer with a fair market value of $11,000.00. Such results in an adjustment to rental expenses deduction computed as follows: Cost$ 11,000.00Investment Credit - 8 years or more - at 70%$ 770.00 Rent Adjustment - 1/8 of credit$ 96.25 82 * * Taxable Year Ended October 31, 1964 Adjustments to Taxable IncomeTaxable income (loss)disclosed by return($ 58,630.90)Unallowable deductionand additional income:(a) Loss incurred onshow horses$ 122,137.09(b) Repairs8,350.10 (c) Taxes250.00 130,737.19 Total$ 72,106.29Nontaxable income and additional deductions:(d) Depreciation$ 4,160.96(e) Rental expense96.25 4,257.21 Taxable income corrected$ 67,749.08 1632 Explanation of Adjustments[1964](a) As explained in preliminarystatement.(b) It is determined that the over-haul of a drill in April of 1964constitutes a capital expenditure.(c) To allow proper amount of Pennsylvania capital stock tax withadjustment being computed asfollows:As per state return$ 400.00As per income tax return650.00 Adjustment$ 250.00 The amounts deducted as expenses of petitioner-corporation and disallowed by respondent in the notice of deficiency were expended by or in behalf of MAS for the purposes and in the amounts indicated in said notice. The only issue with respect thereto is whether said amounts were expended or incurred in the pursuit83 of a trade or business of MAS or of the individual petitioners, or whether the said amounts were expended or incurred in pursuit of a hobby by the Stoltzfus family. The amounts deducted as horse expenses of the individual petitioners and disallowed by respondent in the notice of deficiency were expended for the purposes and in the amounts indicated in said notice. The only issue with respect thereto is whether said amounts were expended or incurred in the pursuit of a trade or business of the individual petitioners, or whether the said amounts were expended or incurred in pursuit of a hobby by the Stoltzfus family. Opinion Petitioners expended certain amounts with respect to certain horse activities during the years at issue, and deducted these expenses on their respective income tax returns. Respondent disallowed any and all deductions relating to the horse activities on the ground that the expenses were not incurred in the pursuit of a trade or business of either MAS or the individual petitioners. 20 Furthermore, respondent determined that the disallowed expenses (to the extent they exceeded income) and the cost of assets purchased by petitioner-corporation relating to the84 horse activities constituted ordinary income to the individual petitioners under section 61(a) of the Internal Revenue Code of 1954. 21 Therefore, the primary issue for our determination is whether the horse activities conducted first by Morris A. Stoltzfus and then by M. A. Stoltzfus, Inc., constituted a trade or business during the years at issue. The parties agree that our decision as to this first and main issue may be dispositive of the other issues in this case. It is well established that breeding, raising and training horses for sale may constitute a trade or business. Commissioner v. Widener, 33 F. 2d 833 (C.A. 3, 1929), affirming 8 B.T.A. 651">8 B.T.A. 651 (1927); Wilson v. Eisner, 282 F. 38">282 F. 38 (C.A. 2, 1922); Theodore Sabelis, 37 T.C. 1058">37 T.C. 1058 (1962). Nevertheless, it85 is axiomatic that an activity may not be classified as a trade or business unless a taxpayer can prove that he had a bona fide intention or expectation of making a profit therfrom. Imbesi v. Commissioner, 361 F. 2d 640 (C.A. 3, 1966), remanding a Memorandum Opinion of this Court; Godfrey v. Commissioner, 335 F. 2d 82 (C.A. 6, 1964); Hirsch v. Commissioner, 315 F. 2d 731 (C.A. 9, 1963); American Properties, Inc., 28 T.C. 1100">28 T.C. 1100 (1957), affd. 262 F. 2d 150 (C.A. 9, 1958). It is not necessary, however, that the expectation be a reasonable one, as long as it is genuine. Margit Sigray Bessenyey, 45 T.C. 261">45 T.C. 261 (1965), affd. 379 F. 2d 252 (C.A. 2, 1967), certiorari denied 389 U.S. 931">389 U.S. 931 (1967). Both parties recognize that the issue before the Court is essentially a question of fact. Margit Sigray Bessenyey, supra; American Properties, Inc., supra; Henry P. White, 23 T.C. 90">23 T.C. 90 (1954), affd. per curiam 227 F. 2d 779 (C.A. 6, 1955). The86 parties disagree as to the existence of certain facts and as to the weight to be accorded to others, as well as to the application of the settled legal principles in this area to the particular facts of this case. Respondent summarized his position on brief as follows: 1633 It is respondent's position and argument on this first and main issue that the show horse activities under the name of "Greystone Manor Stables" were undertaken primarily by Morris A. Stoltzfus and later by Ruth E. Stoltzfus * * * for personal pleasure and gratification and as such did not constitute a business undertaking for profit or transactions entered into for profit * * . Petitioners, on the other hand, contend that they engaged in breeding, raising, and selling horses with the bona fide intention of making a profit therefrom. On brief, we find the following statements: In November of 1961, Petitioner Morris A. Stoltzfus made the decision to engage in the business of breeding, raising and selling American saddle bred horses, with the genuine intention to make profit therefrom. * * In 1962, M.A. Stoltzfus, Inc. entered the horse business, **. * * We construe these statements as an admission87 and concession that MAS was not engaged in any trade or business in connection with horses during its fiscal year ended October 31, 1961. Therefore, we hold that any deductions with respect to horse activities claimed by petitioner-corporation on its income tax return for fiscal year ended October 31, 1961, were properly disallowed. 22Although both parties admit that the intention of petitioners is a factual question, they undertake on brief to examine in depth an abundance of cases in this area. However, a review of those cases will serve no useful purpose since the holdings of those cases were arrived at on the peculiar facts of record therein. Margit Sigray Bessenyey, supra.In attempting to discover petitioners' motive in conducting the saddle horse activities, we must make this determination not only from88 the direct testimony of petitioner and his wife as to their intent, but also from a consideration of all the evidence. American Properties, Inc., supra.As we stated in that case: The statement of an interested party of his intention and purpose is not necessarily conclusive. Helvering v. National Grocery Co., 304 U.S. 282">304 U.S. 282, affirming 35 B.T.A. 163">35 B.T.A. 163. In R.L. Blaffer & Co., 37 B.T.A. 851">37 B.T.A. 851, affd. (C.A. 5) 103 F. 2d 487, certiorari denied 308 U.S. 576">308 U.S. 576, we stated that one's categorical statement may be of less weight than the facts and circumstances which affect it and that "[to] be skeptical of the weight to be accorded an interested witness' statement in view of other evidence is not the same as wholly to reject the statement as if it were dishonest." Despite this pronouncement, it is clear that we cannot ignore a taxpayer's testimony when it is consistent with other proved facts. See Foran v. Commissioner, 165 F. 2d 705 (C.A. 5, 1948), reversing a Memorandum Opinion of this Court. As to the intention of Stoltzfus to engage in his individual capacity in the horse business, he testified89 that, after his trip to Emerald Farms in November 1961, he intended to develop the finest American saddle bred horse business in the northeastern United States. However, we construe this testimony, when coupled with other facts, to evidence merely an intention to investigate further the feasibility and potential profitability of entering into the saddle horse business. Some of these other facts are that Stoltzfus was uncertain in 1961 as to whether he should undertake breeding standardbred or saddle bred horses. Furthermore, he was still in the stage of discussion with his family and with Jones, a respected horse man, as to his ambitions in this field. He made trips to Kentucky and other parts of the country during the latter part of 1961, and the first half of 1962, where he visited and observed some successful saddle bred horse businesses. During these visits petitioner had discussions with the owners and managers of these operations in order to gain insight into the advisability of such an undertaking as he was planning. Stoltzfus also attended in the fall of 1961 and the spring of 1962 the Tattersall Sales, a wellknown public auction sale for saddle horses in Lexington, Ky. His90 admitted prupose in doing this was not to purchase horses but rather to meet people interested in buying saddle horses and to study the types and quality of horse sold and the prices thereof. These facts, in addition to other facts which we have detailed in our findings herein and coupled with testimony which was presented at trial, all lead us to the conclusion that petitioner had in mind in 1961 the possibility of entering into a commercial horse venture at some future time, but 1634 that he did not have the intention of immediately embarking therein. See American Properties, Inc., supra. Accordingly, we hold that Stoltzfus was not engaged in a trade or business with respect to his horse activities in 1961. There was a significant change of events in 1962, however. Since Stoltzfus had decided that the saddle bred horse business had a potential in his area, he no longer saw a need to retain his quarter and appaloosa horses, and a dispersal sale of them was held on April 9, 1962. In the same month, Jones was hired on a full-time basis as trainer-manager of petitioner's saddle bred horse operation. Although petitioner made a rough design for a stable and related91 facilities in November 1961, it was in 1962 that he directed H. M. Stauffer & Son, construction and building supplies, to prepare final construction drawings and srecifications based upon his rough design. Petitioner wished to acquire Bard's Crossing Farm from his mother for the purpose of constructing his breeding facilities thereon. On October 20, 1962, she made a gift of the land to petitioner. Shortly thereafter, in 1962, construction of the stable was commenced thereon. In the spring of 1963, the horse related facilities were completed. In addition to the aforesaid events, during 1962, Stoltzfus, in pursuance of his desire to undertake a saddle horse operation, instructed Jones to acquire for him a good blood line of brood mares for breeding purposes. On March 5, 1962, Jones succeeded in purchasing for petitioner for $400 a brood mare with good blood lines named Sensation's Last Love. The horse was acquired for such a low price because she was crippled and could no longer be shown. Shortly thereafter, she was sent to Robin Hill Farm in New Jersey to be bred. Petitioner purchased four other horses during 1962 consisting of three untrained geldings and a brood mare named Lady92 Viola. These horses were purchased by Jones in accordance with petitioner's wishes to look for and acquire not only good breeding stock but also quality untrained saddle horses which could be trained, shown, and developed for sale. All of the aforementioned facts and circumstances, coupled with other facts of record herein, support and are consistent with petitioner's testimony at trial that he was engaged in the business of breeding, raising, training, and selling horses in 1962, with the intention and expectation of ultimate profit therefrom, American Properlies, Inc., supra, and we so hold. The thrust of respondent's argument is that the horse activities were conducted for the personal pleasure and gratification of petitioner, his wife and his daughter, Ruth Louise. 23 The facts simply do not support this assertion. Petitioner's wife did not particularly like horses and, in fact, she testified that she was afraid of them. Furthermore, she disapproved of showing horses on Sunday because of religious reasons. Throughout the years at issue, she had learned to quell her fears, and in 1965 or 1966, she began to drive a fine harness horse for show in amateur classes. 93 Ruth Louise no longer showed horses after 1964, and this precipitated the need for an amateur driver. Crabtree, the manager and trainer of the horse operation, was a professional and could not show horses in amateur classes. Petitioner had had several heart attacks prior to 1961 and was advised not to ride. Therefore, it fell upon petitioner's wife to fill the need for an amateur driver. Ruth Louise was the only one in the family that rode horses. While it is true that she did ride and show horses in amateur classes at various horse shows during the years at issue, we do not find on the record herein that petitioner's primary purpose in conducting a horse operation was to provide his daughter with an opportunity to display her equestrian talents nor to indulge in any social pleasures which may be derived from attending horse shows. Furthermore, while it is true that petitioner has been interested in and engaged in farming and breeding livestock practically all of his life, this fact is not fatal to a finding of a profit-making94 motive. In fact, it has been observed that "[success] in business is largely obtained by pleasurable interest therein." Wilson v. Eisner, supra, at 42. 24Respondent also directs our attention to the losses which have been sustained annually from the horse operation. While it 1635 is true that a record of losses over a period of years may be an important factor bearing on a taxpayer's true intention, Margit Sigray Bessenyey, supra; Commissioner v. Widener, supra; Samuel Riker, Jr., Executor, 6 B.T.A. 890">6 B.T.A. 890 (1927), we are also aware that: the presence of losses in the formative years of a business, particularly one involving the breeding of horses, is not inconsistent with an intention to achieve a later profitable level of operation, bearing in mind, however, that the goal must be to realize a profit on the entire operation, which presupposes not only future net earnings but also sufficient net earnings to recoup the losses which95 have meanwhile been sustained in the intervening years. At trial, we had the benefit of the testimony of three witnesses, all experienced in the saddle horse business. While we will not recount all the facts established by their testimony, it did indicate that it is not unusual to experience losses during the formative years of a saddle horse business. It was estimated that five to ten years are required to develop a financially successful saddle horse breeding business. Moreover, several years of development are required in order to build a reputation and to produce and develop quality stock for sale. Colts must not only be produced, but must be started in training in order to show their potential, before it is profitable to sell them. However, it appears that once a saddle horse business becomes well established and establishes the reputation of its breeding stock and colts, it is possible to sell yearling colts without any training. These witnesses further testified as to the appropriate steps that an investor should take in order to start and build a profitable saddle horse business. These suggested steps which were implemented by petitioners were: (a) The investor should96 employ the services of a person knowledgeable about saddle horses and with a good reputation in the industry for the training and handling of saddle horses. O. Wendell Jones, Sr., now deceased, was consulted by Stoltzfus prior to his decision to enter the saddle horse business. In April 1962, Jones was employed by petitioner on a full-time basis as manager and trainer of the saddle horse operation. He had an excellent reputation at that time as a trainer of, and person knowledgeable with regard to, American saddle horses. In fact, he was generally considered one of the top men in this field in the eastern part of the United States. (b) The investor should provide adequate facilities, including a stable to house the horses, indoor and outdoor exercise areas for training and showing horses to customers and pasture land for grazing. There should also be a separate barn for housing the brood mares. Petitioner very carefully planned the stable and related facilities he intended to build. Construction was commenced late in 1962. Without dwelling on the description of the stable which we have set out in our findings of fact, we shall note that, as constructed, it is not a show place, 97 but rather it is functional, and, in some ways, innovative. Petitioner, who impressed us as a very astute, successful and determined businessman, had invested $90,922.84 in the stable and related facilities by the time they were completed in the spring of 1963. He had the stable so constructed that it could be converted into a motel "if the saddle horse business wouldn't be making any money and he ever wanted to get out of it, * ." (c) The investor should acquire the highest quality stock available of the following types: (1) quality breeding stock (studs and brood mares) with good blood lines and a record of success in show competition (2) quality young unfinished horses to train, show and sell; and (3) some finished horses to show for the purpose of putting the business' name before the saddle horse purchasing public and to establishe the business' reputation. Geldings are the preferred type in the industry for the latter two categories, since they are the easiest and most popular type of saddle horse to train, show and sell. As detailed in our findings of fact, this is precisely the stock which petitioner acquired. It is clear, therefore, that petitioner has proceeded98 in a manner which would be recommended to anyone entering the saddle horse business. His conduct fully supports his asserted profit-making intention. Due to the volume of the record herein, we have not set forth all of the extensive evidence produced at trial. However, we have carefully reviewed the entire record and have concluded upon our evaluation of the evidence that petitioner conducted 1636 his horse operation in 1962 with the genuine intention of making a profit therefrom. As to whether petitioner-corporation engaged in the saddle horse business in its taxable year neden October 31, 1962, it is noteworthy that petitioner decided to have MAS conduct the saddle horse business 25 sometime during the last seven months of 1962. This decision was based upon his concern over his heart condition and his desire to have the saddle horse business continue in the event of his death. Stoltzfus consulted the accounting firm of Hatter, Harris & Beittel as to the manner of effectuating the transfer of the assets of his horse business to MAS. 99 He was advised to make January 1, 1963, the effective date of such a transfer. Journal entries were made on the books of petitioner-corporation as of January 1, 1963, to reflect the transfer of the assets at cost basis from the individual petitioner to MAS. An account payable to petitioner was established to reflect the transfer. Subsequent to his decision in 1962 to transfer the saddle horse venture to the corporate-petitioner, Stoltzfus did not purchase any saddle horses for his own personal account. However, MAS did purchase three horses at a cost of $28,900 during its taxable year ended October 31, 1962. These facts lead us to conclude, and we so hold, that petitioner-corporation was not engaged in the saddle horse business during the fiscal year ended October 31, 1962. We view its purchase of these three horses as in anticipation of the eventual take-over of the horse venture from the individual petitioner. However, that take-over was not effectuated until the following year. The tax consequences of this holding are covered later in this opinion under the headings 1961 and 1962. Respondent argues that MAS did not take title to the horses and other equipment transferred100 by Stoltzfus to it. He takes the position that there was no arm'slength agreement with respect to the transfer and that petitioner-corporation did not pay adequate consideration for the assets transferred since there was no payment to Stoltzfus nor any note or other evidence of indebtedness other than the account payable. We cannot agree with respondent. Our comments with respect to ownership pertain to these horses and assets transferred to MAS by Stoltzfus, as well as to those horses purchased by petitioner-corporation. First of all, we note that the question of whether title passed is not in itself decisive of whether the saddle horse activities constituted a business of petitioner-corporation. It is "merely one of the factors involved in the more important question of whether the corporation did enter into a true business venture * * * for profit." American Properties, Inc., supra, at 1111. The question of ownership does assume importance primarily in determining whether Stoltzfus received additional income as a result of the purchase by MAS of horses and assets used by it in the saddle horse operation. Although we were not presented with any formal documents101 transferring title from petitioner to MAS, we do not find this fatal to petitioner-corporation's case, for there is other evidence that tends to indicate that title did pass. MAS represented itself as owner of the horses and other assets in question in statements made for purposes of Pennsylvania state taxes levied on property owned by corporations. Furthermore, with relatively few exceptions, the horses were registered with the American Saddle Horse Breeders' Association in the name of MAS as owner thereof. Proper books of account were kept by MAS on the horse operation. Although several newspaper articles listed Morris A. Stoltzfus as owner of some horses claimed to be owned by petitioner-corporation, we do not find that fact determinative since it is easy to confuse and misuse names in a situation such as this where Morris A. Stoltzfus is the sole voting stockholder and principal management executive of M. A. Stoltzfus, Inc. Furthermore, MAS took out insurance policies on the horses alleged by respondent not to be titled to petitioner-corporation. Death benefits payable under these policies were paid to MAS. In summary, we conclude from an examination of the entire record that102 MAS took title to the horses and equipment transferred to it by Stoltzfus, as well as 1637 to the horses and equipment it purchased with corporate funds. We are satisfied that there was an intention by petitioner to transfer title to MAS, and we do not find that Stoltzfus deliberately held himself out as owner of the horses and assets. Moreover, with respect to respondent's contention, if Stoltzfus had supplied assets to MAS in return for stock, we do not feel that any question would be raised as to the reality of the ownership of the transferred assets to petitioner-corporation. See National Carbide Corp. v. Commissioner, 336 U.S. 422">336 U.S. 422 (1949). The following language in that case is appropriate here: We think that it can make no difference that financing of the * * * [corporation] was carried out by means of book indebtedness in lieu of increased book value of the * * * [corporation's] stock. A corporation must derive its funds from three sources: capital contributions, loans, and profits from operations. The fact that * * , the sole shareholder, preferred to supply funds * * primarily by the second ond method, rather than either of the other two, does not103 make the income earned * * income to * * * [the sole shareholder]. Of course, the fact that we were presented with no documented evidence of the indebtedness, other than the journal entries of petitioner-corporation, thends to indicate that MAS was the recipient of capital contributions rather than loans. National Carbide Corp., supra. See also American Cigar Co. v. Commissioner, 66 F. 2d 425 (C.A. 2,1933). For purposes of this case, it is sufficient to state that from an examination of the entire record and, in particular, from the facts enumerated herein, we are convinced that petitioner effectively transferred the horses and the saddle horse business to MAS as of January 1, 1963. Moreover, the parties have stipulated as follows: The following journal entries were made on the books of M. A. Stoltzfus, Inc., petitioner, as of January 1, 1963 to reflect the transfer of such assets from Morris A. Stoltzfus, petitioner, to M. A. Stoltzfus, Inc., petitioner * * . The thrust of this stipulation is that the transfer in question was effective for all purposes. Respondent has made no objection thereto, other than by his general assertions that the104 transfer was ineffective. Therefore, we do not feel it within our province to disturb the stipulation, especially where, as we have related heretofore, it is amply supported by the evidence of record. Furthermore, with respect to the ownership of other horses involved herein, as we have found in our facts, petitioner-corporation purchased horses for its own account in 1962, and in subsequent years, and there is no question in our mind with respect to the ownership of these horses being vested in petitioner-corporation. Now that we have disposed of respondent's contention with respect to the ownership of the assets of the saddle horse business, we shall discuss the trade or business issue for the remaining two years at issue, viz., the petitioner-corporation's taxable years ended October 31, 1963, and October 31, 1964. 26It is clear that Stoltzfus did not desire to conduct the saddle horse business as a sole proprietorship, but preferred to have MAS conduct the business. In this regard, 105 we must bear in mind the Supreme Court's observation that: [When] a corporation carried on business activity the fact that the owner retains direction of its affairs down to the minutest detail, provides all of its assets and takes all of its profits can make no difference tax-wise. * * The Court went on to say: Undoubtedly the great majority of corporations owned by sole stockholders are "dummies" in the sense that their policies and day-to-day activities are determined not as decisions of the corporation but by their owners acting individually. * * * A careful review and evaluation of the record herein leads us to conclude that MAS carried on in the saddle horse business, transferred to it by petitioner, during the fiscal years ended October 31, 1963, and October 31, 1964. MAS, through its management, manifested a genuine intention to make a profit from that business. Our remarks with respect to these two years will be confined for the most part of a discussion of some of respondent's contentions and our reasons for refusing to accept them. We have already commented upon respondent's assertion that the horse 1638 related activities were undertaken primarily for106 the pleasure and personal gratification of petitioner and his wife. Respondent contends that if we find the horse operation constituted a business, then it is the business of the individual petitioners and not of MAS. In support of this contention, respondent appears to rely upon the dominion and control which Stoltzfus exercised over petitioner-corporation. Petitioner was the sole stockholder of the only class of voting stock of petitioner-corporation. This means in effect that Stoltzfus controlled that corporation. However, that dominion does not necessarily indicate that the corporation is acting as an agent for its controlling stockholders. See National Carbide Corp., supra. It is well established that if the business activity of a taxpayer is a sham and unreal, the Commissioner may disregard its separate entity for tax purposes. However, it is also settled law that a taxpayer may adopt any form he wishes for the conduct of his business, Perry R. Bass, 50 T.C. 595">50 T.C. 595 (1968), as long as the form selected is a viable business entity. In other words, the taxpayer107 must have been created for a substantial business purpose and must have actually engaged in substantive business activity. Moline Properties v. Commissioner, 319 U.S. 436">319 U.S. 436 (1943). Certainly, the Commissioner does not argue with the fact that M. A. Stoltzfus, Inc., is a viable business entity, taxable as such since its incorporation in 1957. He suggests, however, that during the years in question MAS was restricted by the terms of its charter to engage in quarry and related activities only, and that, therefore, any activities beyond that were ultra vires and not recognizable as business activities for Federal income tax purposes. We need not decide whether the nonquarry related activities were ultra vires. We note that in Pennsylvania a corporation "shall have unlimited power to engage in and to do any lawful act concerning any or all lawful business for which corporations may be incorporated * * ." Pa. Stat. tit 15, sec. 1204. Since respondent admits that one may be found in proper cases to engage in the business of breeding, training, and selling horses, there is no question as to whether that is a lawful business. The fact that petitioner-corporation is engaged108 in operations that are beyond the scope of its charter does not transmute the activities in any way. While the Commonwealth of Pennsylvania and the stockholders of MAS may have the right to object to the conduct of activities outside the scope of the corporate charter, respondent cannot impute the breeding and related activities to the controlling stockholder of petitioner-corporation on that basis alone. Furthermore, it was stipulated that if respondent's agent were called upon to testify, he would have testified that, in his opinion, the state charter could be amended to cover almost any activity. We agree. One further note on this matter is in order. MAS has engaged in farming and raising steers and hogs prior to, during, and subsequent to the years at issue. No mention of these activities is found in the corporate charter nor in any minutes of director or shareholder meetings. Nevertheless, respondent has apparently always recognized that operation of MAS for Federal income tax purposes and certainly did so in the years here in issue. Having disposed of the primary issue in this case, we shall proceed to a determination of the subsidiary questions herein. 1.1961 Since109 we have determined that neither Stoltzfus nor MAS was engaged in a trade or business with respect to the horse activities at any time during 1961, any deductions claimed by them with respect thereto were properly disallowed. Respondent also determined that the cost ($600) of a horse cart and harness acquired for the benefit of Morris A. and Ruth E. Stoltzfus in 1961 constituted additional income to them. It is well established that payments made by a corporation on behalf of a stockholder may constitute taxable dividends to him. American Properties, Inc., supra; Louis Greenspon, 23 T.C. 138">23 T.C. 138 (1954), modified 229 F. 2d 947 (C.A. 8, 1956); and Paramount-Richards Th. v. Commissioner, 153 F. 2d 602 (C.A. 5, 1946). There is no requirement, as petitioner contends, that the dividends be pro rata among all the stockholders of a corporation, particularly in the case of a closely held corporation. See Irving Sachs, 32 T.C. 815">32 T.C. 815 (1959), affd. 277 F. 2d 879 (C.A. 8, 1960), certiorari denied 364 U.S. 833">364 U.S. 833 (1960).110 1639 We are mindful that respondent's determination is prima facie correct. The individual petitioners have not shown error in the Commissioner's determination that they received $600 additional income in 1961 because they failed to offer any evidence whatsoever with respect to the use or ownership of these assets. Respondent contends that these items were not corporate property, but rather were owned by the individual petitioners. In these circumstances, we are constrained to hold that the corporation expended $600 for the individual petitioners which constituted additional income to them in that year. Cf. Louis Greenspon, supra.2. 1962 Having held that MAS was not engaged in the horse business in its fiscal year ended October 31, 1962, it follows that any deductions claimed by it with respect to such activities were properly disallowed. Respondent disallowed, among other things, $1,000 in horse insurance expenses and $881.79 in expenses for horse training and shows which were paid for by MAS in 1962. He included the total of these two items in the individual petitioners' gross income as incurred for their benefit. We do not know whether these expenses111 were incurred with respect to the horses woned by MAS, or with respect to the horses Stoltzfus owned in 1962. These nondeductible expenses incurred by petitioner-corporation may constitute additional income to petitioner only if they were payments made for his benefit, American Properties, Inc., supra, and they constitute payments made for his benefit or pleasure only if they were incurred with respect to the horses he owned in 1962. We fail to see of what benefit expenses incurred by MAS in connection with the horses it owned would be to Stoltzfus. Bearing in mind that respondent's determination is presumptively correct, the expenses incurred by petitioner-corporation are presumed to have been incurred with respect to Stoltzfus' horses because, otherwise, there would be no benefit to him which would warrant inclusion in his income of these disallowed expenses. We hold that the inclusion of $1,881.79 in petitioner's income for 1962 was proper. However, since we have held herein that Stoltzfus engaged in a trade or business of breeding, training, and selling horses in 1962, any expenses incurred with respect to that business would be deductible by him. Therefore, 112 the inclusion in Stoltzfus' income of $1,881.79 would be offset by a corresponding business expense deduction therefrom of a like amount. Respondent also included in the individual petitioners' income for 1962 the cost of five horses ($38,900) purchased and owned by MAS in 1962. We cannot sustain respondent in this. We have held that: While it is appropriate for the respondent to disallow depreciation taken on the farm machinery and equipment owned by * * * [petitioner-corporation], we do not think that the cost of these items should be added to Greenspon's [the dominant stockholder's] personal income. It is not disputed that the title to these items remained with the corporation and, while they may have been used on the farm, Greenspon did not own them, and their cost should not be included in his income. * * * We have found as a fact that MAS owned all the horses purchased by it or for it during the years at issue. Accordingly, we hold that the cost of the five horses purchased by MAS during 1962 should not be added to the individual petitioners' personal income for that year. Louis Greenspon, supra. Since respondent did not raise the question of whether113 the individual petitioners could be charged with receiving income to the extent of the value of the use of the horses and since we have no facts to determine such value or use, we need not decide that question herein. Louis Greenspon, supra. Since we have held that Stoltzfus was in the trade or business of breeding, raising, training, and selling horses in 1962, we hold that respondent erroneously disallowed the amounts claimed by him in that year with respect thereto. 3. 1963 and 1964 At trial and on brief, the parties agreed that the resolution of the primary issue in this case may be determinative of the subsidiary issues arising therefrom. We agree with them so far as the years 1963 and 1964 are involved. Accordingly, we hold that the issues raised for those years are decided as follows: (a) The deductions claimed by MAS relating to the saddle horse business for its fiscal years ended October 31, 1963, and October 31, 1964, are allowed. 1640 (b) The investment credit claimed by MAS, based on the saddle horse business activities, in the amount of $770 and $105.84 for its fiscal year ended October 31, 1963, is allowed. (c) The net operating loss deduction114 carryback claimed by MAS from the fiscal year ended October 31, 1964, is allowed, but appropriate adjustments as to the amount of such carryback allowable for each year at issue should be made where necessary in order to reflect the conclusions reached herein as to the primary issue. (d) The individual petitioners received no additional income in 1963 with respect to the saddle horse business of MAS. (e) The individual petitioners are entitled to depreciation deductions in 1963 totaling $2,307.65 on Greystone Manor Stables which was rented by them to petitioner corporation for use in its saddle horse business. (f) The individual petitioners are entitled to an investment credit of $320.54 in 1963 for depreciable furniture and fixtures for Greystone Manor Stables which were leased to MAS for use in its saddle horse business. In order to reflect the concessions made by the parties and the conclusions reached herein, Decisions will be entered under Rule 50. Footnotes1. Certain adjustments not relating to the horse activities are not contested by petitioners.↩2. Despite the stipulation by the parties that the dates of rental were the fiscal years ended October 31, 1962, and October 31, 1963, we feel that this was an error in view of the fact that the stable was not completed until the spring of 1963.↩3. This finding is contrary to the parties' stipulation that the date of sale was April 7, 1962. However, in view of documentary evidence presented to us, we feel the stipulation reflects an error. ↩4. Wendell C. Jones is the son of O. Wendell Jones, Sr. Despite the parties' stipulation that "Wendell C. Jones, Sr.," was employed in April 1962, other evidence convinces us that there was an error made in the stipulation, and that O. Wendell Jones was employed at that time.↩5. A finished saddle horse is one already developed and ready to ride; an unfinished saddle horse is a young untrained horse not developed sufficiently to show or ride. Of course, there are stages of development in the training horse between the finished and unfinished stages.↩6. A gelding is a male horse that has been castrated. Geldings are very popular as show horses, and there is a much larger demand or market for gelded saddle horses than for any other type. At least 50 percent of the saddle horses shown are geldings. They are also easier to train and develop than either mares or stallions because they are not at tempera-mental as these latter horses. Geldings are the most consistent horse available.↩7. Recorded as an account payable.↩8. The mare was registered under the name "Lady Esther," but was shown under the name "Madelation."↩9. Two standardbred colts were also sold at that time.↩10. It is not unusual that stallions live to be in their late 20's and still provide stud service.↩11. A "World Championship" in the saddle horse industry is first prize at the Kentucky State Fair.↩12. A filly is a female horse, usually less than four years old.↩13. Recorded as an account payable.↩14. Major's Princess was purschased in foal and foaled a colt named Limestone Major after her acquisition by MAS. Five hundred dollars of the total purchase price of $ 2,500 was allocated as the cost of the foal on petitioner-corporation's books.↩15. The gestation period is 11 months.↩16. A gaited horse is generally more valuable and salable than one that has not been gaited.↩17. Due to net operating loss carrybacks, there was an offset by way of a tentative allowance of $3,669.32 and $248.60 in the fiscal years ended October 31, 1961, and October 31, 1962, respectively. ↩18. Petitioner claimed a net operating loss carryback deduction of $58,902.27.↩19. This should be "income."↩1. This amount was reported by you on your return, Form 1040, year ended December 31, 1963.↩2. These items representing interest paid on your behalf have not been added to income since you would be entitled to deductions for similar amounts.↩20. There were other disallowed deductions. However, it appears that petitioners are only contesting the horse related deductions since no argument has been made or evidence presented with respect to the other disallowed amounts. ↩21. All statutory references are to the Internal Revenue Code of 1954, as amended, unless otherwise indicated.↩22. We also note that, even in the absence of such assertions on brief, we find no evidence to support any claim that MAS was engaged in the trade or business of breeding, raising, training, or selling horses during the taxable year ended October 31, 1961.↩23. Marianne, petitioner's only other child, refused to ride again because of a frightening experience which happened to her before the years at issue.↩24. See also Robert E. Currie, T.C. 1969-4, and W. Clark Wise, T.C. Memo. 1957-83↩.25. Having already held that petitioner's horse operation in 1962 constituted a business, we shall refer to those activities as such.↩26. Our decision as to these two years will dispose of the individual petitioners' calendar year 1963, which is also in question, and which is discussed infra under the heading 1963 and 1964.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621871/	MASHEK ENGINEERING CO., PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Mashek Engineering Co. v. CommissionerDocket No. 7449.United States Board of Tax Appeals11 B.T.A. 169; 1928 BTA LEXIS 3851; March 23, 1928, Promulgated 3851 1. Personal service classification denied. 2. Evidence held insufficient to prove the value of patents for purposes of invested capital and exhaustion. John G. Jaeger, Esq., and A. H. Jarman, Esq., for the petitioner. J. Arthur Adams, Esq., for the respondent. MURDOCK 169 This is a proceeding for the redetermination of deficiencies in income and profits taxes for the calendar years 1919 and 1920 in the respective amounts of $4,766.41 and $2,732.89. The petitioner alleges that the Commissioner erred in disallowing it a classification as a personal service corporation, or, if such classification was properly denied, that the Commissioner erred in disallowing (1) certain invested capital, and (2) exhaustion of patents in the amount of $2,941.17 for each of the above years. FINDINGS OF FACT. The petitioner is a corporation of the State of New York, having its principal office in New York City. It was incorporated in March, 1909, by George J. Mashek, for the purpose of carrying on the business in which he had been engaged as an individual. This consisted of performing the services of consulting engineer, principally in designing3852 briquetting plants and machinery and superintending 170 the construction of such plants after they had been designed. The business of designing briquetting plants and equipment is one requiring a high degree of technical knowledge, skill and experience. Mashek was a consulting engineer of some years' experience and an expert in designing briquetting plants, well-known in this country and in Europe for his ability along these lines. The petitioner rented small offices in the City of New York, and maintained a permanent office force consisting of Mashek as president and general manager, a treasurer, a secretary, and a stenographer, the latter two positions during a great part of the time being assigned to the same person. There were in addition one to four draftsmen as the needs of the business warranted. Certain men were also employed from time to time as superintendents, to supervise the construction of plants designed by the petitioner, but during the taxable years no such superintendents were needed or employed. In designing briquetting plants and superintending their construction, the petitioner operated under two kinds of contracts. The majority of its contracts3853 were with firms located in the United States, and in these the petitioner agreed for a specific sum to perform all the engineering services, including the furnishing of plans and specifications, the securing of quotations as to prices of machinery and equipment, the placing of orders for the same with the consent of the clients, and the superintending of the construction of the plants and their operation for a limited time. As to other contracts with firms outside the United States, it was the petitioner's custom to draw up plans for the plant and to order the necessary machinery and equipment billed to the petitioner's account. In such cases the contract with the client would include the whole price of the machinery and equipment as billed, plus an amount to cover the engineering costs and fees. The machinery was shipped to the foreign client and a sight draft was attached to the bill of lading. After the sight draft was accepted and the amount received by the petitioner, the latter paid for the machinery billed to it by the manufacturers. The petitioner manufactured no machinery or equipment, but employed one man having a small shop in Jersey City to build certain small rolls3854 which were used in one of the processes for fashioning briquettes. The total equipment used to manufacture these rolls did not cost more than $125 and no profit was charged or made on this phase of the business. The whole profit of the petitioner consisted in its charges for engineering services. In some cases where briquetting plants had been in operation the owners would require special parts for the equipment built under the petitioner's 171 designs and would order them from the petitioner which in turn would order these parts from the foundry or machine shop and charge the client for its services, in purchasing and inspecting, a sum to cover overhead expenses in excess of the price paid by the petitioner to the manufacturer. The gross business carried on in such sales for 1919 was approximately $2,000, and for 1920, approximately $700, while the petitioner's gross income from its business in those two years amounted to approximately $43,000 and $37,000, respectively. In performing its engineering services the petitioner operated under the following plan: When a client came with a proposition for the erection of a briquetting plant he was interviewed by Mashek, who3855 then made an inspection of the ground and submitted a report as to the most desirable plant, preparing preliminary drawings, showing the location and equipment of the proposed plant and an estimate of its cost. All of this work was done by Mashek personally in accordance with his own ideas. After approval by the client of the preliminary plans, final plans, detail drawings, and specifications for the plant and machinery were prepared under Mashek's direction. He then ordered the machinery required for the plant and personally inspected it before shipment to the client. In cases where a superintendent was employed to see that the plans and specifications were followed in the construction of the plant and equipment, Mashek, from time to time visited the plant and inspected the building and machinery until it was finally turned over in operation to the client. The duties performed by Mashek in designing the plant and equipment and in directing the preparation of detailed drawing and specifications could be performed by no one else in the organization due to the fact that he alone possessed the requisite technical knowledge and experience. On January 1, 1919, the capital stock3856 of the petitioner consisted of 500 shares of which 359 1/2 were issued and outstanding in the names of the following persons as noted on the corporation's stock book: StockholderNumber of sharesGeorge J. Mashek180Eleanor J. Mashek50M. B. Mashek50James H. Cullen, jr75Howard G. Arnold2 1/2L. M. Adami2Total359 1/2The stock of Eleanor J. Mashek and M. B. Mashek, wife and daughter, respectively, of George J. Mashek, was kept in the latter's 172 possession in his safe deposit vault and was endorsed in blank. This was a "family arrangement." Some time during the year 1920 Mashek acquired the 75 shares of stock standing in the name of James H. Cullen, Jr. The latter had been secretary of the petitioner for a few months in 1910, but since that time had no connection with the petitioner except as a stockholder. Eleanor J. Mashek and M. B. Mashek rendered no services to the petitioner, while Arnold was treasurer and office manager, Adami was secretary, and George J. Mashek was president and general manager. George J. Mashek, the president and general manager, died in May, 1926, before the hearing in this case. During the year 19193857 the corporation had three employees regularly employed for the whole year whose total salaries amounted to $7,380, and ten part-time employees whose total salaries amounted to $4,597.15. One of these thirteen employees was the secretary of the corporation while the remainder were draftsmen. During the year 1920 there were four employees regularly employed for the whole year whose total salaries amounted to $7,226.05, and one man employed from January 1 to April 30 at a salary of $900 for this period. One of these five employees was the secretary of the corporation and the remainder were draftsmen. Comparative balance sheets and ordinary and necessary expenses of the petitioner for the years 1919 and 1920, as reported for those years in its income-tax returns, which were offered in evidence by the respondent, were as follows: Schedule E: Comparative balance sheetJanuary, 1919Dec. 31, 1919Dec. 31, 1920ASSETSCash in bank and on hand$12,844.55$46,703.24$11,509.42Office equipment215.00233.45Accounts receivable8,212.284,472.0917,182.84Materials on hand2,121.662,180.505,672.02Catalogues650.00Patterns2,000.002,000.001,500.00Subscriptions1,750.001,750.00Commissions deferred2,000.00Loans receivable53.11100.00Patents50,000.0047,058.8344,117.66Liberty bonds10,000.0010,000.00Accrued interest on Liberty bonds318.21United States certificates10,000.00Contract No. 66260.00Grinding room equipment410.05Total79,578.49114,692.77101,043.65LIABILITIESAccounts payable8,003.1630,017.8813,347.69Uncompleted contracts14,775.0011,150.009,816.04Capital stock42,900.0042,900.0039,514.37Surplus13,900.3330,624.8938,365.55Total79,578.49114,692.77101,043.653858 Schedule A-13. - Ordinary and necessary expenses.19191920Patterns$3,678.56Blue prints and drawings$4,602.35Commissions2,000.00Pattern repairs741.93Traveling expenses833.97Pattern cost1,195.43Advertising672.17Drafting supplies42.31Catalogues686.75Draftsmen's salaries2,433.31Experimental expense41.25Small tools110.50Legal and professional375.00Engineering expenses121.01Difference in balance62.09Commission852.00Telephone114.05Traveling expenses1,471.12Telegraph89.42Advertising979.90Stationery and supplies158.35Legal and professional830.80Office expenses210.49Telephone161.48Rent1,100,04Telegraph45.12Shop rent206.66Stationery and supplies197.19Bank exchange4.26Office expenses802.64Postage65.17Rent, office1,100.04Expressage8.68Office salaries2,377.08Grinders' wages5.50Rent, shop354.20Insurance61.05Bank exchange10.21Merchandise expense11.70Expressage16.19Office salaries1,335.00Insurance101.39Draftsmen's salaries4,053.05Discounts2.27General salaries1,480.22Total17,253.43Total18,548.473859 173 The business of the petitioner was spasmodic with one good year sometimes followed by several poor ones and the cash on hand and Liberty bonds and United States certificates shown in the balance sheets were carried for the purpose of paying the office expenses and employees during those years in which there was little business. On June 5, 1909, Mashek assigned to the petitioner two patents, one for the process of preparing pulverulent materials for briquetting and the other for equipment to be used in carrying out the process. The considerations recited upon the assignments were for each patent the sum of $1 and other considerations. In some cases certain of the machinery to be used by the petitioner's clients was manufactured under these patents and in other cases the patents were not used. One of the petitioner's contracts offered in evidence provided as follows in respect to patents: 8th. On completion and payment for plant, we will issue you a license for the right to operate this plant without payment of any further royalty, and use our patented machinery and processes covered by five United States patents issued and other patent applications pending, with3860 the exception as specified below. * * The processes and machinery equipment specified to be furnished are covered by five United States patents with other patents pending as stated above, and the rights to use this equipment in Newark are included on completion of the 174 payments of the fixed sum mentioned above and payment of all other bills. We will then issue you a license giving you the right to use this equipment free from any further royalty charge, reserving the right, however, to refer to and show this plant to others at any reasonable time upon written request to you signed by an officer of this company, with the understanding that any such portion of the Binder Plant you desire to keep secret need not be shown or disclosed to others. Also that you will order from us and pay for all necessary wearing and repair parts for the plant during the life of these patents, which will be furnished you at our regular prices which are based on cost plus 20% net profit to us. No royalties were ever received by the petitioner from the two patents. OPINION. MURDOCK: The petitioner has advanced two contentions: (1) That within the provisions of section 200 of the3861 Revenue Act of 1918 it should be classified as a personal service corporation, or (2) that if it is not classified as a personal service corporation then it should be allowed a valuation of two patents for the purpose of invested capital and a deduction of $2,941.17 for exhaustion of the two patents in each of the taxable years. In our findings of fact we have described at some length the general practice of the petitioner in carrying on its business since the time of its organization. However, it does not appear that all of these facts apply to the taxable years in question. In order to be classified as a personal service corporation under the above Act, the petitioner must meet the three requirements set forth in section 200, namely: (1) the principal stockholders must be regularly engaged in the active conduct of the business, (2) the income must be attributable primarily to their activities, and (3) capital must not be a material income-producing factor. When we come to consider the first requirement we are met with the fact that the corporation's books at the beginning of the first taxable year show that 175 shares of its stock out of a total of 359 1/2 outstanding shares3862 were in the names of persons not regularly engaged in the active conduct of the business of the corporation. Seventy-five shares were held by James H. Cullen, Jr., who during the taxable years had no business connection with the petitioner save his stockholding. Mashek, the majority stockholder, purchased Cullen's 75 shares during the year 1920, but the evidence does not show the date of this purchase. Mashek's wife and daughter each having 50 shares of the stock were not at all engaged in the active conduct of the business. These shares had been endorsed in blank by the owners thereof and were kept in Mashek's safe deposit vault under a "family arrangement," which was not explained. We have heretofore held that the endorsement in blank and delivery of certificates by a wife to her husband 175 is not sufficient to vest title thereto in the latter in the absence of evidence showing that there was an intent to pass title. . In respect to these shares the petitioner has not produced evidence to show that the title thereto has passed to the majority stockholder from his wife and daughter. 3863 Where three stockholders who are not regularly engaged in the active conduct of the petitioner's business, and whose activities do not contribute to its income, hold such a large percentage of the outstanding stock, two of the requirements of the Act are not met and the petitioner can not be classified as a personal service corporation. See , in which case the opinion was in part as follows: Any corporation claiming to be a personal service corporation must bring itself fairly within the requirements of such an organization, as provided by law. Every corporation has full control of its own activities. It knows what the requirements of a personal service corporation are. It may comply therewith and casily keep within the limits thereof if it so choose, or it may not if it otherwise prefers. If it does not fairly observe and keep within the requirements of the law, it should not claim the benefits which the law confers. To nearly comply with the law, or to come within hailing distance thereof, is not enough. * * It is necessary, not only that the income of the corporation shall be derived from personal service, 3864 but also that it shall be derived primarily from the activities of those who principally are to share in that income, and therefore in the benefits of the law. If this were not so, the personal service in such cases might be rendered by one or two, or a few only, and others largely interested in the corporation, but rendering no service, might be capitalizing the efforts of these few and realizing a profit therefrom. The petitioner has also failed to prove its contention in regard to invested capital and exhaustion. The Revenue Act of 1918 contains the following provision in respect to invested capital: Sec. 326(a) That as used in this title the term "invested capital" for any year means (except as provided in subdivisions (b) and (c) of this section): * * (4) Intangible property bona fide paid in for stock or shares prior to March 3, 1917, in an amount not exceeding (a) the actual cash value of such property at the time paid in, (b) the par value of the stock or shares issued therefor, or (c) in the aggregate 25 per centum of the par value of the total stock or shares of the corporation outstanding on March 3, 1917, whichever is lowest. 3865 No satisfactory evidence was presented as to any of the three measures of value set forth in this section, and in the absence of such evidence no valuation for invested capital purposes can be allowed. . The sole evidence to show the March 1, 1913, value of the two patents in question for the purpose of exhaustion was contained in the deposition of a consulting engineer. At the time the deposition was taken the respondent objected to the competency of the witness' 176 opinion as to the March 1, 1913, value, one of the reasons given for the objection being that the witness had not shown himself to be qualified to testify as to value. This deposition was offered in evidence at the trial of the case before the Board and was accepted subject to the objections raised at the time the deposition was taken, with the understanding that the Board should reserve its ruling on the objections until the case was taken up for a decision. We doubt seriously whether it has been shown that this witness was qualified to give an opinion as to the March 1, 1913, value of the patents and even if the objection to his testimony3866 be overruled we think that little or no weight can be attached to his opinion. The witness in qualifying himself stated that he had been a consulting engineer for various iron and steel companies, a by-product coke oven company, smelting and refining companies, a coal and iron company and some other industrial concerns. He stated that he was familiar with the two patents and had seen three plants equipped with machinery covered by the patents and the product of a plant so equipped. He then gave it as his opinion that the fair valuation of these two patents as of March 1, 1913, was $50,000. The evidence in this case shows that the designing of briquetting plants and equipment requires a high degree of technical knowledge, skill and experience, and the petition alleged that "as consultant engineer in this field [designing and constructing briquetting plants], special technical training experience and expert knowledge are necessary and essential." The witness has undoubtedly qualified as a consulting engineer of experience and his opinion as to values of plant equipment, or product of those businesses with which he was familiar by experience would undoubtedly be acceptable but3867 for the purposes of this particular case the witness has not shown that he has such a familiarity with the briquetting business, or that he has been informed sufficiently in regard thereto to give an intelligent and reliable opinion as to the value on March 1, 1913, of the two patents in question. The respondent offered in evidence the petitioner's corporation excise and income-tax returns from the year 1909 to the year 1922, which showed that for a period of five years from its incorporation up to and including the year 1913 its losses far exceeded any profits realized. It also appeared from the evidence that in designing briquetting machinery and plants the two patents in question were used in some cases and in others were not used. These facts would seem to indicate also that the patents had no such March 1, 1913, value as the petitioner would claim for them but in fact that they had little value if any at all. Judgment will be entered for the respondent.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621873/	A. J. Gilbert v. Commissioner. Etta L. Gilbert v. Commissioner.Gilbert v. CommissionerDocket Nos. 14977, 14978.United States Tax Court1952 Tax Ct. Memo LEXIS 228; 11 T.C.M. (CCH) 457; T.C.M. (RIA) 52135; May 12, 1952228 A. John Pfeiffer, C.P.A., for the petitioners. Ralph V. Bradbury, Esq., for the respondent. RAUMMemorandum Findings of Fact and Opinion RAUM, Judge: The Commissioner determined deficiencies in income and victory taxes for the year 1943 in the amount of $3,839.83 against petitioner A. J. Gilbert and $719.11 against petitioner Etta L. Gilbert; he also determined deficiencies in income tax against these petitioners for the year 1944 in the respective amounts of $1,393.80 and $488.02. The deficiencies are based upon a number of adjustments, some of which are not now in dispute. The petitioners are husband and wife, residing in Columbia, South Carolina. They filed their returns for the years in controversy with the collector of internal revenue for the district of South Carolina. The parties have filed a stipulation of facts and have entered into certain oral stipulations during the course of the trial. The facts thus stipulated are hereby found and incorporated herein by reference. 1. During the years 1934-1943, inclusive, A. J. Gilbert was employed by B. S. McDade who operated a sole proprietorship known as Richland Oil Company. A. J. Gilbert was general manager229 of Richland Oil Company and was in charge of its filling stations; he was to receive one-half of the profits of the business. The Richland Oil Company was not registered as a partnership and no partnership returns were filed for any of the years 1934-1944, inclusive. In 1938 A.J. and Etta L. Gilbert jointly purchased three lots and a dwelling in Charlotte, North Carolina, at a total cost of $4,100. Shortly thereafter, a filling station was constructed on this property, the cost of which was paid by Richland Oil Company and recorded on its books as an asset of its business. Certain other improvements such as pumps and neon signs were also placed on the property at the expense of Richland Oil Company and recorded on its books as an asset of its business. The understanding of the Gilberts and McDade that the filling station and accompanying improvements belonged to McDade is reflected in the practice whereby McDade claimed depreciation on his returns for the years 1938-1942 with respect to the filling station and improvements whereas no such depreciation was claimed by the Gilberts for those years. In 1943 McDade and A. J. Gilbert terminated their business relationship in unpleasant230 circumstances, and McDade deducted the depreciated book value of the Charlotte filling station and improvements as an abandonment loss. After the split between McDade and A. J. Gilbert, the Gilberts in 1943 sold the Charlotte property (consisting of the three lots, the house, and the filling station and improvements placed upon the property) for an aggregate sales price of $16,300. In determining the deficiencies for 1943 the Commissioner refused to include in the cost basis of the property thus sold any amount for the cost of the filling station and related improvements. Moreover, he treated the filling station and improvements as having been acquired by the Gilberts only upon abandonment by McDade, and therefore treated that portion of the capital gain allocable to the filling station and improvements as short-term capital gain, taxable in full. The remaining capital gain, taxable in full. The remaining capital gain was treated as long-term capital gain, only one-half of which was included in income. No error has been assigned as to the allocations, but petitioners challenge the Commissioner's use of a zero basis for the filling station and improvements, as well as his related231 action in treating the latter as acquired only upon surrender to them by McDade. Petitioners argue that the arrangement between A. J. Gilbert and McDade over the years was a partnership, that A. J. Gilbert contributed his share of the cost of the filling station and improvements, and that he had an interest in them all along. The evidence in this respect is vague, and in part contradictory. Nevertheless, we are satisfied and find as a fact that there was no partnership, that McDade paid for the filling station and improvements, and that petitioner acquired them without cost in 1943 when McDade abandoned them. In the circumstances, the Commissioner's action in this respect must be sustained. In connection with the Charlotte filling station, the Commissioner made a further adjustment affecting tax liability of both petitioners for 1943, by denying depreciation deductions on account of the filling station, treating it as having a zero basis in the hands of petitioners. Our conclusion above as to the gain on sale of the property requires that we approve the Commissioner's action in relation to the depreciation issue. Not having paid anything for the filling station, petitioners are232 not entitled to depreciation with respect thereto. 2. A. J. Gilbert owed land in fee simple in Columbia, South Carolina, on which the so-called Taylor Street, 2304 Main Street, and West Columbia filling stations were constructed. The land was purchased in the name of A. J. Gilbert with funds furnished by the Richland Oil Company, which, however, were charged to A. J. Gilbert's drawing account. But the expenses incurred in constructing the filling stations and improvements were, as in the case of the Charlotte filling station, paid by the Richland Oil Company and recorded on its books as an asset of its business. McDade had claimed depreciation on these filling stations and improvements each year from the date of acquisition until the year when they were no longer under his control. He claimed abandonment losses for the depreciated book value of the buildings and improvements in the taxable year 1944. A. J. Gilbert claimed no depreciation on either the buildings or improvements during any of the years 1938-1943, inclusive, nor did he have them recorded on his books and records until 1944. The filling station and improvements at the Taylor Street, 2304 Main Street, and West Columbia233 sites were acquired by A. J. Gilbert without cost, when they were abandoned to him by McDade. In determining the deficiency against A. J. Gilbert for the year 1944, the Commissioner disallowed depreciated deductions in the aggregate amount of $935 with respect to these three filling stations. Since we have found that A. J. Gilbert acquired the filling stations without cost, we approve the Commissioner's determination in this respect. 3. During the period 1934 to 1943, A. J. Gilbert reported substantial amounts as "salaries" earned, and the amounts so reported were deducted as "salary expense" by B. S. McDade. In 1942 A. J. Gilbert reported earnings in the amount of $17,391.46 as having been received from B. S. McDade, his "employer". In answer to questions on his 1942 and 1943 Federal income tax returns he indicated that he was a salaried employee. On his 1943 return, A. J. Gilbert did not report any salary from B. S. McDade or the Richland Oil Company, but attached a statement to his return which reads as follows: "Richland Oil Co. claims they paid certain funds for my account and charged same to me, but up to the time this return is being filed have been unable to secure234 sufficient information from them to ascertain what they have paid for my account that would make me liable for Income Tax Purposes. Mr. C. M. Young, with the Columbia Audit and Record Service, which firm is filing my return for me has tried several times to secure this information from them but has also been unable to do so. This is the reason for my filing a Tenative return. The $180.00 in above schedule is the only funds I have received and if and when I am able to ascertain that they have paid out funds for me and charged same to my account, which would make me liable for taxes, I will immediately file an amended [amended] return." A. J. Gilbert made no efforts to ascertain his withdrawals from the Richland Oil Company nor the charges which were made against his drawing account for money expended for his benefit other than as set forth in the above statement. In determining the deficiency against A. J. Gilbert for 1943, the Commissioner added $11,878.17 to petitioner's income as salary received from B. S. McDade on behalf of Richland Oil Company. The total debits to A. J. Gilbert's drawing account on the general ledger of the Richland Oil Company for 1943 totaled $16,417.03, 235 of which $8,568.77 represented items in cash paid out on A. J. Gilbert's behalf, such as payments of A. J. Gilbert's personal taxes, utility bills, etc. The balance is made up of journal entries on the last day of the year, of which no details appear in the ledger. After examining all the evidence, we are satisfied and find as a fact that the correct amount to be added to petitioner A. J. Gilbert's income as salary for 1943 is $8,568.77. 4. Revisions in several depreciation deductions account for further adjustments made by the Commissioner in A. J. Gilbert's tax liability. (a) The Commissioner allowed depreciation at the rate of three per cent, rather than four per cent as claimed by petitioner, with respect to the so-called Rosewood Drive house. No evidence was introduced on this matter, and since the burden rests upon petitioner, the Commissiiner's action in this regard must be approved. (b) A. J. Gilbert purchased a corner lot with a brick building thereon located at 1827-31 Main Street, Columbia, South Carolina, for $27,000 in 1944. This building is at the present time over fifty years old and fronts on Main Street approximately fifty-two feet and on Richland Street approximately236 ninety feet, with the lot being approximately fifty-two by one hundred and thirty-eight feet. The building consisted of a ground and second floor when purchased. Thereafter, A. J. Gilbert constructed a basement. At the present time, there are a radio store and furniture store located on the ground floor, housekeeping rooms on the second floor, and in the basement there is a bar and drink stand, as well as a warehouse for furniture. The property is now in such state of disrepair as to require extensive improvements within the next few years. The property was purchased as an investment during a period when there was considerable expansion in the neighborhood. This property is located in the heart of the business district in an area of active expansion and development and the land is of great value. In determining the deficiency against A. J. Gilbert for 1944, the Commissioner computed depreciation upon the 1827-31 Main Street property by allocating one-half of the purchase price ($13,500) to the land, and by allowing depreciation with respect to the remaining $13,500 allocated to the building. Petitioner argues that only $5,000 should be allocated to the land and $22,000 to the237 building. We have examined the record carefully and are satisfied and find as a fact that the cost of the building, subject to depreciation, was $13,500, as determined by the Commissioner. 5. In determining the deficiency against A. J. Gilbert for 1944, the Commissioner revised petitioner's income upwards by $2,042.35 by reason of alleged understatement of sales at the West Columbia filling station. The reason for the Commissioner's action was that the percentage of cost of goods sold to sales reported at the West Columbia station was substantially higher than like percentages at two other filling stations owned by petitioner. Accordingly, by applying a formula based upon the average of the other two stations the Commissioner increased petitioner's income at the West Columbia station by $2,042.35. However, petitioner testified that the West Columbia station made sales at wholesale with a smaller margin of profit. We accept that testimony as truthful, and are satisfied that there is no basis for increasing petitioner's income from the West Columbia station, as was done by respondent. In this respect, respondent's determination is disapproved. 6. The determinations of deficiency238 against Etta L. Gilbert were based in part upon downward revisions of several depreciation deductions. Apart from the depreciation on the Charlotte property, which has already been covered, and apart from depreciation on property at 1914 Main Street, Columbia, South Carolina, which will be considered below, petitioner offered no evidence as to the basis, age and character of the remaining properties (Colonial Drive and Rock Hill properties). Accordingly, the Commissioner's determination in relation to the latter must be approved. On July 8, 1944, Etta L. Gilbert purchased a parcel of property at 1914 Main Street, Columbia, South Carolina, consisting of land and a building for a total consideration of $15,000. In determining the deficiency against her for 1944, the Commissioner, in computing depreciation on the building, allocated $7,500 of the cost to land and the remaining $7,500 to the building. The petitioner for review filed with this Court claimed that $10,000 should be allocated to the building; and, on brief, it is now asserted in her behalf that $11,500 of the total cost should be allocated to the building. The lot involved is in the middle of the 1900 block of Main Street, 239 fronting thirty feet thereon. In the spring of 1944, a Mr. L. R. Scoggins acquired a vacant lot with a fifty-seven foot frontage contiguous to the 1914 Main Street property for $8,625. The Scoggins lot was deeper than that purchased by Etta L. Gilbert. Taking all the evidence into account, we are satisfied that of the $15,000 paid by petitioner, $6,000 was paid for the land and $9,000 for the building, and we so find as a fact. Depreciation on the building should be computed on the basis of $9,000 cost. 7. The deductibility of certain local county and municipal taxes paid by A. J. Gilbert in 1944 is in dispute. (a) Property located at 2000 Assembly Street, Columbia, South Carolina, was purchased and paid for by petitioner A. J. Gilbert prior to 1944. For personal reasons, title was taken in the name of his daughter, Almeta G. McDade. Subsequently, on September 9, 1944, Almeta conveyed the property to A. J. Gilbert, and Federal stamps aggregating $8.25 were affixed to the deed. Almeta lived at 2000 Assembly Street and paid no rent for the period when the property stood in her name. She received no income therefrom and paid no taxes, insurance, or interest with respect to the property. 240 On December 28, 1944, A. J. Gilbert paid $143.07 representing county and municipal taxes on this property. We are satisfied that A. J. Gilbert owned the property during the period in question, notwithstanding that it was in his daughter's name for a portion of the time, and accordingly we hold that the taxes he thus paid with respect to his property are deductible. (b) Property located at Gervais and Pulaski Streets, Columbia, South Carolina, was purchased by A. J. Gilbert, with his own funds, but, for personal reasons, title was taken in the names of Bettie May Brand and Leslie P. Brand, his daughter and son-in-law. The Brands conveyed the property to A. J. Gilbert by deed dated September 20, 1944, to which were affixed Federal stamps in the amount of $8.25. The property consisted of a lot on which were located four rented houses. The Brands received no income from the property, and paid no taxes, insurance or interest with respect to the property. On December 28, 1944, A. J. Gilbert paid $84.14 county and municipal taxes on this property. The property was his and the taxes thus paid by him are deductible. (c) The Commissioner disallowed $504.10 representing county and municipal241 taxes paid by A. J. Gilbert on the property located at 1827-31 Main Street$ Columbia, South Carolina. He had purchased the property on March 21, 1944, and as part of the purchase agreement the county and municipal taxes were prorated between vendor and vendee to the date of sale. In South Carolina, property taxes are assessed effective January 1 and are payable on or after October 15 and are delinquent after December 31. The $504.10 was assessed against Exchange Investment Company, the vendor, and paid by A. J. Gilbert on December 28, 1944. The tax liability involved had attached before A. J. Gilbert purchased the property. The issue has been before the courts in a variety of situations, and it is well established that payment of real estate taxes by a vendee which had already attached to the property prior to purchase constitutes a capital item and is part of the cost of the property; such payment is not deductible by the vendee. Decisions will be entered under Rule 50.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621874/	Deseret Live Stock Company v. Commissioner.Deseret Live Stock Co. v. CommissionerDocket No. 33729.United States Tax Court1953 Tax Ct. Memo LEXIS 326; 12 T.C.M. (CCH) 310; T.C.M. (RIA) 53093; March 25, 1953Walter G. Moyle, Esq., 1109 Warner Building, Washington, D.C., and Seymour Wells, C.P.A., for the petitioner. R. G. Harless, Esq., for the respondent. OPPERMemorandum Findings of Fact and Opinion OPPER, Judge: Respondent determined deficiencies in petitioner's income tax liability as follows: YearsDeficiency1946$3,818.1919472,833.1819483,805.18Respondent's motion for leave to amend his answer in order to allege an increased deficiency, made subsequent to the close of the hearing, was denied under Section 272 (e), Internal Revenue Code. Certain overpayments are claimed by petitioner. Both parties have conceded some issues. The remaining question is whether income from the sale of heifers during the years in controversy resulted in a capital gain within the327 meaning of the 1951 amendments 1 to section 117 (j), Internal Revenue Code. Findings of Fact Some of the facts have been stipulated and are found accordingly. Petitioner is a corporation organized under the laws of Utah, and maintains its principal office in Salt Lake City, Utah. It filed Federal income tax returns for the years in controversy on an accrual basis with the collector for the district of Utah. At all times in controversy petitioner was engaged in the business of raising and selling cattle, sheep, and wool. For many years petitioner has maintained herds of sheep and cattle, for the production of wool, for breeding purposes, and for sale. During the years in controversy petitioner's breeding herds numbered approximately 40,000 sheep and 5,000 cattle. Petitioner owned in fee large areas of grazing lands and obtained the use of approximately 500,000 acres of public grazing lands under the Taylor Grazing Act. Extensive ranch lands were maintained for the production of hay and grain. These lands were irrigated by water from reservoirs maintained by petitioner. Petitioner's sheep and cattle were328 largely dependent for feed upon its grazing lands and the products of petitioner's ranches, which were dependent in turn upon rainfall. Water for petitioner's livestock and for maintenance of its reservoirs was similarly dependent. During or after impairment of grazing lands, ranch products and water, due to drought, or upon the occasion of such other natural events as accumulation of ice and snow which impeded feed distribution on the range, it became necessary for petitioner to reduce the number of animals in its various herds. During the period from May to November 1 of the years in controversy, and for many years prior thereto, petitioner maintained most of its livestock on its eastern properties or ranches located in Richmond, Summit, Morgan, and Weber Counties, Utah, an area of approximately 225,000 acres of fee land which was practically in one block. Both the sheep and the cattle grazed on the same territory in the summer and ate the natural grasses, forage, and "browses." In the winter the sheep were transported by rail to petitioner's lands in Tooele County, Utah, and grazed there on the natural grasses. The cattle remained on the eastern property and were fed on hay which329 had been grown and stored during the previous summer. Petitioner worked continuously to improve its range capacity and productivity by the purchase of contiguous lands within and without its boundaries and by constructing reservoirs, reseeding its grazing lands, improving its fencing, and eliminating trespassers. Petitioner sold heifer yearlings (female cattle between 12 and 24 months of age) and two-year olds (between 24 and 36 months of age) during the years 1940 through 1948 as follows: YearNumber sold19401194101942351943119443991945019468241947471194843Approximate ages, in months, of heifers sold during the years in controversy, at the time of sale, were as follows: DateNumberAge, Months1/ 5/4674321/ 5/46155221/ 5/4636221/ 8/4632211/18/465021911/18/4654194/21/474701212/ 8/4712012/ 3/484320Petitioner did not purchase any cows, heifers or heifer calves during the taxable years or in prior years. All of the heifers in controversy were raised animals, were more than six months old when sold, and were held by petitioner for more than six months. 330 During the taxable years in controversy and for many years prior thereto, it was petitioner's established policy to hold female animals which were part of the breeding herd until they became unsuitable for breeding purposes because of age, disease, injury, sterility or any other disability, or because of an unexpected limitation on range capacity due to drought, storm, extreme cold or other catastrophe. The male cattle raised by petitioner were either sold as calves or retained as bulls for breeding purposes. Petitioner did not raise or maintain any heifers in the ordinary course of business except for breeding purposes, and regarded all female calves from time of birth as members of the breeding herd. The period of gestation for cattle is approximately nine months. It is quite possible for aheifer to become impregnated at the age of 12 months and to bear a calf at the age of 20 to 22 months. Petitioner turned its bulls into the breeding herd about the middle of June of each year and removed them in December. The sale of heifers in January of 1946 was motivated by unusually dry ranges due to the absence of rain and snow, and the prospect of a serious drought in the summer of331 1946. The drought which in fact occurred in the summer of 1946 was the most severe since 1934 and had disastrous effects on petitioner. It lasted through the entire grazing season, caused grasses to dry up, leaves to fall off and browse, springs to dry up, reservoir levels to fall, and crops to wither. The number of heifers sold was governed by petitioner's estimate of feed requirements and available supply. The sale of heifers in November 1946 was motivated by the drought of that year. The sale of 470 heifers in April 1947 was made in order to relieve the burden on petitioner's drought-damaged range, prevent general detriment to the remainder of the herd, and facilitate the rehabilitation of the range. The 470 heifers sold in April 1947 were not born until the spring of 1946, when the drought had been anticipated and had begun. At no time during the years in controversy or prior thereto did petitioner have a normal surplus of female cattle. Petitioner was able at all times to provide for all able-bodied members of the breeding herds of cattle through its owned range lands, its grazing rights on public lands, and its reservoirs and ranch products, except in times of emergency and332 catastrophe such as existed in 1946 and 1947, when a reduction in the herd became necessary. Petitioner never engaged in the business of feeding livestock for fattening and never acted as a broker either in buying or selling. The 36 heifers sold on January 5, 1946, the 43 sold on December 3, 1948, and the single heifer sold on December 8, 1947, were culls, or animals which had become undesirable for breeding due to sickness, sterility or some inferiority. The sale of these 80 animals resulted in a capital gain. The sale of the additional 1,258 heifers sold during the years in controversy was attributable solely to drought, range rehabilitation after drought, and the elimination of culls. In his determination of petitioner's net income respondent, for each of the years 1946, 1947, and 1948, allowed depreciation on certain bulls and bucks which were sold in those years. The depreciation so allowed was applied by respondent to reduce the basis of the animals sold. Petitioner had not deducted this depreciation on its tax returns and likewise had not applied it to reduce the basis of the animals sold. The effect of the respondent's adjustments should have been to reduce the ordinary333 net income by the amount of the depreciation and to increase the long-term capital gain by the same amount. These adjustments should not have changed the net income at all since the reduction for additional depreciation was equal to the increase in the gain from the sale of the bulls and bucks. Respondent, however, reduced the net income by the additional depreciation without making a corresponding increase for the addition to capital gains and then deducted from the net income so reduced the increased capital gain to arrive at the ordinary income. The effect of this was to allow the depreciation twice and to understate the ordinary net income by the amount of the depreciation which was $1,890.16, as follows: For the year 1946$968.34For the year 1947557.20For the year 1948364.62Total$1,890.16Respondent's allowance of excessive depreciation to petitioner resulted in an understatement of its ordinary net income for the years in controversy. Opinion Respondent characterizes the present issue as "a factual determination." See Regulations 111, sec. 29.117-7 (c). Under the present circumstances that may well be so. The amendment to section 117 (j) accomplished334 by the Revenue Act of 1951 may, as respondent insists, have been no more than declaratory of existing law. Even on that assumption, the distinction from such cases as Walter S. Fox, 16 T.C. 854">16 T.C. 854, affirmed (C.A. 4), 198 Fed. (2d) 719, and Laflin, et al. v. United States (D.C. Neb.), 100 Fed. Supp. 353, is manifest. In the Fox case petitioner was in the business of selling registered livestock for breeding purposes and "registration was of equal importance in insuring a market for such stock as breeders. * * * Petitioners' custom of selling the heifers with calf, and the bulls with the guarantee that they were breeders, necessitated that they be bred once." And as to Laflin v. United States, supra, respondent describes "the basis or theory of the Court's decision * * * [as] that these animals had not become members of the breeding herd and were regularly raised for sale; that they constituted the yearly 'money crop.'" The present situation is diametrically opposite. Petitioner's regular course of business was to retain all heifers for the breeding herd but to sell a large proportion of the young bulls. None of the latter are in controversy. 335 Cf. James M. McDonald, 17 T.C. 210">17 T.C. 210. Our findings show that there were a number of years in which no heifers whatever were sold; that in several other years only those were sold which were "culled" from the breeding herd and no longer suitable for that purpose, Albright v. United States (C.A. 8), 173 Fed. (2d) 339; and that only when extraordinary and unusual conditions of drought made it necessary temporarily to diminish the size of the herd were those heifers sold which give rise to the present controversy. See Pfister v. United States (D.C.S.D.), 102 Fed. (2d) 640, where sale was occasioned by difficulties in obtaining ranch help. The most nearly plausible argument is respondent's suggestion that since the drought was foreseen about or before the beginning of 1946, some part of the sales made in that year were taxable as ordinary income because petitioner must have recognized that it would be necessary for it to reduce its herd and thereby require that some part of its livestock be held for sale. But cf. O'Neill, et al., v. United States (D.C., S.D.Cal.), * * Assuming that this might be a reasonable inference where petitioner has the entire336 burden of proof, respondent by conceding in his deficiency notice that 598 out of 824 heifers sold in 1946 were held for use in petitioner's trade or business has undertaken the burden of proving the relevant facts to that extent which on this record seems to us to include proof of the necessary intent on the part of petitioner. This burden has certainly not been borne. Treating the issue as one of fact, we find it impossible to conclude under these circumstances that any of the heifers in question were "held" by petitioner "primarily" for - that is with the purpose of - "sale to customers in the ordinary course of its * * business." That conclusion, of course, becomes strengthened if the 1951 amendment 2 is construed to mean that animals of any age become property used in the trade or business upon acquisition if accompanied by an intent to introduce them into the breeding herd. That, however, is a question we need not now consider. Our finding that the livestock in issue were not held primarily for sale in the ordinary course of petitioner's business disposes of the proceeding. See Isaac Emerson, 12 T.C. 875">12 T.C. 875, 878-879. 337 In view of a depreciation issue, all of the facts as to which have been stipulated, and of other concessions by petitioner, a recomputation will be necessary. Decision will be entered under Rule 50. Footnotes1. Revenue Act of 1951, section 324.↩2. "Such term [property used in the trade or business] also includes livestock, regardless of age, held by the taxpayer for draft, breeding, or dairy purposes * *." Revenue Act of 1951, section 324. (Italics added).↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4669042/	ACCEPTED 08-20-00015-CV 08-20-00015-CV EIGHTH COURT OF APPEALS EL PASO, TEXAS 3/15/2021 1:52 PM CASE NO. 08-20-00015-CV ELIZABETH G. FLORES CLERK FILED IN IN THE EIGHTH COURT OF APPEALS 8th COURT OF APPEALS EL PASO, TEXAS EL PASO, TEXAS 3/15/2021 1:52:32 PM ELIZABETH G. FLORES Clerk JORGE L. HERNANDEZ, Appellant v. KING AEROSPACE, Appellee On Appeal from Cause No. 2017-DCV-0334 In the County Court at Law No. 3 Hon. Javier Álvarez, Presiding APPELLANT’S AMENDED REPLY BRIEF CATHERINE M. STONE HUMBERTO S. ENRIQUEZ State Bar No.19286000 State Bar No. 00784019 cstone@langleybanack.com enriquezlawfirm@sbcglobal.net OTTO S. GOOD THE ENRIQUEZ LAW FIRM, PLLC STATE Bar No. 08139600 1212 Montana Avenue ogood@langleybanack.com El Paso, Texas 79902 RUBEN VALADEZ Telephone: 915.351.4331 STATE Bar No. 00797588 Telecopier: 915.351.4339 rvaladez@langleybanack.com LANGLEY & BANACK, INC. Trinity Plaza II, Suite 700 745 E. Mulberry Avenue San Antonio, Texas 78212 Telephone: 210.736.6600 Telecopier: 210.735.6889 ATTORNEYS FOR APPELLANT JORGE L. HERNANDEZ TABLE OF CONTENTS TABLE OF AUTHORITIES...............................................................................ii ARGUMENT.................................................................................................. 1 I. The trial court did not direct the jury to return a verdict; it overturned the verdict the jury returned. .............. 1 A. Granting a JNOV in the absence of a written motion is not an acceptable practice in Texas. ....................... 2 B. The special master’s report cannot change, nor did it purport to eliminate, the requirement that a written motion for JNOV is necessary to disregard a jury verdict. .......................................................................... 9 II. Hernandez preserved error by filing a motion for judgment on the verdict, which the trial court denied. ........ 11 III. The trial court’s overturning the jury’s verdict prejudiced Hernandez. ........................................................... 14 IV. The evidence did not prove as a matter of law that Hernandez was King’s employee. .......................................... 19 CERTIFICATE OF WORD COMPLIANCE ........................................................ 27 CERTIFICATE OF SERVICE .......................................................................... 27 i TABLE OF AUTHORITIES Cases 4M Linen & Unif. Supply Co., Inc. v. W.P. Ballard & Co., Inc., 793 S.W.2d 320 (Tex. App.—Houston [1st Dist.] 1990, writ denied .............................................................................................. 4 1986 Dodge 150 Pickup v. State, 129 S.W.3d 180 (Tex. App.—Texarkana 2004, no pet.) ......................... 7 Allison v. State, 156 S.W.2d 527 (Tex. Crim. App. 1941) ....................................... passim Appellee’s Br. at 18-19 (citing, 111 S.W.3d 134 (Tex. 2003) ............................................................ 22, 23 Bywaters v. Gannon, 686 S.W.2d 593 (Tex. 1985) ............................................................ 19, 20 Carter v. State, No. 05-96-00805-CR, 1998 WL 83799 (Tex. App.—Dallas Feb. 24, 1998, no pet.) (not designated for publication) ............................................................. 7 City of San Benito v. Cantu, 831 S.W.2d 416 (Tex. App.—Corpus Christi 1992, no writ) .................. 5 Connell v. Connell, 889 S.W.2d 534 (Tex. App.—San Antonio 1994, writ denied) ............... 5 Emerson v. Tunnell, 793 S.W.2d 947 (Tex. 1990) ............................................................ 12, 14 Garza v. Exel Logistics, Inc., 161 S.W.3d 473 (Tex. 2005) .................................................................. 23 Gibraltar Sav. Ass’n v. Watson, 683 S.W.2d 748 (Tex. App.—Houston [14th Dist.] 1984, no writ).................................................................................................... 4 In re Bradle, 83 S.W.3d 923 (Tex. App.—Austin 2002, orig. proceeding) ......... passim In re John G. & Marie Stella Kenedy Mem'l Found., 315 S.W.3d 519 (Tex. 2010) .................................................................. 16 In the Interest of B.L.D., 113 S.W.3d 340 (Tex. 2003) .................................................................. 11 Jackson v. Axelrad, 221 S.W.3d 650 (Tex. 2007) .................................................................. 24 Lamb v. Franklin, 976 S.W.2d 339 (Tex. App.–Amarillo 1998, no pet.) .............................. 3 ii Newspapers, Inc. v. Love, 380 S.W.2d 582 (Tex. 1964) .................................................................. 24 Olin Corp. v. Cargo Carriers, Inc., 673 S.W.2d 211 (Tex. App.–Houston [14th Dist.] 1984, no writ).................................................................................... 3, 6, 16, 18 Pitman v. Lightfoot, 937 S.W.2d 496 (Tex. App.—San Antonio 1996, writ denied) ............... 4 Port Elevator-Brownsville, L.L.C. v. Casados, 358 S.W.3d 238 (Tex. 2012) .................................................................. 24 Robinson v. Humble Oil & Ref. Co., 301 S.W.2d 938 (Tex. Civ. App.—Texarkana 1957, writ ref’d n.r.e.) ....................................................................................... 4 Robles v. Mount Franklin Food, L.L.C., 591 S.W.3d 158 (Tex. App.—El Paso 2019, pet. denied) ............... 23, 24 Smith v. Safeway Stores, 167 S.W.2d 1044 (Tex. Civ. App.—Fort Worth 1943, no writ) .............. 8 St. Paul Fire & Marine Ins. Co. v. Bjornson, 831 S.W.2d 366 (Tex. App.—Tyler 1992, no writ) ......................... 15, 22 State v. ADSS Properties, Inc., 878 S.W.2d 607 (Tex. App.—San Antonio 1994, writ denied) ..................................................................................... 19, 20 White v. White, 172 S.W.2d 295 (Tex. 1943) .................................................................. 20 Wingfoot Enter. v. Alvarado, 111 S.W.3d 134 (Tex. 2003) ............................................................ 22, 23 Rules TEX. R. APP. P. 44.1.................................................................................. 15 TEX. R. CIV. P. 268 ................................................................................... 10 TEX. R. CIV. P. 301 ........................................................................... passim Other BLACK’S LAW DICTIONARY (West 11th ed. 2019) ........................................ 2 iii ARGUMENT I. The trial court did not direct the jury to return a verdict; it overturned the verdict the jury returned. During the trial, the court warned King of the need to file a motion for judgment notwithstanding the verdict (JNOV) if King wanted to overturn the jury’s verdict. 9 RR 28. Having failed to heed the trial court’s warning, King now tries to characterize the trial court’s judgment as having directed the jury to return a verdict rather than having overturned the verdict the jury returned. Appellee’s Br. at x, 8, 10. But the trial court did not direct the jury to return a verdict, and whether a trial court should direct a jury to return a verdict becomes a moot point after the jury has already returned its verdict. In addition to the legal impediment against directing a jury to return a verdict after it has already reached one, it would be impossible as a practical matter to give any directions to jurors who have since left the building and are no longer directable. Allison v. State, 156 S.W.2d 527, 528 (Tex. Crim. App. 1941) (holding that “when the jury was discharged it lost its identity as a jury” so that any subsequent verdict would be a “nullity”); In re Bradle, 83 S.W.3d 923, 927 (Tex. App.—Austin 2002, orig. proceeding) (“Once a jury is discharged from their oaths, they are subject to contact 1 with and influence by the parties and others so that the jury cannot be reconstituted.”). The purpose of a directed verdict is to prevent the case from reaching the jury. BLACK’S LAW DICTIONARY (West 11th ed. 2019) (defining “directed verdict” as “[a] ruling by a trial judge taking a case from the jury”). That did not happen here. The trial court did not take the case from the jury, it submitted the case to the jurors, who returned a verdict. In contrast, the purpose of a JNOV is to overturn the verdict the jury reached. BLACK’S LAW DICTIONARY (West 11th ed. 2019) (defining “judgment notwithstanding the verdict” as “[a] judgment entered for one party even though a jury verdict has been rendered for the opposing party”). And although the trial court entered a judgment contrary to the verdict rendered, what did not happen was the filing of a written motion for a JNOV, even though the trial court warned King it would need to do so if the case went to the jury, which it did. 9 RR 28. A. Granting a JNOV in the absence of a written motion is not an acceptable practice in Texas. King claims the failure to file a written motion for JNOV after the jury has returned its verdict is “an acceptable practice in Texas courts.” Appellee’s Br. at 10. To the contrary, Rule 301 provides that “upon 2 motion and reasonable notice” a trial court “may render judgment non obstante veredicto if a directed verdict would have been proper.” TEX. R. CIV. P. 301. A trial court cannot disregard jury findings without a written request, thus a motion for JNOV must be in writing with notice to the parties. See Lamb v. Franklin, 976 S.W.2d 339, 343-44 (Tex. App.–Amarillo 1998, no pet.) (request to disregard jury verdict in motion for new trial is insufficient); Olin Corp. v. Cargo Carriers, Inc., 673 S.W.2d 211, 213-14 (Tex. App.–Houston [14th Dist.] 1984, no writ) (JNOV on no evidence grounds requires written motion). King cites cases in support of its claim that a written motion for JNOV was not required and that its earlier motion for directed verdict was sufficient to permit a JNOV. Appellee’s Br. at 10-11. But reliance on the cited cases is unavailing because the impropriety of relying on a motion for directed verdict to overturn a jury’s decision was not at issue in any of those cases. The opinions on which King relies merely described the procedural posture of the litigation by observing that trial courts had announced they intended to withhold rulings on motions for directed verdict until after the jury’s verdict; these cases did not hold that doing so was proper, nor could they make any such determination, because that issue 3 was not before those appellate courts. Appellee’s Br. at 11 (citing Pitman v. Lightfoot, 937 S.W.2d 496, 536 (Tex. App.—San Antonio 1996, writ denied); 4M Linen & Unif. Supply Co., Inc. v. W.P. Ballard & Co., Inc., 793 S.W.2d 320, 327 (Tex. App.—Houston [1st Dist.] 1990, writ denied); Gibraltar Sav. Ass’n v. Watson, 683 S.W.2d 748, 750 (Tex. App.— Houston [14th Dist.] 1984, no writ); and Robinson v. Humble Oil & Ref. Co., 301 S.W.2d 938, 940 (Tex. Civ. App.—Texarkana 1957, writ ref’d n.r.e.)). Furthermore, although the trial judge in Gibraltar took the defendants’ motion for directed verdict “under advisement” and “carried [it] along with the case,” stating he “wanted to hold any final decision thereon until he found out what the jury did,” nevertheless, after he submitted the case to the jury, the defendants, unlike King, filed a “motion for judgment notwithstanding the verdict,” which the trial judge denied. Gibraltar, 683 S.W.2d at 750. Just as an appellate court’s observation that a witness’s answer constitutes hearsay does not equate to endorsing hearsay as an “acceptable practice” when the impropriety of that answer is not at issue, neither does an appellate court’s noting that a trial court had announced its intention to rule on a motion for directed verdict after 4 receiving a jury verdict equate to authority for that court to do so when its action was not at issue. Regardless, the direct authority is the opposite: by definition, a ruling on a motion to direct the jury to return a verdict must occur before the jury has returned its verdict and has been discharged. Allison, 156 S.W.2d at 528; Bradle, 83 S.W.3d at 927; cf. also City of San Benito v. Cantu, 831 S.W.2d 416, 422 (Tex. App.— Corpus Christi 1992, no writ) (“To complain on appeal about a trial court’s refusal to grant a directed verdict, the record must reflect that the defendant presented the motion and that the court ruled on the motion before the jury returned a verdict.”). If a litigant is entitled to a directed verdict, the trial court may: (1) “instruct the jury as to the verdict it must return” or (2) “withdraw the case from the jury and render judgment.” Connell v. Connell, 889 S.W.2d 534, 539 (Tex. App.—San Antonio 1994, writ denied). The trial judge did not take either of those actions. Instead, he left the case with the jury and allowed it to return a verdict. 5 CR 419. At that point, a directed verdict was no longer available. Allison, 156 S.W.2d at 528; Bradle, 83 S.W.3d at 927. Neither was a JNOV, because there was no written motion or notice of hearing to support it. TEX. R. CIV. P. 301; 5 Olin Corp. v. Cargo Carriers, Inc., 673 S.W.2d 211, 213–14 (Tex. App.— Houston [14th Dist.] 1984, no writ). King acknowledges that after it rested “it re-urged its directed verdict motion, which the District Court succinctly denied.” Appellee’s Br. at 9 n. 1 (citing 9 RR 53). According to King, the trial court’s denial of the re-urging of that motion “logically followed from its directive that it would ‘carry’ King’s first motion until after the jury returned.” Id. But King does not explain the logic of its theory that a trial court can “carry” a motion for directed verdict at the close of a plaintiff’s evidence, subsequently deny that motion when the defendant re-urges it at the close of all evidence, submit the case to the jury and receive its verdict, but then direct the jury to return a different verdict after having discharged the jurors and sent them home. The only result that “logically followed” from the trial court’s statement that it was withholding a ruling on King’s motion for directed verdict at the close of the plaintiff’s case is that if King elected to present evidence, it would have to re-urge that motion at the close of all evidence (it did) or, if the case went to the jury (it did), King would have to file a written motion for JNOV (it did not). 6 King did not file a “second” motion for instructed verdict; by its own admission, it “re-urged” the same motion, and the judge denied it. Appellee’s Br. at 9 n. 1; 1986 Dodge 150 Pickup v. State, 129 S.W.3d 180, 184 (Tex. App.—Texarkana 2004, no pet.) (“If a party proceeds to present evidence after that party has moved for a directed verdict, such party must reurge the motion for directed verdict at the close of the case, or any error in its denial is waived.”). The record is clear: KING’S ATTORNEY: “Your Honor, at this time Defendant again raises his motion for directed verdict on my affirmative defense.” THE COURT: “Denied.” KING’S ATTORNEY: “And Defendant closes, and then re-raises it again.” THE COURT: “Denied.” 9 RR 53. Therefore, despite King’s claims otherwise, the trial court did deny its motion for directed verdict. Id.; Carter v. State, No. 05-96-00805-CR, 1998 WL 83799, at *2 (Tex. App.—Dallas Feb. 24, 1998, no pet.) (not designated for publication) (in which the trial court took no action “[to] instruct[] the jury as to a directed verdict or [to] dismiss[] the jury and enter[] a judgment,” but instead “denied the motion for an instructed 7 verdict,” which “support[ed] a conclusion that the motion for a directed verdict was denied”). Having re-urged the same motion the judge initially said he would “carry” with the case, and having had that motion denied twice, King cannot plausibly maintain that the judge did not subsequently deny its motion for directed verdict. 9 RR 53. King’s theory is both illogical and legally absurd and contemplates the court directing a jury to return a verdict after it had already done so and had been discharged. Although the trial judge initially said he would “carry” the motion for directed verdict with the case, he did not carry it past the explicit denial of the re-urging of that motion at the close of all evidence, and he could not carry it past the jury’s verdict. Allison, 156 S.W.2d at 528 Bradle, 83 S.W.3d at 927. The appropriate procedure to challenge the verdict of a jury that has returned a verdict and been discharged is a motion for JNOV, not a motion for instructed verdict. Smith v. Safeway Stores, 167 S.W.2d 1044, 1046 (Tex. Civ. App.—Fort Worth 1943, no writ) (“It is also the settled law in this state that where an instructed verdict should have been given, or when a special issue finding has no support in the evidence, the court may, upon motion to that effect, 8 disregard the verdict of the jury and render judgment non obstante veredicto.” (citing TEX. R. CIV. P. 301). B. The special master’s report cannot change, nor did it purport to eliminate, the requirement that a written motion for JNOV is necessary to disregard a jury verdict. The order appointing the special master does not “make plain” that the trial court “was asking the special master to opine on whether the District Court should grant or deny King’s motion for directed verdict,” as King claims. Appellee’s Br. at 9. The trial court had already denied that motion twice and had submitted the case to the jury, which had returned a verdict. Rather, the order “makes plain” that the trial judge was asking the special master’s opinion on whether the trial court should grant Hernandez’s motion to enter a judgment on the jury’s verdict—the only motion that was pending—or, in the event King filed a motion for JNOV, which it never did, whether the trial court should grant that motion instead. 5 CR 455. King claims Hernandez “is asking this Court to newly impose a deadline requiring District Courts to decide all directed verdict motions before submitting issues to the jury.” Appellee’s Br. at 10. But this deadline is not new. Case law and common sense have long recognized that a trial court cannot grant a motion to direct the jury to reach a 9 verdict after the jury has already returned one and has been discharged. Allison, 156 S.W.2d at 528; Bradle, 83 S.W.3d at 927. The proper mechanism to negate a jury’s verdict is a motion for JNOV after the verdict (the V in JNOV), not a motion to direct the jury to reach a verdict after they have already done so and have left the courthouse, placing them beyond the reach of any direction from the trial court. Id.; TEX. R CIV. P. 301. In support of its assertion that a trial court can direct a jury to render a verdict after it has already done so and been discharged, King cites Texas Rule of Civil Procedure 268, noting it contains no time limits and “requires only that a motion requesting directed verdict ‘state the specific grounds therefor.’” Appellee’s Br. at 11 (quoting TEX. R. CIV. P. 268). But this rule addresses only the content a litigant must include in the motion, not the deadline for a judge to rule on that request. TEX. R. CIV. P. 268. Therefore, the absence of any provision regarding the timing of a ruling on a motion for directed verdict does not equate to authorization to do so after “submitting an issue to the jury,” as King urges, because this rule does not answer and was not intended to answer the question of whether a trial court can grant a directed after the jury has already returned a verdict. Appellee’s Br. at 10 11. Case law, however, has addressed this question, and the answer is no. Allison, 156 S.W.2d at 528; Bradle, 83 S.W.3d at 927. Because the trial court did not direct the jury to return a verdict, but instead overturned the verdict they returned, the judge’s ruling is, in substance, a JNOV, issued in the absence of the required motion and notice. TEX. R. CIV. P. 301. And, as King itself concedes, substance controls over form, notwithstanding King’s technical attempt to revise this substantive reality. Appellee’s Br. at 14, n.3. King claims Hernandez’s arguments represent the Shakespearean equivalent of “sound and fury,” signifying no reversible error. Appellee’s Br. at 14. But in trying to twist the trial court’s action into an order granting a motion for instructed verdict, King is engaging in another Shakespearean exercise: it undergoes too strict a paradox striving to make an ugly deed look fair. II. Hernandez preserved error by filing a motion for judgment on the verdict, which the trial court denied. “Requiring parties to raise complaints at trial conserves judicial resources by giving trial courts an opportunity to correct an error before an appeal proceeds,” King urges. Appellee’s Br. at 12 (quoting In the Interest of B.L.D., 113 S.W.3d 340, 350 (Tex. 2003)). But Hernandez gave the trial judge that opportunity by timely filing a motion asking 11 the court to grant a judgment in accordance with the jury’s verdict assessing damages in excess of $2,000,000.00. Instead, the court denied the motion and rejected the jury’s verdict and rendered a take nothing judgment against Hernandez. 5 CR573. See Emerson v. Tunnell, 793 S.W.2d 947, 948 (Tex. 1990) (holding that the plaintiff preserved error by filing a motion for judgment on the verdict and obtaining an adverse ruling from the trial court on that motion). Nevertheless, King claims Hernandez’s objection was untimely because he did not make it “at the earliest opportunity” when the complained-of action “be[came] apparent.” Appellee’s Br. at 12. But there was no action to complain about until the trial court overturned the jury’s verdict, and Hernandez had already filed a motion for judgment, which preserved his right to complain of the trial court’s error in signing a judgment contrary to the jury’s verdict. Emerson, 793 S.W.2d at 948. According to King, Hernandez “passed on multiple opportunities to timely object when it had become ‘apparent’ that the District Court intended to take up King's directed verdict motion after the jury returned its verdict.” Appellee’s Br. at 13. But it was not “apparent” that the trial court “intended to take up” a motion it had already twice 12 denied, especially after having submitted the case to the jury and having received its verdict—actions and a result that are the antithesis of “taking up” a motion for directed verdict—particularly after having told King it would need to file a motion for judgment notwithstanding the verdict. 9 RR 28. The only matter “apparent” to Hernandez was that that the trial court was unjustifiably hesitant to grant his motion for judgment on the jury’s verdict—the only motion that was pending—and that the judge wanted an opinion from the special master before ruling on that motion. 5 CR 455. Having received that opinion in the form of a comprehensive report that confirmed the judge should grant Hernandez’s motion, and having told King it needed to file a motion for JNOV, which King had not done, it was not only unexpected, but shocking, that the trial court overturned the jury’s verdict. 5 CR 462; 9 RR 28. Hernandez did not have a “strategy of waiting to see whether a decision [came] out in his favor before challenging the manner in which the District Court reach[ed] it.” Appellee’s Br. at 14. He had no idea the trial court would reach the decision it did, considering: (1) King still had not filed the motion for JNOV, which the trial court had stated would be necessary to overturn the verdict; (2) the only motion pending before the 13 trial court was Hernandez’s motion for judgment on the jury’s verdict; and (3) the court-appointed special master had recommended that the trial court sign a judgment incorporating the jury’s verdict. Hernandez did not “acquiesce” in King’s characterization of the issue before the special master as being whether King was entitled to a directed verdict or not. Appellee’s Br. at 13 n. 2. Regardless, any such assertion in and of itself is of no consequence; it is the trial court’s judgment contravening the jury’s verdict that created the error that is the subject of this appeal, and that error did not occur until the trial court signed the judgment of which Hernandez complains. That complaint was timely because Hernandez had filed a motion for judgment on the jury verdict, thereby reiterating the obvious fact that any judgment contrary to that verdict would be objectionable. See Emerson, 793 S.W.2d at 948. III. The trial court’s overturning the jury’s verdict prejudiced Hernandez. “[E]ven if the District Court’s procedure for granting a directed verdict was unconventional,” claims King, “Hernandez suffered no prejudice.” Appellee’s Br. at 14. 14 Not unless having a $1,265,577.44 jury verdict taken away constitutes “suffer[ing] no prejudice.” 1 Furthermore, if, as King claims, the trial court granted a directed verdict, it was not only merely “unconventional,” it was also unauthorized. As King concedes, “[u]nder Texas Rule of Appellate Procedure 44.1, this Court reverses erroneous district court decisions” if they “probably caused an improper judgment to be entered …” Appellee’s Br. at 14. Granting a JNOV in the absence of a motion and notice of hearing and in the face of conflicting evidence constitutes an improper judgment. St. Paul Fire & Marine Ins. Co. v. Bjornson, 831 S.W.2d 366, 369 (Tex. App.—Tyler 1992, no writ). A trial court “may not, ordinarily, simply disregard, on its own initiative or motion, a jury finding and/or render a judgment non obstante veredicto on its own initiative or motion.” Bjornson, 831 S.W.2d at 369. “In fact, and to the contrary, not only must there be a written motion and reasonable notice for a trial court to disregard a jury finding and/or render a judgment non obstante veredicto, the written motion to disregard a jury finding must be directed to the 1 According to Hernandez’s calculations giving credit for his attributed comparative negligence and for pre- and post-judgment interest, his judgment should be in the amount of $1,012,462.04. 15 objectionable issue or issues and point out the reasons why such issues should be disregarded.”). Id. The judgment entered here violated all these principles, and respectfully, must be reversed. In the alternative, even accepting solely for argument’s sake King’s claim that the trial judge granted its motion for directed verdict after submitting the case to the jury, receiving their verdict, and discharging them, it is improper to grant such a motion after the jury has returned a verdict. Allison, 156 S.W.2d at 528; Bradle, 83 S.W.3d at 927. Either way, the harm is the same: the loss of a substantial jury verdict. Regardless, the question of harm is irrelevant, because, in the absence of a motion for JNOV and notice of a hearing on that motion, the trial court had no jurisdiction to grant a JNOV, thereby making that ruling void. Olin, 673 S.W.2d at 213–14 (holding that the trial court “erred in overruling [a] motion for judgment on the verdict” and in “sua sponte” granting a JNOV, “because it had no power to do so absent a proper motion seeking such relief,” and recognizing that “Texas appellate courts have uniformly construed the motion requirement of Rule 301 to be jurisdictional”); 2 see also In re John G. & Marie Stella 2 All internal citations and quotations omitted unless otherwise noted. 16 Kenedy Mem'l Found., 315 S.W.3d 519, 522 (Tex. 2010) (orig. proceeding) (holding that, in the absence of jurisdiction, a trial court’s ruling is void). According to King, Hernandez “has long been on notice of the District Court’s intent to ‘carry’ the motion until after the jury returned its verdict” and “[t]his was not the case of a trial court sua sponte entering JNOV out of the clear blue.” Appellee’s Br. at 15. But the only notice of intent Hernandez had was the same as King received: a JNOV would have to be filed. 9 RR 28. And the “out of the blue” nature of this ruling could not be clearer: the trial judge had twice denied King’s motion for a directed verdict, had submitted the case to the jury and received its verdict, and had told King it would need to file a motion for JNOV, which King did not do. 9 RR 28. The only motion pending before the trial court was Hernandez’s motion to enter a judgment on the jury’s verdict, and, based on well-settled law, the court-appointed special master recommended that the trial court sign a judgment on that verdict. Therefore, although it was conceivable that the judge might make some changes in the wording of the judgment Hernandez proposed, it was inconceivable that the trial court would not grant a 17 judgment on the jury’s verdict but instead would grant a JNOV, which, without a motion from King, was necessarily sua sponte. King erroneously claims that Hernandez suffered no harm because “the standard of review is the same” and Hernandez “would be the appellant had the Court entered a directed verdict or JNOV.” Appellee’s Br. at 15. But the trial court did not enter a directed verdict. Id. Therefore, the only issue is whether the JNOV was proper. It was not, because it lacked a motion to support it, Olin, 673 S.W.2d at 213– 14, and because King did not prove its affirmative defense as a matter of law as it claims. Id. Instead, King created, at most, a fact issue for the jury, which resolved that question against King. 5 CR 422. King speculates that Hernandez “appears to assume that had King filed a separate motion for JNOV, the District Court would have denied it and ‘Hernandez would be the holder of a substantial judgment.’” Appellee’s Br. at 15. But Hernandez does not assume anything and King’s speculation misses the point: the trial judge had already denied King’s motion for directed verdict and had submitted the case to the jury, which returned a verdict. Therefore, the only way the trial court could grant a JNOV would be if King filed a motion for JNOV 18 or if the jury’s answers were immaterial, neither of which is the case. Olin, 673 S.W.2d at 213–14. “There is no evidence,” says King, “the procedural posture— motion for directed verdict carried over from trial or new motion for JNOV—had any impact on the District Court’s decision.” Appellee’s Br. at 16. If, by that, King means the trial court would have overturned the jury’s verdict either way, that may be true; however, it is also true that, either way, the harm is the same: the loss of a large jury verdict as a result of the trial court’s erroneous ruling. IV. The evidence did not prove as a matter of law that Hernandez was King’s employee. King asserts the trial court “correctly directed a verdict” in its favor because it purportedly proved its “employee” defense “as a matter of law,” Appellee’s Br. at 16, but it did not. That claim is incorrect on both counts: (1) the court twice denied a requested directed verdict, and (2) King did not prove its affirmative defense as a matter of law, at most the evidence raised a fact issue, which the jury answered against King. Section I, infra. Even a directed verdict “is warranted only when the evidence conclusively demonstrates that no other verdict could be rendered.” Bywaters v. Gannon, 686 S.W.2d 593, 595 (Tex. 1985). “In determining 19 whether it was proper to instruct a verdict, the appellate court must view the evidence in the light most favorable to the party against whom the instructed verdict was granted, and every inference that may properly be drawn from the evidence must be indulged against the instruction.” State v. ADSS Properties, Inc., 878 S.W.2d 607, 614 (Tex. App.—San Antonio 1994, writ denied) (citing White v. White, 172 S.W.2d 295, 296 (Tex. 1943)). “If the record reflects any evidence of probative force in favor of the party against whom the instruction was granted, the appellate court must hold the instruction improper.” ADSS Properties, 878 S.W.2d at 614 (citing White, 172 S.W.2d at 296). “It is error to grant an instructed verdict when evidence and reasonable inferences from the evidence raise issues of fact. And, if an instructed verdict would not be proper, it is error to grant judgment notwithstanding the verdict.” ADSS Properties, 878 S.W.2d at 614. King does not adhere to the legal-sufficiency standard of review it cites. Appellee’s Br. at 17. Instead of viewing the evidence in the light most favorable to the jury’s verdict, as required by case law, King recites the evidence in a manner it deems most favorable to itself. Bywaters, 686 S.W.2d at 595; White, 172 S.W2d at 296. 20 For example, King claims it “controlled all work performed at its repair facility.” Appellee’s Br. at 16. But the evidence showed that King did not control those details, or, at a minimum, this evidence created a fact issue regarding that control. 5 RR 149, 185; 6 RR 137-38. King also urges that Hernandez failed to follow King’s directions, which caused his injuries. But by its own admission, King’s instructions to Hernandez had nothing to do with the details, or even the generalities, of how Hernandez was to do his work. King simply provided safety guidelines to follow while performing that work. 6 RR 165-67, 180-81; 7 RR 34; 20 RR 6-8, 13-57. The same is true of King’s furnishing some of the tools Hernandez used. Making tools available is not the same as telling a worker how he must use those tools. King’s claim that these safety guidelines constituted controlling the details of Hernandez’ work, when weighed against the evidence that ATG controlled those details, created a fact question for the jury, thereby precluding a judgment in King’s favor as a matter of law. According to King, it was “undisputed” that it “controlled both the stepladder and the stand that [Hernandez’ was using when he hurt himself” by not following King’s warning “not to put a ladder on those stands.” Appellee’s Br. at 16. But, as Hernandez pointed out, “[i]t was a 21 common practice,” which everyone knew about. 5 RR 147. Furthermore, furnishing equipment to use in performing a job does not equate to controlling the details of how a worker accomplishes that job. The evidence shows ATG, not King, exercised control over the details of that job performance. 5 RR 149, 185; 6 RR 137-38. At an alternative minimum, that evidence created a fact issue, which does not support a judgment as a matter of law. St. Paul Fire & Marine Ins. Co. v. Bjornson, 831 S.W.2d 366, 369 (Tex. App.—Tyler 1992, no writ). King cites Wingfoot Enter. v. Alvarado for the proposition that “[e]mployees may have more than one employer.” Appellee’s Br. at 18-19 (citing 111 S.W.3d 134, 135 (Tex. 2003)). Although in theory that may be true in some cases, in fact it is not true here. Unlike Wingfoot, in which there was no issue on appeal regarding whether the hiring defendant controlled the details of that worker’s job, a factual dispute existed here as to whether King had any such control. 111 S.W.3d at 139, 149. The issue of whether the hiring defendant was an employer of the plaintiff was not before the Court in Wingfoot, because the plaintiff did not appeal the jury’s finding on that question, and, in fact, conceded that he was an employee of the hiring defendant. 111 S.W.3d at 139. 22 The only question was “whether the exclusive remedy provision can apply to both the general employer and one who has become an employer by controlling the details of a worker's work at the time of injury.” Id. Here, as in Wingfoot, a jury answered the fact question of whether the plaintiff (Hernandez) was an employee of the hiring defendant (King). 5 CR 422; 111 S.W.3d at 139. The only difference is that the jury in Wingfoot resolved that factual dispute in favor of the hiring defendant, whereas here they found in favor of the plaintiff (Hernandez) against the hiring defendant (King). Id. That is because in Wingfoot there was evidence that the plaintiff was injured while working under “the direct supervision of [the] client company,” whereas, there is no such evidence that Hernandez was working under King’s “direct supervision.” Garza v. Exel Logistics, Inc., 161 S.W.3d 473, 475 (Tex. 2005) (citing Wingfoot, 111 S.W.3d at 143). In the alternative, there was at least an evidentiary dispute on this point, which makes it a question of fact for the jury, not a matter of law for the trial court. King also claims that it has a contract giving it the right to control the details of Hernandez’s work and that this “written contract addressing the ‘right of control’ is determinative.” Appellee’s Br. at 19 (citing Robles v. Mount Franklin Food, L.L.C., 591 S.W.3d 158, 165 23 (Tex. App.—El Paso 2019, pet. denied)). But a factual dispute existed as to whether King had any such contract with Hernandez, and the jury resolved that question against King’s claim. 6 RR 132-33; 5 CR 422. Furthermore, Robles recognized that even if a written contract existed, it does not necessarily control. 591 S.W.3d at 165. For example, assuming for hypothetical purposes that King had proven the existence of the contract it claims it had with Hernandez, a fact question would still exist as to whether the parties modified the contract by a subsequent express or implied agreement. Id.; see also Newspapers, Inc. v. Love, 380 S.W.2d 582, 590 (Tex. 1964) (holding that a written contract may be modified “by a subsequent agreement expressed or implied”). Furthermore, when, as here, “the terms of the employment are indefinite,” evidence of the exercise of control “may be the best evidence available to show the actual terms of the contract.” Love, 380 S.W.2d at 590. King urges that Texas courts “construe the TWCA liberally in favor of coverage as a means of affording employees the protections the Legislature created.” Appellee’s Br. at 18 (quoting Port Elevator- Brownsville, L.L.C. v. Casados, 358 S.W.3d 238, 241 (Tex. 2012)). But King is trying to construe this Act to protect itself, not an employee. 24 Furthermore, Texas courts construe evidence liberally in favor of jury verdicts to protect those verdicts and the litigants in whose favor the jury ruled. See Jackson v. Axelrad, 221 S.W.3d 650, 653 (Tex. 2007) (noting presumptions in favor of jury verdicts are designed to protect verdicts from second-guessing on appeal). King is trying to construe that evidence in the opposite manner as a means of undoing a verdict this construction is intended to protect. In similar fashion, King claims Texas appellate opinions are “replete” with examples of temporary workers “being deemed the employee or borrowed servant of the company where the employee was working when he or she was injured.” Appellee’s Br. at 23. But, as set forth above, Texas cases are also replete with examples of appellate courts reversing trial judges for granting judgments as a matter of law when fact questions existed and, in particular, for granting JNOVs without supporting motions. PRAYER For the reasons cited in this brief and in Appellant’s opening briefing, Appellant, Jorge Hernandez, respectfully asks this Court to: • reverse the trial court’s judgment against Hernandez; 25 • render judgment in Hernandez’s favor in accordance with the jury’s verdict and as requested in his motion for entry of judgment; • in the alternative, remand this case in part or in full with instructions for the trial court to proceed in a manner consistent with this Court’s opinion; and • grant Hernandez all other relief to which he is entitled. Respectfully submitted, /s/ Catherine M. Stone CATHERINE M. STONE State Bar No. 19286000 cstone@langleybanack.com OTTO S. GOOD State Bar No. 08139600 ogood@langleybanack.com RUBEN VALADEZ State Bar No. 00797588 rvaladez@langelybanack.com LANGLEY & BANACK, INC. Trinity Plaza II, Suite 700 745 E. Mulberry Avenue San Antonio, Texas 78212 Telephone: (210) 736-6600 Telecopier: (210) 735-6889 HUMBERTO S. ENRIQUEZ State Bar No. 00784019 enriquezlawfirm@sbcglobal.net THE ENRIQUEZ LAW FIRM, PLLC 1212 Montana Avenue El Paso, Texas 79902 Telephone: 915.351.4331 Telecopier: 915.351.4339 ATTORNEYS FOR APPELLANT JORGE L. HERNANDEZ 26 CERTIFICATE OF WORD COMPLIANCE Appellant certifies that the number of words in this brief, including its headings, footnotes, and quotations, is 5581. /s/ Catherine M. Stone CATHERINE M. STONE CERTIFICATE OF SERVICE I hereby certify that on March 15, 2021 a true and correct copy of the foregoing instrument was served on the following counsel of record in accordance with the Texas Rules of Appellate Procedure: Bryan P. Rose James A. Daross bryan.rose@stinson.com jdaross@darosslaw.com STINSON LLP 4809 Costa de Oro Road 1050 17th Street, Suite 2400 El Paso, Texas 79922 Denver, CO 80265 Telephone: 915-549-7805 Telephone: 303-376-8415 Telecopier: 915-974-3912 /s/ Catherine M. Stone CATHERINE M. STONE 27 Automated Certificate of eService This automated certificate of service was created by the efiling system. The filer served this document via email generated by the efiling system on the date and to the persons listed below. The rules governing certificates of service have not changed. Filers must still provide a certificate of service that complies with all applicable rules. Teresa Rodriguez on behalf of Catherine Stone Bar No. 19286000 trodriguez@langleybanack.com Envelope ID: 51479907 Status as of 3/15/2021 3:33 PM MST Associated Case Party: JorgeLHernandez Name BarNumber Email TimestampSubmitted Status Otto SGood ogood@langleybanack.com 3/15/2021 1:52:32 PM SENT Catherine MStone cstone@langleybanack.com 3/15/2021 1:52:32 PM SENT Teresa H.Rodriguez trodriguez@langleybanack.com 3/15/2021 1:52:32 PM SENT Ruben Valadez rvaladez@langleybanack.com 3/15/2021 1:52:32 PM SENT Humberto S. Enriquez enriquezlawfirm@sbcglobal.net 3/15/2021 1:52:32 PM SENT Associated Case Party: King Aerospace Name BarNumber Email TimestampSubmitted Status James A. Daross 5391500 jdaross@darosslaw.com 3/15/2021 1:52:32 PM SENT Bryan Rose 24044704 bryan.rose@stinson.com 3/15/2021 1:52:32 PM SENT Faith Eaton featon@fbtlaw.com 3/15/2021 1:52:32 PM SENT Benjamin West 24084074 bwest@fbtlaw.com 3/15/2021 1:52:32 PM SENT Case Contacts Name BarNumber Email TimestampSubmitted Status Emily Sylvia emily.sylvia@stinson.com 3/15/2021 1:52:32 PM SENT Judith Araujo judith.araujo@stinson.com 3/15/2021 1:52:32 PM SENT Ryan Sugden ryan.sugden@stinson.com 3/15/2021 1:52:32 PM SENT Tayler Bradley tayler.bradley@stinson.com 3/15/2021 1:52:32 PM SENT	01-04-2023	03-18-2021
https://www.courtlistener.com/api/rest/v3/opinions/4621836/	J. H. McKinley and Edna McKinley, Petitioners, v. Commissioner of Internal Revenue, RespondentMcKinley v. CommissionerDocket No. 76846United States Tax Court34 T.C. 59; 1960 U.S. Tax Ct. LEXIS 173; April 14, 1960, Filed 1960 U.S. Tax Ct. LEXIS 173">173 Decision will be entered for the respondent. Petitioner J. H. McKinley had a theft loss of $ 12,500 in 1955. He did not discover such loss in 1955 but discovered it in 1956. Held, petitioners are not entitled to a deduction in 1955 for such theft loss under section 165(a) and (e), I.R.C. 1954. Grover Cunningham, Jr., Esq., for the petitioners.Harold L. Cook, Esq., and Allen T. Akin, Esq., for the respondent. Black, Judge. BLACK34 T.C. 59">60 The Commissioner has determined a deficiency in petitioners' income tax for the year 1955 of $ 4,790.44. 1960 U.S. Tax Ct. LEXIS 173">174 The deficiency is due to several adjustments made by the Commissioner to the adjusted gross income (loss) shown on petitioners' return. Only one of these adjustments is now in controversy. That adjustment is: "(d) Short-term capital loss $ 662.50."The petitioners assign error as to the foregoing adjustment as follows:(a) In the taxable year involved the Commissioner has disallowed a $ 12,500.00 theft loss, and has treated such loss as a non-business bad debt. The Commissioner has a deduction of $ 662.50 in lieu of such $ 12,500.00 deduction as a theft loss.FINDINGS OF FACT.Most of the facts were stipulated and the facts so stipulated are incorporated herein by this reference.The petitioners are husband and wife and reside at Big Spring, Howard County, Texas. They filed a joint Federal income tax return for the taxable year 1955 with the district director of internal revenue, Dallas, Texas. Petitioner J. H. McKinley will sometimes hereafter be referred to as petitioner.Petitioner has been in the ranching, grain elevator, and other businesses over a period of years.On or about October 31, 1955, W. D. Robbins, sometimes hereafter referred to as Robbins, attempted to sell1960 U.S. Tax Ct. LEXIS 173">175 30,000 shares of Texas Empire Minerals, Inc., stock to petitioner. Petitioner refused to purchase the stock but did agree to lend Robbins $ 12,500, with the stock certificate to be put up as collateral security. On or about October 31, 1955, petitioner gave his personal check for $ 12,500 to Robbins and recorded it on his books and records as a loan. At the same time that petitioner gave Robbins the check for $ 12,500, Robbins delivered his check for $ 15,000, dated February 1, 1956, to petitioner. This check for $ 15,000 was in lieu of a note and bore the explanation "Security on Stock Loan -- for 30,000 Shares of Texas Empire Minerals from Ed Gray." On or about the time that Robbins issued his check for $ 15,000 to petitioner, he delivered the stock certificate for 30,000 shares in Texas Empire Minerals, Inc., to W. D. Miller to hold as collateral.The petitioners did not claim any deduction with regard to the $ 12,500 transaction with Robbins in their 1955 joint return. No mention of this transaction with Robbins was made in the return.Upon audit of the 1955 return filed by petitioners, the Commissioner, 34 T.C. 59">61 in the deficiency notice, allowed a short-term capital loss1960 U.S. Tax Ct. LEXIS 173">176 of $ 662.50 with the following explanation:(d) It is determined that the $ 12,500.00 payment which you made one W. D. Robbins on October 31, 1955 does not constitute either an allowable theft loss or business bad debt under the internal revenue laws but does constitute a non-business bad debt deductible as a short-term capital loss in 1955 computed as follows:ItemAmountMaximum capital loss allowable$ 1,000.00Amount deducted on the 1955 return337.50Additional amount allowable$ 662.50On August 26, 1958, the grand jury of Howard County, Texas, returned an indictment against Robbins charging him with theft and passing forged instruments. This indictment, among other things, states:That W. D. Robbins on or about the 1st day of November, 1955, and anterior to the presentment of this Indictment, in the County of Howard and State of Texas, did then and there unlawfully, willingly, knowingly and fradulently [sic] pass as true to Homer McKinley, a certain stock certificate in writing, bearing the false and forged endorsement had theretofore been made with out lawful authority and with intent to injure and defraud, which said stock certificate and forged endorsement1960 U.S. Tax Ct. LEXIS 173">177 was then and there of the tenor as follows, to-wit: [Here follows copy of the stock certificate together with the endorsement thereon.]On February 27, 1959, Robbins entered a plea of guilty to the offense "Theft by False Pretext" and his sentence was 3 years' confinement in the penitentiary of the State of Texas.Petitioner did not discover that Robbins, who had given him a check for $ 15,000 dated February 1, 1956, on the First National Bank of Aspermont, Texas, did not have any funds in said bank until sometime in 1956. He did not discover that the stock certificate for 30,000 shares of common stock in Texas Empire Minerals, Inc., which had been placed with him as collateral security for the loan of $ 12,500, was a forgery until sometime in 1956.Petitioner did not discover his theft loss of $ 12,500 in 1955; petitioner discovered his theft loss in 1956.OPINION.Petitioners state their contentions in their brief as follows:No. 1. Since W. D. Robbins has pled [sic] guilty to theft by false pretext by virtue of the subject transaction with the petitioner, there is nothing further for this court to decide, since the issue of theft is governed by State law, and such matter1960 U.S. Tax Ct. LEXIS 173">178 has already been determined by the State courts.No. 2. In the alternative Petitioner contends that the preponderance of the evidence before this court is to the effect that the transaction between W. D. Robbins and the Petitioner properly is characterized as a theft.34 T.C. 59">62 In support of their contention that they are entitled to take a theft loss of $ 12,500 in the taxable year 1955 instead of the non-business bad debt deduction which the Commissioner has determined in his deficiency notice, petitioners rely upon Morris Plan Co. of St. Joseph, 42 B.T.A. 1190">42 B.T.A. 1190. That case held that under the circumstances present in that case the vendor obtained petitioner's money by deceit and artifice which amounted, under the Missouri law, to theft and the taxpayer's loss was sustained in 1936 when it parted with the money. In the Morris Plan Co. case, in deciding the issue for the taxpayer, we said:For the purpose of the present report, exactness in determining the nature of the crime, i.e., whether it be larceny, embezzlement, obtaining money under false pretenses or otherwise, or in naming the guilty party or parties, is of less importance than the character1960 U.S. Tax Ct. LEXIS 173">179 of the deduction. The controlling fact is that petitioner sustained its loss as a result of transactions in 1936 which amounted to theft under the laws of Missouri.We think that case does sustain petitioner's contention that local law determines whether a theft has occurred. Also, we think that inasmuch as Robbins was indicted in 1958 by the grand jury of Howard County, Texas, for theft and that he was subsequently found guilty and sentenced to the Texas penitentiary for a term of 3 years, petitioner has established that Robbins obtained the $ 12,500 from petitioner in 1955 by theft through false pretense.The United States Court of Appeals for the Fifth Circuit, in Edwards v. Bromberg, 232 F.2d 107, has held that the word "theft" is not, like "larceny," a technical word of art with narrowly defined meaning, but a word of general and broad connotation, covering any criminal appropriation of another's property to taker's use, particularly including theft by swindling, false pretenses, embezzlement, or any other form of guile.Therefore, in view of the above-cited authorities, we think petitioner has clearly established that he did sustain a 1960 U.S. Tax Ct. LEXIS 173">180 theft loss in 1955 of $ 12,500 through his transactions with Robbins and doubtless he would be entitled to take that loss as a deduction in 1955 under our decision in 42 B.T.A. 1190">Morris Plan Co. of St. Joseph, supra, except for one fact. That fact is, the law governing such a loss incurred in 1955 is not the same as it was in the Morris Plan Co. case. The law governing the instant case, section 165(a) and (e), I.R.C. 1954, is as follows:SEC. 165. LOSSES.(a) General Rule. -- There shall be allowed as a deduction any loss sustained during the taxable year and not compensated for by insurance or otherwise. * * (e) Theft Losses. -- For purposes of subsection (a), any loss arising from theft shall be treated as sustained during the taxable year in which the taxpayer discovers such loss.34 T.C. 59">63 Regulations section 1.165-8 (T.D. 6445 filed January 15, 1960) reads:(a) Allowance of deduction. * * (2) A loss arising from theft shall be treated under section 165 (a) as sustained during the taxable year in which the taxpayer discovers the loss. See section 165 (e). Thus, a theft loss is not deductible under section 165 (a) for the taxable year in which1960 U.S. Tax Ct. LEXIS 173">181 the theft actually occurs unless that is also the year in which the taxpayer discovers the loss. * * As we have already stated, we think petitioner had a theft loss of $ 12,500 in 1955 when he loaned Robbins $ 12,500 secured by a check for $ 15,000 payable February 1, 1956, with a certificate of stock for 30,000 shares in Texas Empire Minerals, Inc., as collateral security, which certificate proved to be a forgery and for which transaction Robbins was subsequently indicted and convicted. But under the applicable statute and regulation quoted above, in order to get the deduction in 1955, it is not sufficient alone that petitioner prove that he had a theft loss in 1955, he must also prove that he discovered such loss in 1955.Petitioner testified at some length as to the time when he discovered his theft loss. The upshot of his testimony was that sometime after he had made the loan of $ 12,500 to Robbins, he became suspicious that the $ 15,000 postdated check which Robbins had given him, secured by the certificate of 30,000 shares of Texas Empire Minerals, Inc., common stock, was worthless. He went to the bank on which the check was drawn and learned that Robbins had no funds 1960 U.S. Tax Ct. LEXIS 173">182 in the bank, that the check was worthless, and later learned that the certificate of stock was a forgery. He testified he thought this was prior to Christmas 1955 but could not be sure.We have examined petitioner's testimony carefully and it is too uncertain as to when he discovered that Robbins had victimized him with false pretenses for us to make a finding that his discovery of the theft was in 1955. Another fact in the record which convinces us that petitioner did not discover it in 1955 is that the joint income tax return of petitioners which is in evidence was signed by petitioners February 24, 1956, and it makes no claim for any deduction of a theft loss. On page 2 of the return are blank lines for the listing of: "Losses from fire, storm or other casualty, or theft." None are listed on the lines which are provided in the return for such purpose. We have carefully examined petitioners' return and nowhere do we find any mention made of petitioner's transaction with Robbins. Of course, it is true that the mere fact that petitioners made no claim in their return for the deduction of a theft loss in 1955 from this transaction with Robbins would not preclude their making such1960 U.S. Tax Ct. LEXIS 173">183 a claim in this proceeding. But we do think that where there is so much uncertainty from petitioner's 34 T.C. 59">64 testimony as to just when he discovered his theft loss, the fact that he claimed no such theft loss on his return is a circumstance to be considered in concluding that petitioner did not discover such loss in 1955.After careful consideration of petitioner's testimony and the whole record, we have found that petitioner did not discover his theft loss in 1955. In view of this finding, petitioners are not entitled to a theft loss deduction of $ 12,500 in 1955.Decision will be entered for the respondent.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621837/	CARL ROBERT TUCKER III, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, RespondentTucker v. CommissionerDocket No. 33721-83.United States Tax CourtT.C. Memo 1985-358; 1985 Tax Ct. Memo LEXIS 268; 50 T.C.M. 458; T.C.M. (RIA) 85358; July 22, 1985. 1985 Tax Ct. Memo LEXIS 268">268 Held: (1) Deficiency in income tax for 1981 sustained as modified. (2) P is liable for the addition to tax for fraud under sec. 6653(b), I.R.C. 1954. (3) The United States is entitled to an award of damages under sec. 6673, I.R.C. 1954, since the proceedings herein were instituted primarily for delay, and P's position was both frivolous and groundless. Carl Robert Tucker III, pro se. Willie Fortenberry, for the respondent. 1985 Tax Ct. Memo LEXIS 268">269 SIMPSONMEMORANDUM FINDINGS OF FACT AND OPINION SIMPSON, Judge: The Commissioner determined a deficiency in the petitioner's Federal income tax for 1981 of $8,567.00 and an addition to tax of $4,283.50 pursuant to section 6653(b) of the Internal Revenue Code of 1954. 1 The issues for decision are: (1) Whether the petitioner is liable for the deficiency as determined by the Commissioner; (2) whether the petitioner is liable for the addition to tax for fraud under section 6653(b); and (3) whether the United States is to be awarded damages under section 6673. FINDINGS OF FACT Some of the facts have been stipulated, and those facts are so found. The petitioner, Carl Robert Tucker III, was a resident of Plant City, Fla., at the time he filed his petition in this case. During 1981, he was married to Mary Tucker, and they had three minor children. During 1982, the petitioner was a member of the Keystone Society, an organization that advocated that wages are not taxable income. He submitted tax protestor type documents1985 Tax Ct. Memo LEXIS 268">270 in lieu of a proper Federal income tax return for 1981. Such documents claimed that the petitioner received no wages in 1981. Such documents did show some interest income and the unemployment compensation received by the petitioner in 1981. The six Forms W-2 submitted with such documents were all marked "incorrect." Such Forms W-2 show that the petitioner received wages totaling $28,328.08 in 1981; they also show that a total of $3,408.96 in Federal income tax was withheld from his 1981 wages. The documents submitted by the petitioner also included a document entitled "Affidavit" in which he stated that the amounts shown on the Forms W-2 were not includable as income and six documents entitled "Request for Corrected Form W-2 Wage and Tax Statement" which the petitioner had allegedly sent to his 1981 employers in an effort to have them change the amounts of wages shown on the original Forms W-2. The petitioner also did not report his wages as taxable income for 1982 and 1983. For years prior to 1981, he had filed Federal income tax returns that did report his wages as income. In January 1981, the petitioner submitted to his employer a Form W-4 (Employee's Withholding Allowance1985 Tax Ct. Memo LEXIS 268">271 Certificate) claiming that he was exempt from withholding. During 1980, he submitted to his employers two Forms W-4 claiming to be exempt from withholding. In both 1982 and 1983, he also submitted to his employers Forms W-4 claiming to be exempt from withholding. In his notice of deficiency, the Commissioner determined that the petitioner had received, in 1981, wages totaling $28,328.08 that he had failed to report, unemployment compensation of $105.00 that he had failed to properly report, and interest income totaling $105.80 that he had failed to report. In addition, he determined that the petitioner was liable for the addition to tax for fraud under section 6653(b). The notice of deficiency also contained a statement informing the petitioner that wages are taxable income and that the position advocated by the Keystone Society was frivolous and groundless. Such statement further informed the petitioner that if he asserted frivolous and groundless positions in a Tax Court proceeding, the Commissioner would seek an award of damages under section 6673. OPINION The first issue for decision is whether the petitioner is liable for the deficiency in income tax for 1981 as determined1985 Tax Ct. Memo LEXIS 268">272 by the Commissioner.The petitioner has the burden of disproving such determination. Rule 142(a), Tax Court Rules of Practice and Procedure2; Welch v. Helvering,290 U.S. 111">290 U.S. 111 (1933). In the present case, the petitioner has made no real effort to disprove the Commissioner's determination, other than to prove that he is entitled to a total of five exemptions. Accordingly, we hold that the petitioner has failed to carry his burden of proof in all respects other than his entitlement to five exemptions, and we sustain the Commissioner's deficiency determination for 1981 as modified. The second issue for decision is whether the petitioner is liable for the addition to tax for fraud for 1981. 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 the underpayment. The Commissioner has the burden of proving, by clear and convincing evidence, that some part of the underpayment for each year was due to fraud. Sec. 7454(a); Rule 142(b); Levinson v. United States,496 F.2d 651">496 F.2d 651, 496 F.2d 651">654-655 (3d Cir. 1974);1985 Tax Ct. Memo LEXIS 268">273 Miller v. Commissioner,51 T.C. 915">51 T.C. 915, 51 T.C. 915">918 (1969). The Commissioner will carry his burden if he shows 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, 398 F.2d 1002">1004 (3d Cir. 1968); Webb v. Commissioner,394 F.2d 366">394 F.2d 366, 394 F.2d 366">377-378 (5th Cir. 1968), affg. a Memorandum Opinion of this Court; Acker v. Commissioner,26 T.C. 107">26 T.C. 107, 26 T.C. 107">111-112 (1956). 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, 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. Beaver v. Commissioner,55 T.C. 85">55 T.C. 85, 55 T.C. 85">92 (1970). Circumstantial evidence is permitted where direct evidence of fraud is not available. Spies v. United States,317 U.S. 492">317 U.S. 492, 317 U.S. 492">499 (1943); Rowlee v. Commissioner,80 T.C. 1111">80 T.C. 1111, 80 T.C. 1111">1123 (1983); Gajewski v. Commissioner,67 T.C. 181">67 T.C. 200.1985 Tax Ct. Memo LEXIS 268">274 Fraud may properly be inferred where an entire course of conduct establishes the necessary intent. 80 T.C. 1111">Rowlee v. Commissioner,supra;Stone v. Commissioner,56 T.C. 213">56 T.C. 213, 56 T.C. 213">223-224 (1971). The precise amount of underpayment resulting from fraud need not be proved. Otsuki v. Commissioner,53 T.C. 96">53 T.C. 96, 53 T.C. 96">105 (1969). The statute requires only a showing that "any part" of an underpayment results from fraud. However, the Commissioner must show fraud resulting in an underpayment for each taxable year in which fraud has been asserted. 53 T.C. 96">Otsuki v. Commissioner,supra.In the present case, the evidence in the record clearly and convincingly establishes that the petitioner fraudulently underpaid his income tax for 1981. He properly filed returns for years prior to 1981; yet, the documents that he submitted for 1981 clearly did not constitute returns within the meaning of section 6011 and the regulations thereunder. See Jarvis v. Commissioner,78 T.C. 646">78 T.C. 646 (1982); Thompson v. Commissioner,78 T.C. 558">78 T.C. 558 (1982); Reiff v. Commissioner,77 T.C. 1169">77 T.C. 1169 (1981). In addition, during1985 Tax Ct. Memo LEXIS 268">275 1981, as well as during 1982 and 1983, the petitioner filed false Forms W-4. On such forms, he falsely claimed that he was exempt from withholding because he was not liable for income taxes for the past and current years. While failure to file is not conclusive evidence of fraud, it is a factor worthy of consideration, particularly when coupled with the submission of false Forms W-4. Hebrank v. Commissioner,81 T.C. 640">81 T.C. 640, 81 T.C. 640">642 (1983); Habersham-Bey v. Commissioner,78 T.C. 304">78 T.C. 304, 78 T.C. 304">312-314 (1982). The petitioner was clearly aware of his obligation to file proper income tax returns, as evidenced by his filing returns which reported his wages as taxable income in prior years, and it is also clear that he knowingly and willfully failed to fulfill such obligation for 1981. See 81 T.C. 640">Hebrank v. Commissioner,supra at 641-644; 80 T.C. 1111">Rowlee v. Commissioner,supra at 1123-1126. Based on the record in the present case, we hold that the Commissioner has, by clear and convincing evidence, proved that the underpayment of the petitioner's tax for 1981 was due to fraud. The third issue for decision is whether the United States is entitled1985 Tax Ct. Memo LEXIS 268">276 to an award of damages under section 6673. Section 6673, as applicable to this case, provides: Whenever it appears to the Tax Court that proceedings before it have been instituted or maintained by the taxpayer primarily for delay or that the taxpayer's position in such proceedings is frivolous or groundless, damages in an amount not in excess of $5,000 shall be awarded to the United States by the Tax Court in its decision. * * This Court has been faced with numerous cases, such as this one, wherein taxpayers have advanced various frivolous and groundless positions in a blatant attempt to avoid their responsibility to pay their fair share of Federal income taxes. The petitioner in this case has abused the processes of this Court and wasted its resources. On the basis of the record, we conclude that the proceedings herein were instituted primarily for delay and that the petitioner's position at the time he instituted these proceedings was both frivolous and groundless. Although the petitioner claimed, at trial, and was allowed four additional exemptions, his primary contentions, as evidenced by his petition and reply, were typical of a tax protestor and were both frivolous1985 Tax Ct. Memo LEXIS 268">*277 and groundless. Accordingly, we award damages to the United States under section 6673 in the amount of $3,000. Decision will be entered under Rule 155.Footnotes1. All statutory references are to the Internal Revenue Code of 1954 as in effect during 1981, unless otherwise indicated.↩2. Any reference to a Rule is to the Tax Court Rules of Practice and Procedure.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621839/	Fritz Thompson and Dora M. Thompson, Petitioners, v. Commissioner of Internal Revenue, RespondentThompson v. CommissionerDocket No. 85740United States Tax Court38 T.C. 153; 1962 U.S. Tax Ct. LEXIS 147; April 26, 1962, Filed 1962 U.S. Tax Ct. LEXIS 147">147 Decision will be entered for the respondent. 1. Lots in a platted subdivision sold by petitioner in the taxable years 1957 and 1958 and those sold in a prior year on an installment basis on which collections were being made in these taxable years, were held primarily for sale to customers in the ordinary course of petitioner's trade or business and the gains therefrom constitute ordinary income.2. Where petitioner has elected to report Commodity Credit Corporation loans as income in the year of receipt under sec. 77, I.R.C. 1954, he must include in income all amounts so received even though the commodities pledged to secure some of the loans have been redeemed before the end of his taxable year in which the loans were made. 1962 U.S. Tax Ct. LEXIS 147">148 Wentworth T. Durant, Esq., and Robert Edwin Davis, Esq., for the petitioners.Robert I. White, Esq., for the respondent. Scott, Judge. SCOTT 38 T.C. 153">153 Respondent determined deficiencies in petitioners' income tax for the calendar years 1957 and 1958 in the amounts of $ 10,882.37 and $ 21,262.43, respectively. The issues for decision are whether petitioners realized long-term capital gain on the sales of various lots in the years 1957 and 1958 and whether Commodity Credit Corporation loans totaling $ 15,486.06 made to petitioners in 1958 resulted in taxable income to them during 1958.FINDINGS OF FACT.Petitioners, husband and wife residing in Borger, Hutchinson County, Texas, filed their joint income tax returns for the years 1957 and 1958 with the district director of internal revenue at Dallas, Texas.Fritz Thompson (hereinafter referred to as petitioner) was during the years here involved primarily a farmer and rancher and spent about 70 to 75 percent of his time in1962 U.S. Tax Ct. LEXIS 147">149 this endeavor. During these years petitioner also was president of a hotel corporation in Borger, was on the board of directors of two banks, and had civic duties as president of the Texas Good Roads Association.On April 7, 1942, petitioner purchased a 100-acre tract of land for $ 5,000 from a family named Weatherly. The tract was located on the west side of the townsite of Borger and situated on both sides of the route along which a highway was being constructed.At that time all of the land surrounding the city limits of Borger was owned by four large landowners, including the Weatherlys, who owned the land south of the townsite. Since the four owners were reluctant to sell any of their holdings, it was well known that it was difficult to acquire any land adjacent to the corporate limits of Borger. Petitioner felt that at the price of $ 5,000 the tract would be a good 38 T.C. 153">154 investment. Also, the tract was then occupied by approximately 100 tenants, who had erected shacks or shanties on the land and were paying annual ground rentals to the Weatherlys under year-to-year leases. Petitioner considered the rental income to be especially attractive since he was planning to 1962 U.S. Tax Ct. LEXIS 147">150 offer his services to the Army and he felt that if he should not return from the armed services, the rents would afford a livelihood for his family.The period from the latter part of 1942 to 1949 was one of unusual expansion for the Borger, Texas, area because of additions to the refining facilities of the Phillips Petroleum Company, located about 2 miles northeast of Borger, and particularly because in August 1942, construction was begun on a site about 3 miles west of Borger of a synthetic rubber plant which was to be operated for the Defense Plants Corporation by the Phillips Petroleum Company. There was an influx of thousands of construction workmen into the Borger area in the early part of 1943. As a result, there was a housing shortage in Borger, and it developed so quickly that it was not foreseen by the city manager of Borger or by residents of the town generally.The Phillips Petroleum Company became interested in acquiring land for housing the large number of new employees in its refinery and the new rubber plant. Phillips intended to buy the land and then reconvey it to a builder who, in turn, would subdivide it into lots and blocks for sale to individuals. After the1962 U.S. Tax Ct. LEXIS 147">151 lots were sold, it was planned that the owners would then borrow funds for the erection of houses thereon. Periodically, from 1943 through 1947, a representative of Phillips talked with petitioner and with the four principal landowners in the Borger area in an effort to purchase land which could be used to alleviate the housing shortage. Much of the land within the 100-acre tract, which petitioner had acquired, was hilly, broken by gulleys and deep ravines, and relatively undesirable as a site for residential building. In 1943, petitioner offered to sell the entire tract to Phillips at $ 500 per acre and in November 1944, petitioner quoted Phillips a price of $ 1,000 per acre on 42 acres of the most level and desirable land in the 100-acre tract. Phillips declined both offers.Phillips decided not to purchase the land from petitioner, because (1) the total cost involved in buying and making the land suitable for housing would be excessive, and (2) the mineral interests in the land had previously been conveyed to numerous persons, and Phillips could not devise any scheme for clearing the title to the property so as to enable future owners of the lots to pledge them as security 1962 U.S. Tax Ct. LEXIS 147">152 for homebuilding loans.In 1942 the need was noted for the passage of a platting ordinance for Borger, which would require that all land used for business or residential purposes within the city and contiguous residential areas 38 T.C. 153">155 to be annexed to the city, be platted into lots and blocks, with streets and alleys dedicated to public use in order that a sanitary water supply and public sewers could be provided for all residents of the town and such adjacent residential areas. From 1942 until 1946 the officials and townspeople of Borger considered such an ordinance. During this period petitioner was made aware that the proposed platting ordinance would apply to his tract. The ordinance was passed and went into effect about January 7, 1946. It provides in part as follows:It shall hereafter be unlawful for any person, firm, partnership or corporation to lease, let or grant any area, plot or parcel of land within the city of Borger, Texas, for residential purposes or for human habitation unless and until the said land is platted and designated by blocks and lot numbers and to serve which adequate rights-of-way have been dedicated to the public use in conformity with and connecting1962 U.S. Tax Ct. LEXIS 147">153 with public rights-of-way in adjacent platted areas of the said city.Petitioner's purchase, known as the Thompson Addition, was subdivided into four tracts as follows:TractDedication filed of recordUnit 1Nov. 10, 1944Unit 2Oct. 27, 1945Unit 3Mar. 5, 1947Unit 4Mar. 3, 1948Unit 4 consists of approximately the southern one-sixth of the Thompson Addition. Unit 3 is situated contiguous to and north of unit 4 and is about the same size as unit 4. The remaining two-thirds of the tract is divided roughly into an east part, unit 2, and a west part, unit 1.Although the plats to unit 1 and unit 2 of the Thompson Addition were filed by petitioner some months before the city platting ordinance became effective, petitioner was fully acquainted with the purpose, effect, and provisions of the proposed ordinance prior to the time any of the lots were sold, and he decided that it was in his best interest to cooperate with the city officials by complying with the spirit and the provisions of the proposed ordinance prior to its passage.Prior to the dedication of any of the units, petitioner sold two parcels of land from the Thompson Addition; one parcel of 3.85 acres1962 U.S. Tax Ct. LEXIS 147">154 to the Borger Independent School District, the other parcel of an unspecified amount to an individual named Sappington.When petitioner acquired the 100-acre tract, it was then occupied by approximately 100 squatters or land renters, who lived in shacks located principally in two areas on the tract. These two areas were located in what later was dedicated as unit 1 of the Thompson Addition to Borger, Texas. The people who were occupying the property came by to pay their ground rent to petitioner, and quite often when 38 T.C. 153">156 paying the rent asked if they might buy the property they were on. During 1944 petitioner stated to the squatters or land renters who inquired that he would be willing to plat an area for sale to the tenants if they could find a portion of the tract where they all could locate together. He suggested an area lying in the northwest portion of the tract and also informed the group that he intended to comply with the proposed city ordinance in laying out the plat. Petitioner made a rough sketch of a subdivision of lots and blocks with streets and alleys set aside for public use. As individual lots were selected, he wrote down the names of the prospective owners1962 U.S. Tax Ct. LEXIS 147">155 opposite the lot and block numbers. Later, he employed an engineer to prepare a plat in conformity with the terms of the city's proposed platting ordinance. About 90 percent of the shack owners subscribed for lots even before the plat was filed. However, many of them were poor people who were unable to pay for the lots at that time, and they entered into contracts with petitioner to purchase the lots on an installment basis. When the lots were paid for, the deeds were executed.In the summer of 1945 a group of Borger businessmen called on petitioner, stating that they had joined together for the purpose of obtaining some land in Borger upon which they could erect good homes which would be protected by building restrictions. They requested petitioner to make a portion of his tract available for that purpose, and he agreed to do so. He told them to select the area they desired and also pointed out that it would be laid out in lots and blocks and streets and alleys in conformity with the proposed platting ordinance of the city of Borger.In October 1945, the act of dedication of unit 2 of the Thompson Addition to the city of Borger was prepared and filed. Although more than one-half1962 U.S. Tax Ct. LEXIS 147">156 of the lots were subscribed to by businessmen before the plat was filed, the delivery of the deeds of the lots extended over a period of several years. Many of the subscribers did not pay for their lots or obtain deeds until they could obtain the necessary materials for constructing homes or until they were otherwise prepared to build.Unit 3 of the Thompson Addition was platted in 1947 under about the same circumstances as was unit 2. People desiring homesites approached petitioner, and as was the situation in units 1 and 2, most of the lots were subscribed for at or before the filing of the plats but the actual consummation of the sales or delivery of the deeds extended over a period of several years.Unit 4 of the Thompson Addition was platted and dedicated during March 1948. This was done in order that petitioner could sell off the rest of the 100-acre tract that he had purchased from the Weatherlys. Unit 4 was platted at the same time that sales were being made in units 1, 2, and 3.38 T.C. 153">157 In each of the four units of the Thompson Addition specific areas were dedicated for specific uses. In unit 1 there were 5 lots dedicated for "business purposes" and 119 residential1962 U.S. Tax Ct. LEXIS 147">157 lots. In unit 2, 7 of the lots were dedicated for "business and other purposes," 102 lots for residential purposes, and 4 lots for a church. In unit 3 there were 54 lots dedicated for "residential purposes" and 42 lots for "business and other purposes." One whole block in unit 3 was dedicated for use as a playground.In unit 4 one whole block was designated as "Thompson Park" and was dedicated for public use under the jurisdiction and control of the city of Borger. Nine lots in unit 4 were designated for use for single and double dwellings or character-building institutions or the like. The other 46 lots in unit 4 were designated "for business and other purposes."In most instances the lots designated for business or other purposes were so designated because they were adjacent to one of several highways which cut through the Thompson Addition, making such properties unsuitable for residential use. Also, with respect to unit 4, petitioner felt that the high cost of filling in certain of the lots eliminated the possibility of their being used for residental purposes. In every instance petitioner made the choice between residential and business use basing his choice on his judgment1962 U.S. Tax Ct. LEXIS 147">158 as to which designation would be more advantageous for the purpose of sale. The unit of sale in the Thompson Addition was per lot although on many occasions throughout the period 1944 to 1958 buyers purchased more than one lot in one transaction.After all the units were platted, there were approximately 387 lots in the Thompson Addition owned by petitioner. There were 22 other lots not owned by petitioner which were dedicated in unit 2 of the Thompson Addition by their respective owners.During the years 1944 through 1958 according to his income tax returns petitioner had sold 376 1/2 lots. The following table shows the number of lots sold in each of the units during each of the years involved:YearUnit 1Unit 2Unit 3Unit 4 1Total194451 6 19454910 59 19466354 1118 194714 1/29 23 1/219489 1/214 1/2428 19496 1/211 522 1/219502 27 332 1951110 1/29 20 1/219521 1/23 1/249 19531 4 27 19541 12 195555 195621 1316 19578 1220 19584 48 Total120110 1/292 54376 1/21962 U.S. Tax Ct. LEXIS 147">159 38 T.C. 153">158 Following is a schedule of gross income, expense incurred, and net profit realized from the sale by petitioner of lots in the Thompson Addition to Borger during the period 1944 through 1958:YearGross salesExpenses andNet profitcost of lots1944$ 1,475.00$ 987.55$ 487.45194522,566.5010,790.9511,775.55194660,639.2034,258.3826,380.82194728,850.0015,087.6713,762.33194836,959.3017,737.1319,222.17194929,451.5011,761.0517,690.45195056,045.0039,345.3116,699.69195136,853.7519,988.6516,865.10195220,750.0011,501.829,248.18195325,035.0017,276.757,758.2519544,000.002,226.551,773.45195513,850.003,998.509,851.5019561 34,550.0012,498.5122,051.4919571 51,700.0013,660.6138,039.3919581 41,975.008,343.8933,631.11Total464,700.25219,463.32245,236.93The income tax returns filed by petitioner show the following sources and amounts of gross income for the years 1944 through 1958.RentalFarmYearSalary 1propertyincome(apts.)(exceptcattle)1944$ 2,250.00$ 4,433.40$ 8,894.6219452,729.844,291.653,066.9919463,000.004,446.6110,091.6719473,000.004,297.0019,657.9019483,600.004,375.0017,003.7319493,600.004,774.0010,666.3719503,600.004,585.002,750.3519513,600.004,550.001,086.4419522 7,229.634,567.877,636.8019532 7,798.164,455.652,029.5519543 7,950.003,618.5010,516.3519553 8,400.004,399.264 6,397.9819563 5,250.004,398.164,225.5319574,200.005 15,368.3519584,583.345 9,136.19Total62,007.6365,975.44128,528.821962 U.S. Tax Ct. LEXIS 147">160 YearCattleGroundOil and gassalesrentsrentals1944$ 429.54$ 320.00194519461947194819491950900.00320.0019512,700.00320.001952900.00320.0019531,800.00160.0019541,800.0019551,800.0019561,800.001957$ 56,794.231958117,022.11556.00Total173,816.3412,129.541,996.00Real estateMiscellaneousOil and gasYearsales (salesincomeroyaltiesprice)and leasebonuses1944$ 1,475.00$ 245.00194522,566.50200.00194660,639.20194728,850.00194836,959.307.50194929,451.501,037.18195056,045.0036.50195136,853.75553.63195220,750.00564.56195325,035.00125.0019544,000.00766.00195513,850.00210.00$ 13.5619566 34,550.00445.385,825.1919576 51,700.00878.3248.5419586 41,975.002,283.307,024.20Total464,700.257,352.3712,911.49Fees fromYearInterestPhillipsTotalPetroleumCompany1944$ 18,047.56194532,854.98194678,177.48194755,804.90194861,945.53194949,529.051950$ 68.5068,305.35195126.2549,690.071952461.3242,430.1819531,161.7842,565.141954288.48$ 4,000.0032,939.3319551,063.681,230.3637,364.841956530.463,067.2460,091.9619576,411.49135,400.9319584,586.10187,166.24Total14,598.068,297.60952,313.541962 U.S. Tax Ct. LEXIS 147">161 38 T.C. 153">159 In order to make the Thompson Addition land suitable for sale, petitioner expended for improvements on units 1, 2, and 3 the following amounts for the purposes indicated during the period ending with 1949:Leveling, grading, and filling$ 39,660Paving sidewalks7,600Paving streets and alleys18,235Drainage facilities1,708Other13,297Total80,5001962 U.S. Tax Ct. LEXIS 147">162 The only work done by petitioner on unit 4 was the installation of a small amount of drainage tile. Petitioner also cooperated with the city and the local school district in opening up the streets in unit 4. He paid an assessment on a front footage basis to the city for all paved streets placed where he owned property in unit 4. Several of the lots in unit 4 required extraordinary amounts of filling to condition them for use. Two purchasers spent $ 7,000 and $ 12,000, respectively, in filling in land owned by them in unit 4.Petitioner did not grade or fill unit 4 because prospective purchasers did not seem to care whether the properties were graded or filled. The lots could be sold without such work.Petitioner used his own best judgment in pricing the lots throughout the Thompson Addition. He adopted a uniform price per front foot and made adjustments from time to time to bring the selling price of unsold lots into line with the progressive fair market value.After the units in the Thompson Addition were platted and the streets dedicated, all of the lots were available for sale. There were no areas in the whole Thompson Addition that were not for sale. None of the property1962 U.S. Tax Ct. LEXIS 147">163 was being held for investment or rental purposes. If the lots could have been sold during a 1-year period petitioner would have sold them all. The circumstances of the market in Borger and petitioner's mode of selling the lots resulted in the sale of the lots being spread from 1944 to 1958.38 T.C. 153">160 During the period 1944 through 1958 petitioner never employed a real estate broker or other person to sell any of the lots involved in this proceeding, and he never solicited anyone to buy any part of the tract. In every instance, the purchasers came to him, either in groups or individually.Petitioner fixed the selling price for each of the lots, and while the prices varied in accordance with the size and location of the lots, petitioner never reduced nor offered to reduce any of the prices fixed by him. The lots were never advertised for sale nor was a "For Sale" sign ever posted on the property. Petitioner never had a realtor's license.During the 1940's, since the population of Borger almost doubled and the industrial expansion created a great shortage of building lots in Borger, it was not necessary for petitioner to do extensive advertising and promoting in order to sell his1962 U.S. Tax Ct. LEXIS 147">164 lots. Petitioner described the situation as follows:There was a great demand for lots during the middle and late forties and I would be called at home or maybe somebody would meet me on the street or at various places and indicate that they wanted to buy a lot to get out with their friends in a place where the type of housing was better and a place that was being principally used by the business men of the City.During the 1950's, although there have been other real estate developments in and around Borger, the real estate market continued to be close. For years it has been generally known by the people of Borger that petitioner owned the lands in the Thompson Addition.During the years 1946 through 1949, inclusive, petitioner spent about 10 percent of his time on the Thompson Addition. This included the time he spent in talking with several groups who desired to erect housing on the land, the time involved in having the lands prepared, the time spent in making the land suitable for homesites, the time required for signing deeds, and the time devoted to talking with buyers who came in to see him.For the years 1946 to 1949 petitioner sold 192 lots involving all four units of the1962 U.S. Tax Ct. LEXIS 147">165 Thompson Addition. He reported the gains from the sale as long-term capital gain. There ensued controversy with the Government with respect to the proper tax treatment for the gains terminated by a decision of the United States Court of Claims rendered in 1956 in which it was held that "for these years a substantial part of taxpayer's business was the sale of the lots and, therefore, that they were sold in the ordinary course of his trade or business, and are taxable as ordinary income."Petitioner did not change his mode of selling his lots after the decision of the United States Court of Claims. The 20 lots sold by petitioner in 1957 were in six transactions consisting of five sales from unit 4 and one sale from unit 3; and in 1958 the 8 lots sold were in four 38 T.C. 153">161 separate transactions consisting of three sales from unit 4 and one sale from unit 3. About one-half day of petitioner's time was devoted to consummating the six sales in 1957, and about 6 hours of his time was so occupied in connection with the four sales in the year 1958.The following tabulation shows the sales and collections on installment sales of lots in the years involved, divided between properties located1962 U.S. Tax Ct. LEXIS 147">166 in units 3 and 4.Unit 3Unit 4Total1957$ 7,500$ 44,200$ 51,700195810,50031,47541,975Total18,00075,67593,675The collections made on installment sales in 1957 were from sales made in 1956 and the collections in 1958 were from sales made in 1956 and 1957.During the 4-year period 1953 to 1956 petitioner consummated the number of sales in selling the number of lots as follows:YearNumber of lots soldNumber of sales1953731954221955541956167Prior to the year 1958, petitioner had obtained Commodity Credit Corporation loans for some of his wheat and had elected pursuant to section 77 of the Internal Revenue Code of 1954, to report the proceeds of such loans as income in the year in which such loans were obtained. Petitioner never applied for permission from the Commissioner of Internal Revenue or his delegate to change his elected method of accounting for proceeds of loans made to him by the Commodity Credit Corporation.During the year 1958, petitioner obtained Commodity Credit Corporation loans on wheat grown by him during that year. These loans totaled $ 23,392.75.Petitioner was entitled to redeem any or1962 U.S. Tax Ct. LEXIS 147">167 all of these loans at any time before March 31, 1959, by paying the Commodity Credit Corporation the amount thereof plus interest at 3 1/2 percent.On December 30, 1958, petitioner redeemed two of the lots of wheat by repaying to the Commodity Credit Corporation $ 15,761.46 which amount included interest of $ 233.97. During 1959, petitioner sold the wheat so redeemed on January 9 (3,447.33 bushels, $ 6,030.23 proceeds), and on January 17 (4,840.83 bushels, $ 9,633.43 proceeds), and reported the proceeds of these sales for the taxable year 1959. The proceeds from these two sales aggregated $ 15,663.66.38 T.C. 153">162 Petitioner's decision to redeem the wheat was made after discussion with various grain dealers in the area. It was petitioner's conclusion that the price of wheat would rise and that he would make a profit by holding the wheat himself. Petitioner's decision to sell the redeemed wheat was prompted by his feeling that he could make more profit from purchasing cattle than from holding the wheat for a possible price rise. Upon the sale of the wheat in 1959, petitioner invested an equivalent amount in cattle purchases.The market value of wheat, based upon the Fort Worth Exchange1962 U.S. Tax Ct. LEXIS 147">168 quotation was constant during the period December 29 and 30, 1958, through January 17, 1959. The proceeds of sale of the redeemed wheat received on January 9 and 17, 1959, were approximately $ 205 more than the proceeds would have been had the wheat been sold on December 29, and 30, 1958.During the taxable year 1958, petitioner deducted all costs and expenses incidental to growing, harvesting, and handling the wheat that was placed with the Commodity Credit Corporation on July 25, 1958, as security for the loan of $ 15,486.06. Petitioner also deducted as interest expenses during the taxable year 1958 the $ 233.97 paid to the Commodity Credit Corporation on December 30, 1958, in connection with the repayment of loans on the wheat made on July 25, 1958.Petitioners on their income tax returns for the year 1957 reported 5 percent of the receipts from sales of lots in the Thompson Addition sold in that year and the amount collected from installment sales in prior years as ordinary income and subtracted their basis in the lots from the balance of the sales receipts, reporting the resultant amount as long-term capital gains. On their return for the year 1958, they reported 5 percent1962 U.S. Tax Ct. LEXIS 147">169 of the gains from the sales of lots and collections on prior year installment sales as ordinary income and the balance thereof as long-term capital gains.Respondent in his notice of deficiency increased petitioners' income for 1957 by an amount of $ 17,727.19 denominated "capital gain deduction" with the following explanation:(b) It is held that you received ordinary income from sales of lots and collections on installment sales made in prior years instead of long-term capital gains as reported on your return. The deductions for capital gains are disallowed.For the year 1958 respondent increased petitioners' income by an amount of $ 15,967.77 denominated "capital gain deduction" giving the same explanation as that given for the similar increase in petitioners' income for 1957.Petitioner reported the $ 7,906.69 of Commodity Credit Corporation loans received and not repaid in 1958 as income from wheat in that year, but did not report the $ 15,486.06 of the Commodity Credit Corporation loans applicable to the wheat redeemed on December 30, 1959.38 T.C. 153">163 Respondent in his notice of deficiency increased petitioners' income for 1958 by an amount of $ 15,486.06 denominated "wheat1962 U.S. Tax Ct. LEXIS 147">170 sales" with the following explanation:(c) It is determined that you received income of $ 23,392.75 from the sale of wheat instead of $ 7,906.69 as reported on your return. * Some of the facts have been stipulated and are found accordingly.OPINION.The first issue is whether gains realized by petitioner during the taxable years here involved from sales of lots from a tract of land which he had previously subdivided and installment payments received during these years from sales of similar lots in prior years constituted ordinary income or long-term capital gains.It is respondent's position that these lots were property held by petitioner primarily for sale to customers in the ordinary course of his trade or business and therefore not capital assets under section 1221 of the Internal Revenue Code of 1954. 11962 U.S. Tax Ct. LEXIS 147">171 The numerous cases dealing with the question of whether property is held primarily for sale to customers in the ordinary course of a trade or business have provided no rule of thumb by which an answer may be reached. The precise facts of each case are determinative, and of the various criteria to be considered, no one constitutes a decisive test. Kelley v. Commissioner, 281 F.2d 527 (C.A. 9, 1960), affirming a Memorandum Opinion of this Court, and D. L. Phillips, 24 T.C. 435">24 T.C. 435 (1955). Among the various factors to be considered are the purpose or reason for the taxpayer's acquisition of the property and disposition of it, the length of time the property is held, the continuity of sales or sales-related activity over a period of time, the number, frequency, and substantiality of sales, and the extent to which the owner or his agents engaged in sales activities by developing or improving the property, soliciting customers, and advertising. Friend v. Commissioner, 198 F.2d 285 (C.A. 10, 1952), affirming a Memorandum Opinion of this Court.The instant case presents a somewhat unusual1962 U.S. Tax Ct. LEXIS 147">172 factual situation in that the case of Thompson v. Commissioner, 145 F. Supp. 534">145 F. Supp. 534 (Ct. 38 T.C. 153">164 Cl. 1956) involved the same taxpayer (Fritz Thompson), the same Thompson Addition, and sales of lots from the same units of this tract of property as are involved in the instant case, but the taxable years involved therein were 1946 to 1949. In that case the Court of Claims held that the taxpayer held the lots sold during the years there involved primarily for sale to customers in the ordinary course of his trade or business.Respondent does not contend that this Court of Claims decision is res judicata in the present case. Cf. Commissioner v. Sunnen, 333 U.S. 591">333 U.S. 591 (1948). He does, however, take the position that the judicial determination in that case is conclusive of the fact that in the years 1946 to 1949 petitioner was in the trade or business of selling lots from each of the units of Thompson's Addition from which lots were sold in the years involved herein and that petitioner has the burden of showing that the character of the holding of the property changed in these later years.Petitioner disagrees with this 1962 U.S. Tax Ct. LEXIS 147">173 contention of respondent's. Petitioner's position is that the fact that he originally acquired the tract in 1942 as an investment should be considered but that neither his activities with respect thereto during the years 1946 to 1949 nor the decision in his case in the Court of Claims involving those years should influence the determination of whether the lots sold in 1956, 1957, and 1958 were property held by him primarily for sale to customers in the ordinary course of his trade or business. He points to the facts that no substantial improvements were made to the property in the years 1956 to 1958, that most of the lots sold in those years were from unit 4 which had not been improved other than by streets placed therein by the city for which he paid an assessment, that the lots sold in 1957 involved only six separate sales and those sold in 1958 only four separate sales, and that the time he spent in 1957 and 1958 in consummating the sales was nominal as indicating that he was not in the business of selling lots from the Thompson Addition during the years here in issue. Petitioner further contends that if he does have the burden of showing that the character of his holding of 1962 U.S. Tax Ct. LEXIS 147">174 the property changed in the years here in issue from the years 1946 to 1949, the evidence herein is sufficient to show such a change. The factors to be weighed in determining whether a taxpayer is holding property for sale to customers in the ordinary course of his trade or business clearly contemplate consideration of activities with respect to the property in years prior to the taxable years in issue. The length of time the property has been held and the continuity of sales over a period of time both indicate the relevance of facts occurring in prior years. The development and improvement of the property would generally be expected to occur prior to the sale thereof. We therefore consider the facts with respect to petitioner's 38 T.C. 153">165 platting and developing of the property during the years 1944 through 1949 to have a bearing on the issue involved herein. While the fact that a taxpayer acquires property for investment purposes is to be considered in cases involving the question here in issue, this fact is of little importance in the instant case since we are here bound to accept the judicial conclusion in the Court of Claims case that during 1946 to 1949 petitioner was holding1962 U.S. Tax Ct. LEXIS 147">175 the then platted lots in the tract sold during those years for sale to customers in the ordinary course of his trade or business. Sales were made in 1946 to 1949 from each unit of the tract, and it thus follows that petitioner was holding the lots in each unit for sale to customers in the ordinary course of his trade or business during the years 1946 to 1949. The fact that petitioner was so holding the lots in 1946 to 1949 is, of course, not conclusive as to how the property was held in the years 1956 to 1958, the years in which the sales that produced the gains involved herein, were made.Petitioner argues that since the decision in the Court of Claims case was rendered in 1956, it is not reasonable to conclude that he thereafter continued to hold the lots for sale to customers in the ordinary course of his trade or business. However, an examination of the evidence herein discloses no change in the manner in which petitioner dealt with the property from the 1946 to 1949 period throughout the years here involved. Petitioner testified that at all times after the lots in the various units were platted, he was willing to sell any lot at any time to any person who wished to buy it1962 U.S. Tax Ct. LEXIS 147">176 at his asking price. Neither his willingness to sell lots nor his method of making sales changed. The evidence shows fewer sales per year in the period 1953 to 1958 than in prior years and that less of petitioner's time was devoted to the property in 1957 and 1958 than in 1946 to 1949. The record is clear, however, that the reduction in the number of sales was not due to any change in petitioner's method of selling. It was apparently a result of the fact that by the end of 1952 petitioner had sold 318 1/2 out of the 387 platted lots, thus having a more limited choice of lots for prospective buyers. The time spent by petitioner in selling the property during 1957 and 1958 was that which was needed to make the sales in those years after the improvements to the property were complete. In prior years when improvements were being made on the property, more of petitioner's time was required.Although the lots in unit 4 from which some of the sales in the years here involved were made were not filled and graded as were the lots in units 1, 2, and 3, the lots in this unit were being held and sold together with and treated in the same manner as the lots in the other units, both in 19481962 U.S. Tax Ct. LEXIS 147">177 and 1949, and in 1956, 1957, and 1958. These lots were therefore held for the same purpose as the other lots. Cf. O'Donnell Patrick, 31 T.C. 1175">31 T.C. 1175, 31 T.C. 1175">1181 (1959), affd. 275 F.2d 437 (C.A. 38 T.C. 153">166 7, 1960), and Donald J. Lawrie, 36 T.C. 1117">36 T.C. 1117 (1961). More of the lots in unit 4 were dedicated to business purposes than in units 1, 2, and 3, but this was because petitioner believed that these lots were more readily salable as business use lots. The petitioner did not put in the paved streets in unit 4 as he had in units 1, 2, and 3, but paved streets were put into this unit by the city with petitioner paying his proportionate assessment, thus improving the property in unit 4. Cf. C. E. Mauldin, 16 T.C. 698">16 T.C. 698, 16 T.C. 698">710 (1951), affd. 195 F.2d 714 (C.A. 10, 1952). The developmental improvements made to units 1, 2, and 3, as well as the streets put in by the city in unit 4, would tend to promote sales of the property and constituted sufficient promotion to sell the lots in the seller's market that existed in Borger, Texas, a city in which petitioner1962 U.S. Tax Ct. LEXIS 147">178 was well known as having the lots available for sale. William E. Starke, 35 T.C. 18">35 T.C. 18, 35 T.C. 18">29 (1960), on appeal (C.A. 9, 1961), and Joseph M. Philbin, 26 T.C. 1159">26 T.C. 1159, 26 T.C. 1159">1165 (1956).From 1944 through 1958 petitioner sold 376 1/2 of the total of his 387 lots in the Thompson Addition in 286 separate transactions with resulting net gains of $ 245,236.93, all important factors to be considered in determining whether petitioner was in the business of selling real estate. Cf. John D. Riley, 37 T.C. 932">37 T.C. 932 (1962).Petitioner cites and relies upon a number of cases in which it has been held that property was not held for sale in the ordinary course of a taxpayer's trade or business including Eline Realty Co., 35 T.C. 1">35 T.C. 1 (1960); Wellesley A. Ayling, 32 T.C. 704">32 T.C. 704 (1959); W. T. Thrift, Sr., 15 T.C. 366">15 T.C. 366 (1950); Frieda E. J. Farley, 7 T.C. 198">7 T.C. 198 (1946); Cole v. Usry, 294 F.2d 426 (C.A. 5, 1961); and Barrios' Estate v. Commissioner, 265 F.2d 5171962 U.S. Tax Ct. LEXIS 147">179 (C.A. 5, 1959), reversing 29 T.C. 378">29 T.C. 378 (1957).The facts in each of these cases differ in certain particulars. There are various differences in the facts in all the cases cited by petitioner and those in the instant case. One major difference is that in none of the cases cited by petitioner had it been judicially determined that parts of the property were held by the taxpayer there involved in prior years for sale to customers in the ordinary course of his trade or business.We hold that the lots sold by petitioner in the Thompson Addition from which gains were realized in 1957 and 1958 constituted property held by petitioner primarily for sale to customers in the ordinary course of his trade or business.The loans by the Commodity Credit Corporation to petitioner in 1958 were made under an arrangement pursuant to law whereby petitioner's wheat was delivered to the Commodity Credit Corporation at the time of the loan, petitioner having the right to redeem the wheat at any time before March 31, 1959, by paying the face amount of the loan and accrued interest at the rate of 3 1/2 percent per annum, 38 T.C. 153">167 and if the wheat was not redeemed by March 31, 1962 U.S. Tax Ct. LEXIS 147">180 1959, it would be accepted on that date in full payment of the loan.Although proceeds of loans are not generally income, section 77 of the Internal Revenue Code of 19542 provides that a taxpayer may make an election to treat proceeds from Commodity Credit Corporation loans as income in the year during which the loan proceeds are received. The election, once made, is irrevocable for that and all succeeding years without the obtaining of the permission of the Commissioner to make a change.1962 U.S. Tax Ct. LEXIS 147">181 The parties have stipulated that prior to 1958 petitioner elected pursuant to section 77 of the Internal Revenue Code of 1954 to report Commodity Credit Corporation loan proceeds as taxable income in the year in which the proceeds were received and that petitioner has never applied for permission to change his method of accounting for Commodity Credit Corporation loan proceeds.Petitioner contends that under section 77 of the Internal Revenue Code of 1954 only those commodity loans made during the taxable year which are not repaid and the commodity redeemed before the end of the taxable years should be treated as income. Petitioner contends that this interpretation of the statute is in accordance with annual accounting concepts requiring a taxpayer to account for gains and losses as of the end of a taxable year. Petitioner also argues that not to adopt his view would result in his being taxed twice on receipts from the same wheat, once in 1958 when he received the loans and again in 1959 when he sold the redeemed wheat, since the redemption of the wheat in December 1958 was not a purchase of the wheat creating a cost basis therefor. Petitioner also contends that respondent's treatment1962 U.S. Tax Ct. LEXIS 147">182 would, in effect, force petitioner with respect to the redeemed wheat to be on a crop inventory basis of accounting without his so electing and would distort his income for 1958 in that he would be charged with income with respect to the sale of wheat at the end of the taxable year when he has nothing to represent that income other than the wheat itself.Respondent contends that under section 77 of the Internal Revenue Code of 1954 the entire amount of the Commodity Credit Corporation loan proceeds in 1958 became income immediately upon receipt thereof by petitioner, and that to allow petitioner to move the income from 38 T.C. 153">168 1958 to 1959 by means of the wheat redemption would make a nullity of the irrevocable provisions of that section.Respondent argues that for tax purposes a Commodity Credit loan should be treated as a sale of the wheat and a subsequent redemption of the wheat should be considered as a separate transaction comparable to a purchase of the wheat for the amount paid to redeem it, which amount would be its basis to be applied against any subsequent sale.The statute provides that amounts received as loans from the Commodity Credit Corporation shall be considered1962 U.S. Tax Ct. LEXIS 147">183 as income and shall be included in gross income in the year received. This would imply that all loans received during the taxable year are to be considered as income, not just the ones remaining unredeemed at yearend. The committee reports 3 state that Commodity Credit Corporation loans should be treated for income tax purposes as though such commodities had been sold in the year of the loan for the amounts of the loan. If a loan is to be treated as a sale, the income arising therefrom arises at the time of the sale and not at some later time. Where the receipt of a Commodity Credit Corporation loan is considered as a sale of wheat, certainly a payment in redemption of the wheat should be considered as a repurchase of that wheat. Purchases of commodities by a farmer for resale do not affect his election as to crop inventory method of accounting or distort his annual income. Cf. D. E. Alexander, 22 T.C. 234">22 T.C. 234 (1954). In many instances a gain on a sale is recognizable for tax purposes even though the proceeds of the sale have been spent, either in reacquisition of the assets sold or otherwise, before the end of the taxable year.1962 U.S. Tax Ct. LEXIS 147">184 Since petitioner has elected to include Commodity Credit Corporation loans in income when received, he is bound by his election to so include all such amounts.Decision will be entered for the respondent. Footnotes1. One lot given to Girl Scouts in 1946 -- not included herein.↩1. Gross sales include amounts collected on installment sales.↩1. During the years 1944 through 1951, salary received from Hutchinson County.↩2. Salary received as follows:↩1952: Fritz Thompson (Hutchinson Co.)$ 3,600.00Dora M. Thompson3,629.637,229.631953: Dora M. Thompson$ 2,548.16Fritz Thompson:Chamber of Commerce$ 3,300City of Borger1,9505,250.007,798.163. Salary received from city of Borger.↩4. Farm income for 1955 includes some damages from oil companies and station rental, but excludes $ 5,839.40 which was taken to be payments for rights-of-way.↩5. Farm income for 1957 and 1958 did not include damages received from oil companies; adjustments were made to correct this in the statutory notice of deficiency.↩6. These amounts include proceeds of outright sales and collections on installment sales made in preceding years.↩1. On his 1957 and 1958 income tax returns petitioner reported all the income arising from the sale of lots by a method which was apparently intended to be in accordance with the provisions of section 1237 of the Internal Revenue Code of 1954. Petitioner, neither in his petition nor on brief, has urged the applicability of section 1237 but rather contends that the subject lots were capital assets within the meaning of section 1221 of the Internal Revenue Code of 1954. However, petitioner has not sought a refund with respect to the 5-percent amounts he reported as regular income on his income tax returns. In this state of the record we do not consider the question of the applicability of section 1237 of the Internal Revenue Code of 1954 to be in issue here. It may be that this issue is not raised by petitioner because of the inapplicability of section 1237 of the Code except when a certain election is made where substantial improvements have been made on the property. Cf. Kelley v. Commissioner↩, 281, F. 2d 527 (C.A. 9, 1960), affirming a Memorandum Opinion of this Court.2. I.R.C. 1954.SEC. 77. COMMODITY CREDIT LOANS.(a) Election to Include Loans in Income. -- Amounts received as loans from the Commodity Credit Corporation shall, at the election of the taxpayer, be considered as income and shall be included in gross income for the taxable year in which received.(b) Effect of Election on Adjustments for Subsequent Years. -- If a taxpayer exercises the election provided for in subsection (a) for any taxable year, then the method of computing income so adopted shall be adhered to with respect to all subsequent taxable years unless with the approval of the Secretary or his delegate a change to a different method is authorized.↩3. S. Rept. No. 648, 76th Cong., 1st Sess., p. 8 (1939), 1939-2 C.B. 529."The attention of your committee has been drawn to the fact that loans by the Commodity Credit Corporation to producers of agricultural commodities, on the security of such commodities, though in form loans, should be treated for income-tax purposes as though such commodities had been sold in the year of the loan for the amount of the loan. * * *"↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621852/	JOHN A. AND SUSAN C. MCGUIRE, Petitioner, v. COMMISSIONER OF INTERNAL REVENUE, RespondentMcGuire v. CommissionerDocket No. 28105-86United States Tax CourtT.C. Memo 1990-610; 1990 Tax Ct. Memo LEXIS 690; 60 T.C.M. 1346; T.C.M. (RIA) 90610; December 4, 1990, Filed John A. McGuire, pro se. Jeffery N. Kelm1990 Tax Ct. Memo LEXIS 690">691 and Albert A. Balboni, for the respondent. POWELL, Special Trial Judge.POWELL1955 MEMORANDUM OPINION This case involves deductions claimed for losses incurred in certain straddle transactions conducted with an entity known as Hillcrest Securities. 1 Petitioners concede that the transactions were not bona fide; they contend, however, that the Court lacks jurisdiction because the notice of deficiency was invalid under the reasoning of Scar v. Commissioner, 814 F.2d 1363">814 F.2d 1363 (9th Cir. 1987), revg. 81 T.C. 855">81 T.C. 855 (1983), and, on June 11, 1990, filed a Motion to Dismiss. The underlying facts are not in dispute and may be summarized as follows.During 1982, 1990 Tax Ct. Memo LEXIS 690">692 petitioner John A. McGuire entered into certain alleged straddle transactions with Hillcrest that gave rise to purported losses in the amount of $ 78,212 that petitioners claimed on their 1982 Federal income tax return. By a notice of deficiency, dated July 2, 1986, respondent disallowed the deductions, increased petitioner's gross income for an amount of unreported interest and determined additions to tax under sections 6653(a) and 6661. 2 He also determined that increased interest under section 6621(d) (now section 6621(c)) was due. The relevant parts of the notice of deficiency state: HILLCREST SECURITIES CORPORATION, INC. I IT IS DETERMINED THAT THE DEDUCTIONS, INCOME, GAINS AND LOSSES REPORTED BY YOU ON YOUR INCOME TAX RETURN FOR THIS TAXABLE PERIOD FROM ALLEGED TRADING IN GOVERNMENT SECURITIES, CANNOT BE RECOGNIZED SINCE IT HAS BEEN DETERMINED THAT THE TRANSACTIONS1990 Tax Ct. Memo LEXIS 690">693 WERE PRECONCEIVED SHAMS LACKING ECONOMIC SUBSTANCE. FURTHER, THE TRANSACTIONS AND LOSSES DID NOT OCCUR OR OCCUR IN THE MANNER CLAIMED. FURTHER, RECOGNITION OF THE CLAIMED DEDUCTIONS, INCOME, GAINS AND LOSSES AS PURPORTED 1956 WOULD DISTORT THE ECONOMIC REALITY OF THHE [sic] ENTIRRE [sic] TRANSACTION. NO GENUINE LOSS OCCURRED AND THE ENTIRE TRANSACTION LACKED ECONOMIC REALITY. ADDITIONALLY, THE CLAIMED LOSSES IN THIS TAXABLE PERIOD ARE DISALLOWED BECAUSE OF THE LACK OF ANY PROFIT MOTIVE. MOREOVER, THE CLAIMED LOSSES ARE DISALLOWED BECAUSE THEY DO NOT CLEARLY REFLECT INCOME. SHOWN ON RETURN OR AS PREV. ADJUSTED$ (78,212.00)CORRECTED AMOUNT$ 0.00 ADJUSTMENT$ 78,202.00 * * IT IS DETERMINED THAT YOU REALIZED INTEREST INCOME IN THE AMOUNT SHOWN WHICH YOU FAILED TO REPORT ON YOUR INCOME TAX RETURN. ACCORDINGLY, YOUR TAXABLE INCOME IS INCREASED BY THAT AMOUNT FOR THIS TAXABLE PERIOD.SHOWN ON RETURN OR AS PREV. ADJUSTED$ 0.00CORRECTED AMOUNT$ 308.00ADJUSTMENT308.00TAX MOTIVATED TRANSACTIONS PART OF THE UNDERPAYMENT OF YOUR INCOME TAX FOR THIS TAXABLE PERIOD IS1990 Tax Ct. Memo LEXIS 690">694 AA [sic] SUBSTANTIAL UNDERPAYMENT ATTRIBUTABLE TO TAX MOTIVATED TRANSACTIONS UNDER SECTION 6621 (d) OF THE INTERNAL REVENUE CODE. THE UNDERPAYMENT ATTRIBUTABLE TO TAX MOTIVATED TRANSACTIONS AS SHOWN FOR THIS TAXABLE PERIOD. ACCORDINGLY, THE ANNUAL RATE OF INTEREST PAYABLE ON YOUR INCOME TAX FOR THIS TAXABLE PERIOD RESULTING FROM THE SUBSTANTIAL UNDERPAYMENT OF TAX ATTRIBUTABLE TO TAX MOTIVATED TRANSACTIONS SHALL BE 120 PERCENT OF THE ADJUSTED RATE ESTABLISHED UNDER SECTION 6621(b) OF THE INTERNAL REVENUE CODE. PENALTIES SINCE ALL OR PART OF THE TAX IS DUE TO NEGLIGENCE OR INTENTIONAL DISREGARD OF RULES AND REGULATIONS, YOU ARE LIABLE FOR A PENALTY UNDER SECTION 6653(a) OF THE INTERNAL REVENUE CODE. THIS PENALTY IS 5 PERCENT OF THE FULL UNDERPAYMENT OF TAX PLUS 50 PERCENT OF THE INTEREST DUE ON THE PART OF THE UNDERPAYMENT ATTRIBUTABLE SOLELY TO NEGLIGENCE. THE ADDITION TO TAX UNDER THIS PROVISION IS CONSIDERED TO BE A STATED AMOUNT EVEN THOUGH THE ADDITION IS DEPENDENT ON THE INTEREST DUE ON THE UNDERPAYMENT.PENALTIES SINCE THERE IS A SUBSTANTIAL UNDERSTATEMENT OF INCOME TAX YOU ARE LIABLE FOR A PENALTY OF 10 PERCENT UNDER SECTION 6661 OF THE INTERNAL REVENUE1990 Tax Ct. Memo LEXIS 690">695 CODE. IN ADDITION, INTEREST IS FIGURED ON THE PENALTY FROM THE DUE DATE OF THE RETURN (INCLUDING EXTENSIONS). SEE CODE SECTION 6601(e)(2). For the purposes of deciding the present issue, the Court assumes that respondent did not contact petitioners prior to the mailing of the notice of deficiency. We are also willing to assume that, as petitioners allege, they attached copies of the confirmations of the Hillcrest transactions to their tax return. Section 6212(a) provides, inter alia, that "If the Secretary determines that there is a deficiency in respect of any tax imposed by subtitle A * * , he is authorized to send notice of such deficiency to the taxpayer." [Emphasis supplied.] As we understand their argument, petitioners do not dispute that there was a determination made by the Secretary with respect to the underlying merits of the Hillcrest transactions. Rather, their argument is: When issuing petitioner's [sic] 1982 deficiency notice, the Commissioner made no attempt to ascertain whether the penalties were warranted. It seems clear petitioner's [sic] return was not reviewed since complete disclosure of the transaction was made on the return, including1990 Tax Ct. Memo LEXIS 690">696 the attachment to the return of a copy of the brokerage statement reflecting the transactions (the only documentation of the transactions which petitioner [sic] had). As early as 1921 * * * the Commissioner announced that complete disclosure of a non frivolous position prevents the imposition of the negligence penalty. Nor did the Commissioner make an attempt, before asserting negligence in the deficiency notice, to determine whether the reasonable man standard was met. [Footnotes omitted.] Petitioners then conclude that "the Commissioner had not, at least as to the penalties, examined his [sic] return and correspondingly could not have 'determined' a deficiency," and the notice is invalid under 814 F.2d 1363">Scar v. Commissioner, supra.There are several underlying assumptions in petitioners' argument that are flawed. First, 1957 petitioners assume that there was no examination of their return because respondent determined additions to tax for negligence when they had attached the confirmation slips to their return. But, this is a non sequitur. If, as determined by respondent and now conceded by petitioners, the transactions were not bona fide, the1990 Tax Ct. Memo LEXIS 690">697 fact that bogus confirmation slips were attached to the return does not establish that there was no examination of the return. Second, it is clear from the notice of deficiency that respondent did determine that additions to tax were applicable. The fact that respondent may not have had all pertinent information does not belie the fact that he did make a determination however right or wrong it may have been. That is all that section 6212 requires. See Pearce v. Commissioner, 95 T.C. (Sept. 12, 1990); Campbell v. Commissioner, 90 T.C. 110">90 T.C. 110 (1988); Clapp v. Commissioner, 875 F.2d 1396">875 F.2d 1396 (1989). Finally, to the extent that petitioner contends that there must be personal contact between the taxpayer and the examining agent in order that a "determination" of liability be made, we reject such reasoning. There was an extensive investigation of the Hillcrest program that eventually led to several convictions of some of the principals. Petitioners, further, agree that their return clearly reflected transactions with the Hillcrest organization. As we noted in Klein v. Commissioner, T.C. Memo. 1989-283, 57 T.C.M. 686, 687, 58 P-H Memo T.C. par. 89,283 at 1422:1990 Tax Ct. Memo LEXIS 690">*698 "This is not a situation where, as in Scar, respondent appeared in the wrong ball park. Rather, he was in the correct ball park, was at bat, and knew both the game and the ball park well." An appropriate order will be issued. Footnotes1. This case was assigned pursuant to the provisions of section 7456(d), Internal Revenue Code (redesignated as section 7443A by the Tax Reform Act of 1986, Pub. L. 99-514, section 1556, 100 Stat. 2755) and Rules 180 et seq., Tax Court Rules of Practice and Procedure.↩2. All statutory references are to the Internal Revenue Code of 1954, as amended, and as in effect for the year in issue.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621843/	BARBARA BROTMAN, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, RespondentBrotman v. CommissionerDocket No. 29294-91.United States Tax Court105 T.C. 141; 1995 U.S. Tax Ct. LEXIS 47; 105 T.C. No. 12; 19 Employee Benefits Cas. (BNA) 1850; August 24, 1995, Filed 1995 U.S. Tax Ct. LEXIS 47">47 Pursuant to a purported qualified domestic relations order (QDRO) entered in the Court of Common Pleas for Montgomery County, Pennsylvania, P received a cash payment from a profit-sharing plan, in which her ex-husband participated. P subsequently filed a complaint in the U.S. District Court for the Eastern District of Pennsylvania, against her ex-husband and the plan administrator, raising the issue of whether the purported QDRO met the statutory requirements of a QDRO under sec. 206(d)(3) of the Employee Retirement Income Security Act of 1974 (ERISA), Pub. L. 93-406, 88 Stat. 829, 29 U.S.C. sec. 1056(d)(3) (1988). The District Court granted summary judgment in favor of the defendants. R has moved for partial summary judgment based upon the decision of the U.S. District Court. Held, whether a domestic relations order is a QDRO as described in sec. 414(p), I.R.C., is a different question from the tax consequences attaching to a QDRO which depend upon whether the profit-sharing plan is a qualified plan. Held, further, P is collaterally estopped from denying that the order entered in the Court of Common Pleas meets the descriptive requirements1995 U.S. Tax Ct. LEXIS 47">48 of a QDRO in sec. 414(p), I.R.C., a parallel provision to sec. 206(d)(3) of ERISA. Held, further, P is not collaterally estopped from raising the issue as to the tax exempt status of the profit- sharing plan. Mervin M. Wilf, for petitioner. Keith L. Gorman and Kenneth J. Rubin, for respondent. TANNENWALD, Judge TANNENWALD105 T.C. 141">142 OPINION TANNENWALD, Judge: Respondent determined a deficiency in petitioner's 1988 Federal income tax of $ 11,752 and an addition to tax of $ 588 under section 6653(a)(1). 1 This case is before us on respondent's motion for partial summary judgment under Rule 121 that collateral estoppel precludes petitioner's claim that a domestic relations order entered January 7, 1988, by the Court of Common Pleas for Montgomery County, Pennsylvania, is not a "qualified domestic relations order" within the meaning of section 414(p). 1995 U.S. Tax Ct. LEXIS 47">49 The disposition of a motion for summary judgment under Rule 121(b) is controlled by the following principles: (a) The moving party must show the absence of dispute as to any material fact and that a decision may be rendered as a matter of law; (b) the factual materials and the inferences to be drawn from them must be viewed in the light most favorable to the party opposing the motion; (c) the party opposing the motion cannot rest upon mere allegations or denials, but must set forth specific facts showing there is a genuine issue for trial. O'Neal v. Commissioner, 102 T.C. 666">102 T.C. 666, 102 T.C. 666">674 (1994). Summary judgment is available to establish the collateral estoppel defense, as respondent seeks to do herein. Scooper Dooper, Inc. v. Kraftco Corp., 494 F.2d 840">494 F.2d 840, 494 F.2d 840">847 (3d Cir. 1974). The following facts are from the admissions of petitioner, the pleadings, and an affidavit produced by respondent with accompanying documents, none of which have been challenged by petitioner. Solely for the purposes of disposing of respondent's motion, we set forth a summary of the facts relevant to our discussion. Fed. R. Civ. P. 52(a); Sundstrand Corp. v. Commissioner, 98 T.C. 518">98 T.C. 518, 98 T.C. 518">520 (1992),1995 U.S. Tax Ct. LEXIS 47">50 affd. 17 F.3d 965">17 F.3d 965 (7th Cir. 1994). Petitioner resided in Narberth, Pennsylvania, at the time of the filing of the petition. 105 T.C. 141">143 From June 9, 1957, through February 16, 1978, petitioner was married to Matthew T. Molitch (Molitch or ex-husband). At all relevant times, Molitch was employed by Clark Transfer, Inc., and participated in the Clark Transfer Profit Sharing Plan (the plan). On February 16, 1978, the Superior Court of New Jersey entered a divorce decree, ending the marriage between petitioner and Molitch, along with a property settlement agreement. Among other provisions, the agreement provided that 516-2/3 shares of Clark Transfer, Inc., common stock, jointly owned by petitioner and her ex-husband, were to be split, with petitioner receiving 173-1/3 shares. Further, Molitch was obligated to purchase 7 shares from petitioner each year, commencing in 1984, at a purchase price of $ 1,500 per share, and had the option of purchasing up to an additional 7 shares per year on the same terms, until all of petitioner's stock was purchased. On March 20, 1987, petitioner filed a petition in the Court of Common Pleas for Montgomery County, Pennsylvania, registering1995 U.S. Tax Ct. LEXIS 47">51 the New Jersey divorce decree and property settlement, for the purpose of giving jurisdiction to the court to order additional payments of alimony from petitioner's ex-husband. On June 2, 1987, before Judge Horace Davenport, an agreement to amend the property settlement agreement between petitioner and Molitch was read into the record in that proceeding. Counsel for petitioner's ex- husband stated: If your Honor pleases, the parties have agreed that Mr. Molitch will, through a qualified Domestic Relations Order which shall be submitted to Your Honor at a later time for execution and signature and approval, withdraw or have withdrawn from an existing pension that he has with the Clark Group the sum of $ 350,000.00. The purpose of doing it under a qualified Domestic Relations Order, Your Honor, is to avoid any tax consequences to Mr. Molitch for removing any monies from his pension. This sum will be paid over to Mrs. Brotman when it is received.The agreement also provided that petitioner would transfer to Molitch all her then stock holdings in Clark Transfer, Inc., consisting of 140 shares. In response to a query of the court, petitioner's counsel stated: I merely add that1995 U.S. Tax Ct. LEXIS 47">52 this agreement will be reduced to writing and that the parties will acknowledge and sign the agreement when it is drafted.105 T.C. 141">144 Further, both petitioner and her ex-husband were sworn in by the court and asked to affirm their understanding and approval of the agreement as read into the record. Petitioner also answered in the affirmative when asked if she understood that she could not seek modification of certain waivers to amend or modify the agreement. Furthermore, petitioner testified that she was under the care of a treating psychiatrist, but that the psychiatrist did not indicate he doubted petitioner had the capacity to understand or accept the agreements. Petitioner also answered in the affirmative to a question of whether she felt she had that capacity. Following the proceedings, counsel for petitioner wrote a letter to Judge Davenport requesting that the court not enter any order, with respect to the proceedings, until counsel could file a petition challenging the entry of a qualified domestic relations order in the proceedings. In particular, that letter asserted that there were serious questions remaining as to the tax consequences to petitioner or Molitch which would result1995 U.S. Tax Ct. LEXIS 47">53 from the entry of a qualified domestic relations order. Finding no reason to delay the entry of the order, on January 7, 1988, the court entered a purported Qualified Domestic Relations Order (QDRO), which provided petitioner was to receive $ 350,000 out of Molitch's account in the plan. 2 The order stated, "It is intended that this Order shall qualify as a Qualified Domestic Relations Order under the Retirement Equity Act of 1984, P.L. 98.397." In 1988, petitioner received, and cashed, a check from the plan in the amount of $ 1995 U.S. Tax Ct. LEXIS 47">54 350,000. Of the total, petitioner placed $ 250,563 into an individual retirement account (IRA). Later in 1988, petitioner withdrew $ 30,000 from the IRA. On December 30, 1988, petitioner filed a complaint in the U.S. District Court for the Eastern District of Pennsylvania, naming Molitch and David Gillis, the plan administrator and trustee, as defendants. The issue raised by petitioner's complaint involved whether the purported QDRO issued by the Court of Common Pleas met the statutory requirements of a 105 T.C. 141">145 QDRO under section 206(d)(3) of the Employee Retirement Income Security Act of 1974 (ERISA), Pub. L. 93-406, 88 Stat. 829, 29 U.S.C. sec. 1056(d)(3) (1988). As relief, petitioner sought "to reverse the illegal payments so she will continue tax benefits to which she is entitled under a 1978 Property Settlement Agreement between plaintiff and her former husband, one of the defendants, but to which she might not be entitled unless such reversal is effected." In support of these requests, petitioner alleged as follows: 20. By having the payments described in paragraph 11 (for plaintiff's medical expenses) and in paragraph 15 (for the purchase price1995 U.S. Tax Ct. LEXIS 47">55 of Clark Common Stock owed to plaintiff) made from his account in the Clark Profit Sharing Plan, Molitch participated in a scheme which was designed to avoid personal income tax on the $ 350,000 paid out of his account in the Clark Profit Sharing Plan under the Purported QDRO. 21. The $ 350,000 paid out of the Clark Profit Sharing Plan would have been taxable to Molitch as ordinary income under § 402(a) of the Internal Revenue Code of 1986 (the "Code") when distributed to him under the provisions of § 401(a)(9) of the Code. If successful, the effect of the use of his account in the Clark Profit Sharing Trust to pay for his personal nondeductible obligations was the equivalent of Molitch's getting a deduction for such nondeductible payments of $ 350,000.To implement this objective, petitioner asked the District Court to determine, among other things: (a) That the purported QDRO does not qualify as a QDRO as defined in ERISA; and (b) that, because the purported QDRO does not qualify as a QDRO, it is null and void and unenforceable. Both defendants filed motions to dismiss, which the court treated as motions for summary judgment. In an opinion dated August 1, 1989, the District1995 U.S. Tax Ct. LEXIS 47">56 Court granted summary judgment in favor of the defendants. The court concluded that the order entered by Judge Davenport met ERISA's statutory definition of a QDRO. On November 21, 1991, the District Court entertained petitioner's motion for reconsideration. Such motion was denied in an order dated December 17, 1991. No appeal was taken. In her 1988 Federal income tax return, petitioner reported a capital gain from the transfer of her 140 shares of Clark Transfer, Inc., based upon her having received $ 210,000 or $ 1,500 per share. In the notice of deficiency, respondent determined that petitioner had failed to report as income the 105 T.C. 141">146 $ 30,000 withdrawal from the IRA, and another $ 644 of interest income. In an amendment to answer, respondent alleged that the amount which was not deposited into the IRA, $ 99,438, was taxable as ordinary income to petitioner, and that petitioner was estopped from denying that the amount received from the plan was received pursuant to a QDRO. Petitioner asserts that she is not collaterally estopped by the decision of the U.S. District Court from contending that the order of the Montgomery County Court of Common Pleas does not constitute a QDRO for Federal1995 U.S. Tax Ct. LEXIS 47">57 income tax purposes. Petitioner's position rests upon assertions relating to the technical requirements of a QDRO and the U.S. District Court's decision in respect thereto, and assertions that the U.S. District Court's decision did not extend to a determination of the QDRO status of such order for Federal income tax purposes and that the order should not be accorded such status because the plan was not entitled to exempt status. Respondent counters that, by virtue of the decision of the U.S. District Court, petitioner is collaterally estopped from contending that the order of the Montgomery County court was not a QDRO. Both petitioner and respondent appear to have posited their arguments on the assumption that, if such order was a QDRO, petitioner would be taxable on the excess of $ 350,000 distribution she received over the rollover into the IRA (respondent does not seek to tax the amount of the rollover 3 other than to the extent of the $ 30,000 withdrawn therefrom), but that, if such order were not a QDRO, petitioner's ex-husband and not petitioner would be taxable in respect of the distribution.4 As will subsequently become apparent, such all-or-nothing treatment will not necessarily1995 U.S. Tax Ct. LEXIS 47">58 flow from our decision herein. Indeed, the road to decision herein is a rocky one through a briarpatch of thorny questions. See Union Carbide Corp. v. Commissioner, 75 T.C. 220">75 T.C. 220, 75 T.C. 220">251 (1980), affd. per curiam 671 F.2d 67">671 F.2d 67 (2d Cir. 1982), in which we referred to "the world of light and shadows in which the doctrines of res judicata and collateral estoppel have long existed." In order to provide a map of the terrain 105 T.C. 141">147 through which this road can be delineated, we shall first set forth the governing statutory provisions.The injection of the provision of section 414(p), establishing the requirements of a QDRO, came as a result of problems created by the anti-alienation provisions embodied in the labor and tax provisions of ERISA. In1995 U.S. Tax Ct. LEXIS 47">59 1984, these provisions were modified to except from their operation "qualified domestic relations orders", the requirements of which were set forth in detail "For purposes of * * section 401(a)(13)". See sec. 414(p), infra note 8. The exception was accomplished by amending the anti-alienation requirement of a qualified plan and specifying that the anti-assignment rule would not apply to a provision in the plan permitting assignment by means of a QDRO. See sec. 401(a)(13). At the same time, section 402(a), entitled "Taxability of Beneficiary of Exempt Trust", was amended to provide: "For purposes of subsection (a)(1) and section 72", a spouse who was designated as an alternative payee under a QDRO, would be considered a "distributee" in determining the taxability of distributions from the tax-exempt plan under section 402(a)(1). See sec. 402(a)(9) (now embodied in sec. 402(e) setting forth "Other Rules Applicable to Exempt Trusts"). The provisions of section 402(b)(2), relating to the "Taxability of Beneficiaries of Nonexempt Trust" categorized as "distributees", was not changed. 5 Thus, a clear statutory distinction was created between a domestic relations order providing for1995 U.S. Tax Ct. LEXIS 47">60 an assignment of benefits under a qualified plan and an order providing for an assignment of benefits under a nonqualified plan. This distinction is accomplished not by establishing differences in the descriptive requirements and thus the existence of a qualified domestic relations order but by providing for special tax treatment of a QDRO only in respect of distributions from a qualified plan. Under the doctrine of collateral estoppel, "once an issue is actually and necessarily determined by a court of competent jurisdiction, that determination is conclusive in subsequent suits based on a different cause of action involving a party to the prior litigation." Montana v. United States, 440 U.S. 147">440 U.S. 147, 440 U.S. 147">153, 59 L. Ed. 2d 210">59 L. Ed. 2d 210, 99 S. Ct. 970">99 S. Ct. 970 (1979); Hawkins v. Commissioner, 102 T.C. 61">102 T.C. 61, 102 T.C. 61">68105 T.C. 141">148 (1994), on appeal (10th 1995 U.S. Tax Ct. LEXIS 47">61 Cir. 1994); see Restatement, Judgments 2d, sec. 27 (1982). Collateral estoppel has the "dual purpose of protecting litigants from the burden of relitigating an identical issue with the same party or his privy and of promoting judicial economy by preventing needless litigation." Parklane Hosiery Co. v. Shore, 439 U.S. 322">439 U.S. 322, 439 U.S. 322">326, 58 L. Ed. 2d 552">58 L. Ed. 2d 552, 99 S. Ct. 645">99 S. Ct. 645 (1979); Meier v. Commissioner, 91 T.C. 273">91 T.C. 273, 91 T.C. 273">282 (1988). Collateral estoppel may apply to matters of fact, matters of law, or to mixed matters of law and fact. 91 T.C. 273">Mieier v. Commisisoner, supra at 283. Respondent may assert collateral estoppel although not a party to the district court proceeding. 439 U.S. 322">Parklane Hosiery Co. v. Shore, supra.Respondent argues that collateral estoppel should apply because each of the conditions set forth in Peck v. Commissioner, 90 T.C. 162">90 T.C. 162, 90 T.C. 162">166-167 (1988), affd. 904 F.2d 525">904 F.2d 525 (9th Cir. 1990), is satisfied. Those conditions are: (1) The issue in the second suit must be identical in all respects with the one decided in the first suit. (2) There must be a final judgment rendered1995 U.S. Tax Ct. LEXIS 47">62 by a court of competent jurisdiction. (3) Collateral estoppel may be invoked against parties and their privies to the prior judgment. (4) The parties must actually have litigated the issues and the resolution of these issues must have been essential to the prior decision. (5) The controlling facts and applicable legal rules must remain unchanged from those in the prior litigation. [Peck v. Commissioner, 90 T.C. 162">90 T.C. 166-167, citations omitted.]Petitioner argues that the first and fifth conditions have not been met. Petitioner also contends she did not have a full and fair opportunity to litigate the QDRO issue, and that there are special circumstances that warrant an exception to the normal rules of preclusion. See 440 U.S. 147">Montana v. United Sttes, supra at 155. 61995 U.S. Tax Ct. LEXIS 47">63 1. Identity of IssuesIt is a well established rule that collateral estoppel focuses on the identity of issues, not the identity of legal proceedings. 105 T.C. 141">149 Bertoli v. Commissioner, 103 T.C. 501">103 T.C. 501, 103 T.C. 501">508 (1994); O'Leary v. Liberty Mut. Ins. Co., 923 F.2d 1062">923 F.2d 1062, 923 F.2d 1062">1069 (3d Cir. 1991) (applying the law of Pennsylvania that adopts the requirements of Restatement, Judgments 2d (1982)). The issue decided by the District Court was whether the order entered by the Court of Common Pleas for Montgomery County, Pennsylvania, was a valid QDRO under ERISA section 206(d)(3), 29 U.S.C. section 1056(d)(3) (1988). Respondent argues that because the definition of a QDRO in ERISA section 206(d)(3), 29 U.S.C. sec. 1056(d)(3) (1988), 7 is virtually identical to the definition under section 414(p), 8 there is an identity of issues. A review of the corresponding statutes bears out respondent's contention. 1995 U.S. Tax Ct. LEXIS 47">64 The similarity between section 414(p) and ERISA section 206(d)(3), 29 U.S.C. section 10561995 U.S. Tax Ct. LEXIS 47">65 (d)(3) (1988), is more than coincidental. The statutes were enacted simultaneously in the Retirement Equity Act of 1984, Pub. L. 98-397, 98 Stat. 1433- 1436, 1445-1449. 9 Also, Congress required that in promulgating regulations under these provisions, the Department of Labor should consult with the Department of Treasury, 105 T.C. 141">150 thus intending that the statutes be interpreted in a uniform manner. Sec. 414(p)(12); ERISA sec. 206(d)(3)(N), 29 U.S.C. sec. 1056(d)(3)(N) (1988); see H. Conf. Rept. 93-1280 (1974), 1974-3 C.B. 415, 517- 521; see also S. Rept. 98-575 (1984), 1984-2 C.B. 447, 458. Indeed, because of 1995 U.S. Tax Ct. LEXIS 47">66 the "mirror-like" nature of certain corresponding IRC and ERISA sections, the Court of Appeals for the Third Circuit, to which an appeal in this case will lie, has stated that, when interpreting a section of ERISA, it is appropriate to look for guidance to sources which have interpreted its "mirror-like counterpart" in the Internal Revenue Code. Gillis v. Hoechst Celanese Corp., 4 F.3d 1137">4 F.3d 1137, 4 F.3d 1137">1144 (3d Cir. 1993); cf. Commissioner v. Keystone Consolidated Industries, 508 U.S. 152">508 U.S. 152, 113 S. Ct. 2006">113 S. Ct. 2006, 113 S. Ct. 2006">2011, 124 L. Ed. 2d 71">124 L. Ed. 2d 71 (1993) ("It is a 'normal rule of statutory construction' * * * that 'identical words used in different parts of the same act are intended to have the same meaning.'"). In sum, for purposes of determining whether the District Court decided there was a QDRO, section 414(p) and ERISA section 206(d)(3), 29 U.S.C. section 1056(d)(3) (1988), are interchangeable, and it is immaterial which statute was actually cited by the District Court. Nor is there any doubt that petitioner had the opportunity to litigate and actually litigated the issue of whether there was a QDRO in the U.S. District Court. 1995 U.S. Tax Ct. LEXIS 47">67 See Parklane Hosiery Co. v. Shore, 439 U.S. 322">439 U.S. at 331 n.15. 2. Change in Controlling Facts or Legal Rulesa. FactsPetitioner's argument that there has been a change in controlling facts is supported only by her repeated assertion that the profit sharing plan was not a qualified plan at the time of the distribution. Even were this correct, it does not represent a change in controlling facts insofar as the descriptive requirements and consequently the existence of a QDRO are concerned. b. Legal RulesNor has there been a change in controlling law. Petitioner argues there has been a change in law due to a document published by the Department of Labor, wherein the agency requested information from the public to assist the agency in 105 T.C. 141">151 assessing the need for a regulation supplementing the statutory QDRO provisions of ERISA and the Internal Revenue Code. Petitioner argues that the Department of Labor, through the document, "has stated unambiguously that a requirement of law is that a plan 'must establish, and a plan administrator must observe,' written procedures relating to QDRO's." Petitioner's reliance is misplaced. The agency 1995 U.S. Tax Ct. LEXIS 47">68 was merely summarizing ERISA section 206(d) (3)(G) and (H) for the purpose of soliciting comments on a contemplated regulation. The agency was not attempting to change, or to even fill in, the statutory provisions. 3. Special CircumstancesThe remaining two arguments of petitioner are that she did not have a full and fair opportunity to litigate the QDRO issue, and that special circumstances warrant an exception to the normal rules of preclusion. Under the three-part test enumerated in Montana v. United States, 440 U.S. 147">440 U.S. at 155, 162-164, the former inquiry is part of the latter, broader inquiry. See Parklane Hosiery Co. v. Shore, 439 U.S. 322">439 U.S. at 331 n.15. Thus, we discuss them together. With respect to the contours of the special circumstances exception, the Supreme Court stated: "Redetermination of issues is warranted if there is reason to doubt the quality, extensiveness, or fairness of procedures followed in prior litigation." Montana v. United States, 440 U.S. 147">440 U.S. at 164 n.11. The Court of Appeals for the Third Circuit has remarked, "A party has been denied a full and fair opportunity to 1995 U.S. Tax Ct. LEXIS 47">69 litigate only when * * * [the first court's] procedures fall below the minimum requirements of due process as defined by federal law." Bradley v. Pittsburgh Bd. of Educ., 913 F.2d 1064">913 F.2d 1064, 913 F.2d 1064">1074 (3d Cir. 1990). In short, it is not enough for petitioner to express a "mere belief that * * * [the first decision] was wrongly decided to avoid the application of the collateral estoppel doctrine." Disabled American Veterans v. Commissioner, 942 F.2d 309">942 F.2d 309, 942 F.2d 309">316 (6th Cir. 1991), revg. on other grounds 94 T.C. 60">94 T.C. 60 (1990); Peck v. Commissioner, 904 F.2d 525">904 F.2d 525, 904 F.2d 525">530 (9th Cir. 1990), affg. 90 T.C. 162">90 T.C. 162 (1988). 10105 T.C. 141">152 Petitioner asserts "that the first court [the U.S. District Court] completely missed the point," citing University of Ill. Found. v. Blonder-Tongue Lab., Inc., 334 F. Supp. 47 (N.D. Ill. 1971),1995 U.S. Tax Ct. LEXIS 47">70 affd. 465 F.2d 380">465 F.2d 380 (7th Cir. 1972), and points to the alleged failure of Molitch to meet the "earliest retirement age" requirement, the absence of the consent of Molitch's then spouse to the distribution to petitioner and the lack of proper notice to, and opportunity for a hearing of, petitioner herein. These arguments were fully considered by the District Court, and the possibility that rejection of these arguments may have been wrong (which, in any event, we do not think is the case) is not sufficient to constitute a "special circumstance" justifying our reconsideration of the arguments. To correct alleged errors in the District Court's findings, petitioner should have appealed the decision of the District Court. In support of her argument that she did not have a full and fair opportunity to litigate, petitioner asserts that, due to the disposition of the District Court by way of summary judgment, she was not able to engage in discovery in the first proceeding, particularly with respect to whether the plan was a qualified plan under sections 401(a) and 501(a). In the context of resolving the issue of the existence of a QDRO, petitioner's argument is misplaced. 1995 U.S. Tax Ct. LEXIS 47">71 As we have already pointed out, the question whether a domestic relations order meets the descriptive requirements of a QDRO does not depend upon the qualification of the plan to which it relates. See 81 T.C. 1">supra p. 11. Nothing in the record before us suggests that there is any dispute as to the facts relating to the existence of a QDRO herein because the descriptive requirements of a qualified domestic relations order were satisfied, or that had discovery been made available to petitioner in the District Court proceeding, any dispute as to those facts would have been developed. In sum, we find no special circumstances warranting an exception to the normal rule of preclusion by way of collateral estoppel. We conclude that petitioner is collaterally estopped by the decision of the U.S. District Court from asserting herein that the order of the Montgomery County court is not a QDRO. Such conclusion does not, however, dispose of the question whether collateral estoppel precludes petitioner from litigating 105 T.C. 141">153 the issue of the tax exemption of the plan in this proceeding. Initially, we note that since that issue directly affects the adjudication of the deficiency asserted by respondent against1995 U.S. Tax Ct. LEXIS 47">72 petitioner, petitioner clearly has standing to raise the issue. Cf. Anthes v. Commissioner, 81 T.C. 1">81 T.C. 1 (1983), affd. without published opinion 740 F.2d 953">740 F.2d 953 (1st Cir. 1984). 11 Compare sec. 7476 dealing with who is entitled to seek a declaratory judgment in respect of the tax exemption of retirement plans. Unquestionably, the issue of the tax exempt status of the plan for Federal income tax purposes was not directly litigated in the District Court. Indeed, there is no indication in the record herein that the issue was even raised by petitioner in the proceeding before the District Court relating to the existence of a QDRO under ERISA, nor was it an essential ingredient of the District Court's decision. Compare O'Leary v. Liberty Mut. Ins. Co., 923 F.2d 1062">923 F.2d 1062 (3d Cir. 1991). Nor would there appear to have been any basis for the assertion of such1995 U.S. Tax Ct. LEXIS 47">73 a claim in a proceeding involving only the question of the existence of such a QDRO. Moreover, at no time during such proceeding had respondent determined any deficiency against petitioner. Thus, disposition of the issue by the District Court (even if it had been raised by petitioner) would, in effect, have been a declaratory judgment as to petitioner's and/or Molitch's tax liability in a situation which is not encompassed by section 7476 (which confers jurisdiction to issue declaratory judgments in respect of retirement plans only on this Court) and is specifically excluded from the general declaratory judgment jurisdiction of the District Courts. See 28 U.S.C. sec. 2201 (1993), which, except under section 7428, prohibits the issuance of declaratory judgments by a District Court in respect of Federal taxes. Under these circumstances, the lack of jurisdiction of the District Court to resolve the tax exempt status issue in any event, would preclude the application of the doctrine of collateral estoppel. Restatement, Judgments 2d, sec. 28(3) (1982), and commented; see O'Leary v. Liberty Mut. Ins. Co., 923 F.2d 1062">923 F.2d at 1066 n.5.1995 U.S. Tax Ct. LEXIS 47">74 An analogous situation arose in Martin v. Garman Constr. Co., 945 F.2d 1000">945 F.2d 1000 (7th Cir. 1991). In that case, the National Labor Relations Board determined that a labor 105 T.C. 141">154 agreement was valid and enforceable but that a remedy for an unfair labor practice under the National Labor Relations Act was not available. Thereafter, a proceeding on the violation of ERISA was reinstated by the U.S. District Court. The Court of Appeals for the Seventh Circuit affirmed the use of collateral estoppel by the District Court as to the issue of the existence of a valid and enforceable agreement, but not as to the issue of the availability of a remedy under ERISA. The Court of Appeals rested its disposition on two grounds: (1) That the unfair labor practice remedy under the National Labor Relations Act and the remedy for a violation of ERISA involved two distinct remedies, and (2) the National Labor Relations Board did not have jurisdiction to resolve the dispute as to a violation of ERISA. Moreover, aside from the question of the District Court's jurisdiction, our analysis herein establishes that the issue of the existence of a QDRO for Federal income tax purposes, i.e., 1995 U.S. Tax Ct. LEXIS 47">75 a domestic relations order that meets the descriptive requirements of section 414(p), and the tax consequences flowing therefrom in relation to the tax exempt status of the plan to which the order relates, are separate issues. This being the case, a determination as to the first issue does not preclude the consideration of the second issue. The Court of Appeals for the Eighth Circuit faced a similar situation in Richardson v. Phillips Petroleum Co., 791 F.2d 641">791 F.2d 641 (8th Cir. 1986). In that case, a refusal by the Arkansas Oil and Gas Commission to grant injunctive relief on the basis of failure to prove increasing and irreparable damage to the appellant's oil well by the appellee did not operate by way of collateral estoppel to preclude an action for damages against the appellee on the ground that two distinct elements were involved, even though the foundation of each element was the same; i.e., improper recovery operations of appellee's oil wells. Cf. 945 F.2d 1000">Martin v. Garman Constr. Co., supra (unfair labor practice remedy under National Labor Relations Act and remedy for ERISA violation were two distinct remedies). The Court 1995 U.S. Tax Ct. LEXIS 47">76 of Appeals posited its position on the fact that different evidence was required in a suit for injunctive relief as contrasted with a suit for damages. It also noted that the Commission 105 T.C. 141">155 was without jurisdiction to award damages. See Richardson v. Phillips Petroleum Co., 791 F.2d 641">791 F.2d at 645. 12We find further support for our conclusion that there are separate issues herein so that collateral estoppel does not apply in our decision in Vallone v. Commissioner, 88 T.C. 794">88 T.C. 794, 88 T.C. 794">803-805 (1987), in which we held that a decision by a U.S. District Court denying enforcement of an audit summons because of improper action by respondent's agents did not preclude respondent from utilizing such evidence in the trial of the substantive tax issues. 13 See also Bradley v. Pittsburgh Bd. of Educ., 913 F.2d 1064">913 F.2d 1064, 913 F.2d 1064">1079 (3d Cir. 1990),1995 U.S. Tax Ct. LEXIS 47">77 wherein the Court of Appeals for the Fourth Circuit concluded that disposition of a claim based on dismissal from employment on the ground of racial discrimination under 42 U.S.C. sec. 2000e to 2000e-17 (1982) could not be a basis for invoking collateral estoppel in a suit based on the same claim under 42 U.S.C. sec. 1983 which was designed to provide a vehicle for vindicating civil rights secured by the U.S. Constitution, or Federal law. We hold that collateral estoppel does not operate to preclude petitioner from litigating the issue of the tax exempt status of the plan. In this connection, we note that although respondent, in her original memorandum in support of her motion, 1995 U.S. Tax Ct. LEXIS 47">78 urged collateral estoppel as to the tax exempt status of the plan in the context of whether the order of the Montgomery County Court was a QDRO, she states in her reply brief: Most importantly, respondent does not contend that petitioner is precluded by collateral estoppel from arguing the Plan was not qualified. Respondent contends estoppel applies to preclude petitioner from denying the DRO was a QDRO. The qualification of the Plan is not an issue presently before the Court. [Footnote omitted.]Finally, we turn to the question of whether the qualification of the plan is at issue before us. The issue was not adverted to in the petition that was filed on November 12, 1992, nor in the reply to respondent's amendment to answer filed on May 12, 1994. The first indication that such issue 105 T.C. 141">156 was involved appears to have been given by petitioner at a hearing before the Court on October 24, 1994. Further indications of some of the elements involved in the issues were set forth in petitioner's memorandum in response to respondent's memorandum in support of her motion for partial summary judgment. Respondent urges that, since this case has been pending since 1991, petitioner should not1995 U.S. Tax Ct. LEXIS 47">79 be permitted now to raise the issue in light of the absence of sufficient details of the facts upon which petitioner relies. In this connection, we note that several continuances herein were consented to by respondent based in part upon the ground that respondent needed more time to decide whether to assert a deficiency against Molitch. We further note that, in July 1994, respondent consented to the taking of the deposition of the administrator of the plan in which the operation of the plan and its impact on the plan's tax exempt status apparently were explored. Petitioner asserts in her memorandum that such deposition has revealed loan activities and payments of legal fees that could affect the plan's exempt status. Under these circumstances, and given the fact that the case will have to be calendared for trial on other unresolved issues, we are not disposed, at this time, to deny petitioner the right to pursue the issue of the qualification of the plan. However, we think petitioner should, if she so desires, file an appropriate notice to amend her petition to raise the plan qualification issue setting forth sufficient facts to indicate that petitioner's position has merit and1995 U.S. Tax Ct. LEXIS 47">80 keeping in mind that the time frame for qualification is a narrow one, namely at or about the time of the distribution to petitioner. Respondent will be given an opportunity to respond, after which the Court will decide whether petitioner should be permitted to pursue the issue. The Court also wishes the parties to understand that the consequences of the disposition of the qualification issue may involve the extent to which the doctrine of assignment of income comes into play, the proper treatment for tax purposes of the value of the stock transferred to Molitch by petitioner and any other consideration which should be treated as having been furnished by her, and the impact, if any, of section 1041. See Balding v. Commissioner, 98 T.C. 368">98 T.C. 368 (1992). 105 T.C. 141">*157 In order to implement the views expressed herein, An appropriate order will be issued. Footnotes1. Unless otherwise indicated, all section references are to the Internal Revenue Code in effect for the year in issue, and all Rule references are to the Tax Court Rules of Practice and Procedure.↩2. Petitioner admits to the above sentence, with the qualification that at the time she suffered from a psychological disorder known as dissociation. Because of the disorder, petitioner avers she was incapable of placing the property settlement on the record, or agreeing to entry of the qualified domestic relations order. Petitioner, however, was represented by counsel, who was cognizant of petitioner's problem and who questioned petitioner in open court about it, as did Molitch's counsel.↩3. See Rodoni v. Commissioner, 105 T.C. 29">105 T.C. 29↩ (July 24, 1995).4. As far as the record herein discloses, respondent has not sought to protect her position as a potential stakeholder by determining a deficiency against Molitch.↩5. For a detailed description of the evolution of the QDRO provisions, including the legislative history, see Darby v. Commissioner, 97 T.C. 51">97 T.C. 51↩ (1991).6. In Montana v. United States, 440 U.S. 147">440 U.S. 147, 59 L. Ed. 2d 210">59 L. Ed. 2d 210, 99 S. Ct. 970">99 S. Ct. 970 (1979), the Supreme Court set forth three requirements for the application of collateral estoppel. This Court further refined the necessary conditions in a factual context in Peck v. Commissioner, 90 T.C. 162">90 T.C. 162 (1988), affd. 904 F.2d 525">904 F.2d 525 (9th Cir. 1990). The first two Montana conditions are duplicated in Peck. See Smith v. Commissioner, T.C. Memo. 1991-419. The special circumstances exception is the third requirement set forth in Montana↩.7. ERISA sec. 206(d)(3)(B), 29 U.S.C. sec. 1056(d)(3)(B) (1988), provides: (B) For purposes of this paragraph-- (i) the term "qualified domestic relations order" means a domestic relations order-- (I) which creates or recognizes the existence of an alternate payee's right to, or assigns to an alternative payee the right to, receive all or a portion of the benefits payable with respect to a participant under a plan, and (II) with respect to which the requirements of subparagraphs (C) and (D) are met, and(ii) the term "domestic relations order" means any judgment, decree, or order (including approval of a property settlement agreement) which-- (I) relates to the provision of child support, alimony payments, or marital property rights to a spouse, former spouse, child, or other dependent of a participant, and (II) is made pursuant to a State domestic relations law (including a community property law).↩8. Sec. 414(p)(1) provides: (1) In general.-- (A) Qualified domestic relations order.--The term "qualified domestic relations order" means a domestic relations order-- (i) which creates or recognizes the existence of an alternate payee's right to, or assigns to an alternate payee the right to, receive all or a portion of the benefits payable with respect to a participant under a plan, and (ii) with respect to which the requirements of paragraphs (2) and (3) are met.(B) Domestic relations order.--The term "domestic relations order" means any judgment, decree, or order (including approval of a property settlement agreement) which-- (i) relates to the provision of child support, alimony payments, or marital property rights to a spouse, former spouse, child, or other dependent of a participant, and (ii) is made pursuant to a State domestic relations law (including a community property law).↩.9. "The reason that many ERISA sections have such counterparts in the IRC is that, to encourage employers to establish pension plans, Congress provides favorable tax treatment for plans which comply with ERISA's requirements." Gillis v. Hoechst Celanese Corp., 4 F.3d 1137">4 F.3d 1137, 4 F.3d 1137">1144↩ n.6 (3d Cir. 1993).10. See Disabled American Veterans v. Commissioner, T.C. Memo. 1994- 505↩.11. Cf. also Day v. Commissioner, T.C. Memo. 1985- 251↩.12. Cf. Hawkins v. Commissioner, 102 T.C. 61">102 T.C. 61, 102 T.C. 61">65↩ (1994), where the earlier court rested its action in part on lack of jurisdiction.13. See also Barnette v. Commissioner, T.C. Memo. 1990-535↩, where we allowed petitioner to advance a constitutional argument against the imposition of the additional tax for civil fraud even though he had been criminally convicted for fraud.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621844/	DAVID A. SAMONDS, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, RespondentSamonds v. CommissionerDocket No. 3954-91United States Tax CourtT.C. Memo 1993-329; 1993 Tax Ct. Memo LEXIS 331; 66 T.C.M. 235; 17 Employee Benefits Cas. (BNA) 1131; July 26, 1993, Filed 1993 Tax Ct. Memo LEXIS 331">331 Decision will be entered under Rule 155. For petitioner: Charles L. Steel, IV. For respondent: Edwina L. Charlemagne. JACOBSJACOBSMEMORANDUM OPINION JACOBS, Judge: Respondent determined a deficiency in petitioner's 1987 Federal income tax in the amount of $ 46,206. The deficiency is attributable to respondent's determination that distributions made to petitioner from his former employer's profit sharing plan did not constitute a lump-sum distribution within the purview of section 1124 of the Tax Reform Act of 1986 (TRA), Pub. L. 99-514, 100 Stat. 2085, 2475-2476, and hence did not qualify for 10-year forward averaging treatment (as claimed by petitioner). The sole issue for decision is the correctness of that determination. This case was submitted fully stipulated under Rule 122. 1 We incorporate by reference the stipulation of facts and attached exhibits. Petitioner resided in Kure Beach, North Carolina, at the time his petition was filed. 1993 Tax Ct. Memo LEXIS 331">332 Petitioner was an employee and stockholder of U-Drive It, Inc. (the corporation). His employment was terminated on December 10, 1985, and on the same day he sold his stock to an unrelated third party. Petitioner had been a participant in the corporation's profit sharing plan since 1970. The profit sharing plan was one which qualified under section 401(a) and was tax exempt under section 501(a). Petitioner was required by the profit sharing plan and the Internal Revenue Code to incur a break-in-service year prior to withdrawing the balance to the credit of his account. The profit sharing plan defined a "break-in service year" as "any Trust Year during which an Employee is employed by the Employer for 500 Hours of Service or less". On January 13, 1987, petitioner received a distribution from the profit sharing plan in the amount of $ 87,335.27, representing the balance of his account as of December 31, 1985. On July 16, 1987, he received an additional distribution from the profit sharing plan in the amount of $ 15,027.26, representing the earnings on his December 31, 1985, account balance from January 1, 1986, through December 31, 1986, and reallocated forfeitures. Petitioner1993 Tax Ct. Memo LEXIS 331">333 was 41 at the time of the January 13, 1987, distribution, and 42 at the time of the July 16, 1987 distribution. On an amended return for 1986, petitioner made an election allowed by TRA section 1124 and reported as ordinary income the amounts he received in 1987 as distributions from the profit sharing plan. He reported the $ 102,363 ($ 87,335.27 + $ 15,027.26, rounded) as a lump-sum distribution and claimed that such distribution qualified for 10-year forward averaging treatment. The plan trustee provided petitioner with a Form 1099R for 1987 showing distribution payments in the aggregate amount of $ 102,362.53, taxable $ 25,590.63 as a capital gain and $ 76,771.90 as ordinary income. Respondent determined that the distributions from the profit sharing plan did not qualify for 10-year forward averaging treatment and, in the notice of deficiency, increased petitioner's capital gain income for 1987 by $ 25,591 and petitioner's ordinary income for 1987 by $ 76,772. As a result, respondent determined that petitioner is liable for a deficiency in income tax for 1987, including the additional tax on early distributions under section 72(t). The Tax Reform Act of 1986 eliminated 10-year1993 Tax Ct. Memo LEXIS 331">334 forward averaging treatment previously available for lump-sum distributions received under certain circumstances from retirement plans qualified under section 401. However, TRA section 1124 provided a transition rule which extended the availability of 10-year forward averaging treatment with respect to a lump-sum distribution or distributions received after December 31, 1986 and before March 16, 1987. 2 Initially, TRA section 1124 only applied in the case of employees whose separation from service occurred during 1986. (In the case of such an employee, if the employee received a lump-sum distribution before March 16, 1987, on account of the separation from service, then the employee could treat the lump-sum distribution as received in 1986.) However, the Technical and Miscellaneous Revenue Act of 1988 (TAMRA), Pub. L. 100-647, section 1011A(d), 102 Stat. 3342, 3476, made the aforesaid transition rule applicable in the case of an employee whose separation from service occurred at any time before 1987. 3 Thus, as a result of TRA section 1124(a) and TAMRA section 1011A(d), a taxpayer may use 10-year averaging for a lump-sum distribution made in 1987 if the following four requirements1993 Tax Ct. Memo LEXIS 331">335 are satisfied: (1) The taxpayer separated from service at any time before 1987; (2) the taxpayer received a lump-sum distribution under section 402(e)(4)(A); (3) such lump-sum distribution was received after December 31, 1986, and before March 16, 1987; and (4) the taxpayer elected to treat the distribution as if received when he separated from service. 1993 Tax Ct. Memo LEXIS 331">336 Here, there is no dispute that petitioner separated from service before 1987 and that he elected to treat the distribution received as if it were received when he separated from service. Accordingly, the focus of our inquiry is whether the distribution received by petitioner was a lump-sum distribution under section 402(e)(4)(A), and if so whether all or a portion thereof was received by him after December 31, 1986 and before March 16, 1987. To qualify as a lump-sum distribution, the distribution, whether paid in a single sum or in installments, must be completed within 1 taxable year of the recipient. Sec. 402(e)(4)(A). Here, petitioner's separation from service (i.e., his termination of employment with the corporation) occurred on December 10, 1985. He received the first of two distributions from a qualified retirement plan with respect to his separation from service on January 13, 1987, and both distributions were completed within 1 calendar year. Respondent admits on brief that ordinarily the two distributions received by petitioner would qualify as a lump-sum distribution. However, respondent contends that for purposes of the TRA section 1124 transition rule, the 2-1/2-month1993 Tax Ct. Memo LEXIS 331">337 period between December 31, 1986, and March 16, 1987, is to be treated as 1 taxable year. Hence, respondent argues: "the distributions received by petitioner do not qualify as a lump-sum distribution since one of the distributions was made on July 16, 1987, after the window provided by the statute had closed". We do not find respondent's argument persuasive. Respondent's position is not supported by any of the commentary accompanying the Tax Reform Act of 1986 or the Technical and Miscellaneous Revenue Act of 1988. Rather, the genesis of respondent's position is from Notice 87-13, Q&A-24, 1987-1 C.B. 432, 443. As relevant to this case, the notice provides: This notice provides guidance, in the form of questions and answers, with respect to certain provisions of the Tax Reform Act of 1986 (TRA '86) * * Until further guidance is published, the guidance provided by these questions and answers may be relied on by taxpayers to design and administer plans and to determine the tax treatment of plan contributions and distributions. The Service will apply the questions and answers in issuing determination letters, opinion letters, and other rulings and1993 Tax Ct. Memo LEXIS 331">338 in auditing returns with respect to taxpayers and plans. If future guidance is more restrictive than this notice, such guidance will be applied without retroactive effect. No inference should be drawn, however, regarding issues not addressed in this notice which may be suggested by a particular question and answer or as to why certain questions, and not others, are included. Retroactive protection will not necessarily be afforded with respect to any such inferred guidance. * * * * * Q-24: To what extent may employees treat certain lump sum distributions received in 1987 as though they had been received in 1986? A-24: Section 1124 of TRA '86 provides a special rule under which certain lump sum distributions received after December 31, 1986 and before March 16, 1987 may be treated as having been received during 1986 for certain purposes. The special rule provides that if an employee separates from service for [sic] an employer during calendar year 1986 and receives a lump sum distribution (as defined in section 402(e)(4) of the Code) after December 31, 1986 and before March 16, 1987 pursuant to a plan maintained by such employer on account of such separation from service, 1993 Tax Ct. Memo LEXIS 331">339 the employee may elect to treat the lump sum distribution as if it were received on the date that the employee separated from service. Such a 1987 lump sum distribution that an employee elects to treat as received on the date of the employee's 1986 separation from service is a "section 1124 lump sum distribution." For purposes of determining whether the distribution or distributions received by the employee constitute a lump sum distribution that satisfies the rules of section 402(e)(4) after December 31, 1986 and before March 16, 1987, such 2-1/2 month period is to be treated as one taxable year of the employee. Aside from this modification, the general rules applicable for determining whether a distribution is a lump sum distribution under section 402(e)(4) continue to apply. This means, for example, that the employee must receive the balance to the credit of the employee (calculated with application of section 402(e)(4)(C)) within this 2-1/2 month period, and no amount distributed during this 2-1/2 month period which is not an annuity contract may be treated as a lump sum distribution unless the taxpayer elects to have all such amounts received during such 2-1/2 month period1993 Tax Ct. Memo LEXIS 331">340 treated as a lump sum distribution. In addition, an election of lump sum treatment for distributions received in the 2-1/2 month period counts as an election made under section 402(e)(4)(B) after December 31, 1986. If a distribution or distributions received during the 2-1/2 month period qualify as a lump sum distribution under section 402(e)(4) as though such period is a full taxable year of the employee, for the employee's 1986 and 1987 taxable years, the employee may elect to treat such lump sum distribution as though it were received on the date the employee separated from service in 1986. Such an election must be made on a return (or amended return) filed by the employee for the employee's 1986 taxable year by the due date (with extensions) for the return for the 1987 tax year, by attaching a statement that such lump sum distribution is to be treated as a section 1124 lump sum distribution. If an employee elects to treat a lump sum distribution that is eligible for section 1124 treatment as a section 1124 lump sum distribution, for purposes of determining the tax treatment of such distribution, the distribution is to be treated as though it was the only distribution received1993 Tax Ct. Memo LEXIS 331">341 by the employee during 1986 from the plan (or plans) making the section 1124 lump sum distribution. Thus, for example, if the employee had actually received a distribution in 1986 and rolled over all or part of such distribution to an IRA, such distribution and rollover may be disregarded in determining the tax treatment of the section 1124 lump sum distribution. In addition, other amounts received in 1986 from the plan (or plans) making the section 1124 lump sum distribution may not be treated as part of the section 1124 lump sum distribution for purposes of determining the tax treatment of such distribution. However, if the employee actually received a separate lump sum distribution in the 1986 taxable year from a different plan (or plans), this separate lump sum distribution and the second 1124 lump sum distribution must be combined and treated as a single lump sum distribution received in 1986. A section 1124 lump sum distribution is to be treated as received in 1986 for purposes of the applicable income tax provisions (including, for example, the capital gains and averaging rules of section 402) and for purposes of the section 72(t) additional tax on early distributions and1993 Tax Ct. Memo LEXIS 331">342 the tax under section 4981 (as added by section 1134 of TRA '86) on excess annual distributions. In addition, a section 1124 lump sum distribution is to be treated as received in 1986 for purposes of determining the tax treatment of other distributions received in 1987. Nevertheless, for reporting and withholding purposes, a section 1124 lump sum distribution is to be treated as paid and received when it is actually paid and received in 1987. Thus, the distribution is to be reported on the Form 1099R for the 1987 tax year. In addition, if the employee does not elect out of withholding with respect to a section 1124 lump sum distribution, the amount to be withheld under section 3405 is to be calculated by reference to the tables applicable for 1987, and any amounts withheld from such lump sum distribution will be credited to the employee's 1987 taxable year, rather than the employee's 1986 taxable year. * * Notice 87-13, supra, is an administrative pronouncement which like a revenue ruling or revenue procedure does not constitute authority for deciding a case in this Court. Cf. Follender v. Commissioner, 89 T.C. 943">89 T.C. 943, 89 T.C. 943">958 (1987); Stark v. Commissioner, 86 T.C. 243">86 T.C. 243, 86 T.C. 243">250-251 (1986);1993 Tax Ct. Memo LEXIS 331">343 Virginia Education Fund v. Commissioner, 85 T.C. 743">85 T.C. 743, 85 T.C. 743">751 (1985), affd. 799 F.2d 903">799 F.2d 903 (4th Cir. 1986). Notice 87-13, supra, has been disregarded on other grounds by this Court and by the Fifth Circuit Court of Appeals in an unpublished opinion. Grumbles v. Commissioner, F.2d (5th Cir., June 30, 1993), revg. T.C. Memo. 1992-489; Merritt v. Commissioner, T.C. Memo. 1992-443; Younger v. Commissioner, T.C. Memo. 1992-387. Classifying, as respondent insists, the 2-1/2-month period from December 31, 1986, to March 16, 1987, as "one taxable year" is, in our opinion, improper. For purposes of TRA section 1124, the term "lump-sum distribution" has the same meaning as found in section 402(e)(4)(A). And, for purposes of section 402(e)(4)(A), all distributions completed within 1 taxable year of the recipient (which in this case would be calendar year 1987) qualify as a lump-sum distribution. Thus, we reject respondent's claim that to qualify for 10-year forward averaging treatment, all distributions had to be received by1993 Tax Ct. Memo LEXIS 331">344 petitioner within the December 31, 1986, to March 16, 1987, time-frame. Respondent also argues that petitioner did not receive the entire balance of his account within 1 taxable year. Respondent posits that the $ 87,335.27 payment received on January 13, 1987, did not represent the entire balance due petitioner because his account had been credited in 1986 with the amount of $ 15,027.26, representing the earnings on his account from January 1, 1986, to December 31, 1986. Again, we find respondent's argument unpersuasive. The plan trustee had not yet computed nor credited the 1986 earnings or any reallocated forfeitures to petitioner as of January 13, 1987. The amount received by petitioner on January 13, 1987, represented the amount computed as of that date; the amount paid petitioner on July 16, 1987, represented a subsequently computed and credited amount. To summarize, to the extent Notice 87-13, 1987-1 C.B. 432, requires that the 2-1/2-month period from December 31, 1986, to March 16, 1987, is to be treated as 1 taxable year of the employee, it is inconsistent with section 402(e)(4)(A), and hence we reject it. We hold that the $ 87,335.271993 Tax Ct. Memo LEXIS 331">345 paid to petitioner on January 13, 1987, qualifies for 10-year forward averaging treatment. We further hold that the July 16, 1987 payment was received beyond the March 16, 1987, "window" provided for by the transition rule, and hence it does not qualify for 10-year forward averaging treatment. In so holding, we recognize that we are dealing with a transitional provision of limited applicability and with a relief provision which should be liberally construed. Cf. Estate of Morris v. Commissioner, 55 T.C. 636">55 T.C. 636, 55 T.C. 636">642 (1971), affd. per curiam 454 F.2d 208">454 F.2d 208 (4th Cir. 1972). As a final matter we examine whether petitioner is liable for the additional tax on early distributions under section 72(t). 4Section 72(t) became effective for taxable years beginning after 1986. TRA sec. 1123(e)(1), 100 Stat. 2475. Since under TRA section 1124(a) and TAMRA section 1011A(d) petitioner properly elected to treat the $ 87,335.27 received on January 13, 1987, as if it were received when he separated from service in 1985, section 72(t) does not apply to such distribution. See Grumbles v. Commissioner, supra. However, such is not the1993 Tax Ct. Memo LEXIS 331">346 case with respect to the $ 15,027.26 distribution received on July 16, 1987, at which time section 72(t) was effective. Petitioner failed to establish that such distribution falls within any of the statutory exemptions found in section 72(t)(2); accordingly, section 72(t) applies to the $ 15,027.26 distribution. To reflect the foregoing holdings, Decision will be entered under Rule 155. Footnotes1. All Rule references are to the Tax Court Rules of Practice and Procedure, and unless otherwise indicated, all section references are to the Internal Revenue Code for the tax year at issue.↩2. The Tax Reform Act of 1986, Pub. L. 99-514, sec. 1124, 100 Stat. 2085, 2475, provides: (a) In General. If an employee separates from service during 1986 and receives a lump sum distribution (within the meaning of Section 402(e)(4)(A)↩ of such Code) after December 31, 1986, and before March 16, 1987, on account of said separation from service, then, for purposes of the Internal Revenue Code of 1986, such employee may elect to treat such lump sum distribution as if it were received when such employee separated from service.3. The Technical and Miscellaneous Revenue Act of 1988, Pub. L. 100-647, sec. 1011A(d), 102 Stat. 3342, 3776, provides: (a) In General. -- If an employee dies, separates from service, or becomes disabled before 1987 and an individual, trust, or estate receives a lump sum distribution with respect to such employee after December 31, 1986, and before March 16, 1987, on account of such death, separation from service or disability, then, for purposes of the Internal Revenue Code of 1986, such individual, estate, or trust may treat such distribution as if it were received in 1986.↩4. Sec. 72(t) provides as follows: SEC. 72(t) 10-Percent Additional Tax On Early Distributions From Qualified Retirement Plans -- (1) Imposition Of Additional Tax. -- If any taxpayer receives any amount from a qualified retirement plan * * the taxpayer's tax under this chapter for the taxable year in which such amount is received shall be increased by an amount equal to 10 percent of the portion of such amount which is includable in gross income.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621846/	Katherine Adams v. Commissioner. Edward H. Adams v. Commissioner.Adams v. CommissionerDocket Nos. 12805 and 12806.United States Tax Court1949 Tax Ct. Memo LEXIS 189; 8 T.C.M. 483; T.C.M. (RIA) 49116; May 12, 19491949 Tax Ct. Memo LEXIS 189">189 Partnership. - Family partnership consisting of husband and wife and their adult daughter recognized for tax purposes. Eli Freed, Esq., 1069 Mills Bldg., San Francisco, Calif., for the petitioners. W. J. McFarland, Esq., for the respondent. TYSON Memorandum Findings of Fact and Opinion TYSON, Judge: These consolidated proceedings involve deficiencies in income and victory tax for the calendar year 1943 determined by respondent against Katherine Adams and Edward H. Adams in the amounts of $1,127.98 and $41,237.40, respectively. The year 1942 is also involved in each proceeding because of the forgiveness feature of section 6 of the Current Tax Payment Act of 1943. The issues involved are whether respondent erred (1) in denying recognition for Federal tax purposes of the validity of a partnership among1949 Tax Ct. Memo LEXIS 189">190 Edward H. Adams, his wife Katherine, and their daughter Dorothy, doing business as Adams Brothers, and thereby taxing to Edward H. Adams the entire 1942 and 1943 net income of the business, except for a portion thereof allocated by respondent as the wife's community share, and (2), in the alternative, in the method used for allocating the income of Adams Brothers as between the community investment and Edward's separate investment in the business and, further, in undervaluing Dorothy's services to the business. Findings of Fact The petitioners are husband and wife and are residents of Oakland, California. For each of the years in controversy there was filed with the collector of internal revenue for the first district of California a separate income tax return made by each petitioner and their daughter Dorothy Jean Celli, respectively, and also a partnership return made under the name of Adams Brothers reporting its income as distributable one-third to each of those three-persons as equal partners. At all times material here and since prior to their marriage in 1915, Edward and Katherine Adams have been continuously domiciled in and residents of California, a community property1949 Tax Ct. Memo LEXIS 189">191 state. Prior to her marriage Katherine was employed as a bookkeeper, which employment she continued for about a year thereafter, and at the time of her marriage she possessed savings of at least $500. Katherine was a graduate of high school and Heald's Business College. At the time of Edward's marriage he and his brother, George, as partners operating under the firm name of Adams Brothers, were engaged in the business of producing, bottling, and distributing soft drink beverages and distributing bottled mineral water in Oakland, California, and at that time the net worth of their business amounted to approximately $3,000. The business of Edward and George Adams had been handed down to them by their father in 1912, at which time it consisted only of the distribution of bottled mineral water by making sales from a wagon. By 1915 the business of Adams Brothers had been expanded to also include the bottling and distribution of soft drinks, including Napa Soda. About a year after her marriage Katherine went to work in the office of Adams Brothers helping with the books and doing general office work, and at about the same time she furnished $500 of her own funds towards the purchase of1949 Tax Ct. Memo LEXIS 189">192 a truck needed in the business. Such amount has never been repaid her. In 1916, under an oral agreement with a representative of a St. Louis, Missouri, concern, and without cost, Edward and George Adams obtained the right to produce, bottle, and distribute in the Oakland area a soft drink beverage named "Howdy," and subsequently under a similar arrangement with the same concern they obtained the right to produce, bottle, and distribute a soft drink named "7-Up." Through the years Adams Brothers' business of producing, bottling, and distributing soft drink beverages gradually grew in size. On July 29, 1927 the net worth of Edward H. and Katherine Adams was about $9,000. In 1929, out of an inheritance from her mother received in that year, Katherine furnished $2,300 which was very much needed in the business of Adams Brothers at the time, and that sum has never been repaid her. In 1932, Katherine borrowed from her aunt the sum of $1,500, which was used for payments on trucks and equipment used for payments on trucks and equipment used in the business of Adams Brothers, and such sum was repaid out of Adams Brothers subsequent earnings. In 1932, Katherine ceased her regular work in the1949 Tax Ct. Memo LEXIS 189">193 office of Adams Brothers, which had been continuous since 1916, and thereafter devoted her time primarily to the duties of a housewife. Immediately after the repeal of prohibition in the 1930's Edward and George Adams, under an oral agreement with the Acme Brewing Co. of San Francisco, and without cost to them, obtained a sole distributorship for Acme beer in the territory embracing Oakland and parts of Alameda and Contra Costa Counties, California. Under that arrangement and from that time up to and including the taxable years, Adams Brothers purchased and paid for Acme beer which was delivered to its place of business in Oakland and resold by it to its customers at a price fixed by Acme. During that same period Adams Brothers continued producing, bottling, and distributing "7-Up" in the Oakland area. In 1937 Edward purchased George's one-half interest in the partnership business of Adams Brothers for $15,000, which sum was borrowed from Acme Brewing Co. by Edward and his wife Katherine jointly signing a note in that amount, which was subsequently repaid out of the earnings of Adams Brothers. Ever since their marriage in 1915 Edward and Katherine have had an understanding that1949 Tax Ct. Memo LEXIS 189">194 they jointly owned all property acquired by them after marriage and they maintained a joint bank account. By 1942 Adams Brothers owned eight trucks used in the distribution of Acme beer; seven trucks used in the distribution of "7-Up"; and bottling machinery, including a washer, filler, and carbonater, and all other equipment necessary for producing soda water beverages. In addition to truck drivers it employed three men in the bottling plant and a foreman to oversee the beer operations by checking on beer deliveries from the brewery, checking up on orders from customers, and checking truck drivers in and out. It also had the services of five beer salesmen furnished by Acme Brewing Co., which paid their salaries, and their work was to drum up trade. Edward generally managed the entire business but was on the outside most of the time building up trade, servicing old accounts, getting new accounts, and making collections. Dorothy had full responsibility of running the office affairs of the business. The petitioners' only child, Dorothy Jean Adams, was born in 1918. When she entered public high school, they directed her education along the line of a commercial course with the definite1949 Tax Ct. Memo LEXIS 189">195 idea that she would become active in the business of Adams Brothers. Upon Dorothy's graduation from high school in June 1937, petitioners sent her to Merritt Business School where, in June 1938, she completed a more advanced commercial course, including bookkeeping, machine calculation, typing, etc. Starting in February 1938 Dorothy attended school in the mornings and spent the afternoons in the office of Adams Brothers doing routine office work, typing letters and route sheets, answering telephones, taking orders, and generally familiarizing herself with the manner in which the business was operated, and for such services she did not receive any compensation. In August 1938 Dorothy became a full-time paid employee of Adams Brothers in the capacity of bookkeeper, and with her parents' consent immediately installed an accounting machine for billing customers to eliminate the old longhand method, but she made no change in the established system of accounting then in use. Soon thereafter Dorothy took over complete charge of running the office, which theretofore had been done by a male employee, and up to and including the taxable years her services consisted of full responsibility for1949 Tax Ct. Memo LEXIS 189">196 the office affairs; keeping all accounts and records; looking after complaints; checking on deliveries; ordering beer, 7-Up extract, supplies, etc.; paying bills by check without limitation as to amount, many of such bills exceeding the amount of $20,000; paying employees' wages; receiving payments from customers; checking credit ratings and extending credit to new customers; deciding on the hiring and firing of her office assistant; and when petitioners were away on vacation trips during June, July, and part of August of each year she took entire charge of the business. Dorothy worked from 8 a.m. until as late as 8 p.m., and after November 1942 when the foreman went into the Army she assisted Edward Adams in handling the foreman's duties. In 1942 Dorothy married and became Dorothy Jean Celli, but continued her full duties with Adams Brothers and lived with petitioners because her husband was in the armed service. During the years material here and from August 1938 on Adams Brothers maintained a commercial bank account on which both of the petitioners and Dorothy had equal authority to draw checks and each of them exercised that authority, but Dorothy drew and signed most of the1949 Tax Ct. Memo LEXIS 189">197 checks. From 1938 to 1942 Adams Brothers employed the services of one accountant to audit and close the books and prepare tax returns and in 1942 upon Dorothy's recommendation a different accountant was employed for that purpose. On March 25, 1941, Edward H. Adams, his wife Katherine, and their daughter Dorothy executed a written "Copartnership Agreement," drafted by their attorney, whereby those three parties agreed to become equal copartners in the business of selling, both retail and wholesale, beer, wine, malt, and soft drink beverages, under the firm name of Adams Brothers located at 541 East 12th Street, Oakland, California, commencing on April 1, 1941, and continuing until terminated by mutual consent or otherwise. The agreement also provided that the copartners should share equally in the profits and losses and should discharge equally among them all rents and other expenses required for the support and management of the business. The agreement further provided, inter alia, that Edward H. Adams assigned and transferred to such copartnership, as part of its capital, all of his right, title, and interest in and to all the assets of the similar business theretofore conducted1949 Tax Ct. Memo LEXIS 189">198 by him under the same name; that the agreement should be binding upon the parties, their heirs, and assigns; and that the agreement might be amended or altered by written agreement of all parties. Prior to the execution of the copartnership agreement on March 25, 1941, the terms and purposes thereof were discussed, understood, and agreed to by each of the petitioners and Dorothy who was then of age. Petitioners wanted Dorothy to become part owner of and later to carry on the business, and it was understood that she would continue to render services in helping to run the business. Also, petitioners wanted Dorothy to own separate property prior to her marriage. As between petitioners it had been their understanding that all property interests acquired subsequent to their marriage were owned jointly, half and half, as community property and that their community interest in the business theretofore conducted by Edward under the name of Adams Brothers was being transferred to the partnership. Shortly after the copartnership agreement of March 25, 1941 was executed, a notification of such partnership was mailed to all companies and persons with whom Adams Brothers transacted business; 1949 Tax Ct. Memo LEXIS 189">199 to the State Department of Employment of California; the Social Security Board; and to the Treasury Department of the United States. Insurance theretofore carried in the business was changed to the name of the partnership. On and after April 1, 1941, there was no further withholding from Dorothy on account of Federal old age pensions or California unemployment insurance. The California State Board of Equalization issued to "EDWARD H., KATHERINE & DOROTHY J. ADAMS DBA ADAMS BROTHERS, 541 E. 12TH ST., OAKLAND" a "Sellers Permit" dated April 1, 1941, a "Beer and Wine Wholesaler's License" dated April 10, 1941, and a "Retail Package Off-Sale Beer and Wine License." In April 1941 the collector of internal revenue for the first district of California issued to "ADAMS E H-DOROTHY JEAN-KATHERINE ADAMS BROS 541 - E 12TH ST OAKLAND CALIF" two Federal special tax stamps, one for retail and the other wholesale dealer in fermented malt liquor other than distilled spirits. On August 1, 1941, pursuant to application dated April 7, 1941, the Treasury Department of the United States under the Federal Alcohol Administration Act issued a Wholesaler's Basic Permit No. 14-P-159 to "E. H. Adams, Dorothy1949 Tax Ct. Memo LEXIS 189">200 Jean And Katherine Adams, dba ADAMS BROTHERS, 541 East 12th Street, Oakland, California" to engage in the business of purchasing malt beverages for resale at wholesale. After April 1, 1941, and during the years material here, Dorothy continued to perform the office duties theretofore performed by her, but with the added responsibility of being in full charge of the office in the view that she was a partner in Adams Brothers instead of being merely an employee. Further, Dorothy signed the firm name over her own signature to all the numerous reports and returns required to be made by the partnership to various state and federal agencies, which reports and returns had been theretofore signed by Edward H. Adams as owner of the business. On or as of April 1, 1941, Dorothy as bookkeeper set up on Adams Brothers' books a withdrawal account in the name of each of the three partners, and as shown by the firm's books the petitioners and Dorothy, respectively, made the withdrawals in the following amounts during the years indicated: YearEdward H.KatherineDorothy1941$ 35,343.41$ 1,315.25$ 950.00194275,643.6013,724.7212,938.891943123,113.02109,555.07108,973.09194423,502.4821,531.0224,508.24194539,436.9739,600.0039,580.00194627,255.8128,464.1928,590.891949 Tax Ct. Memo LEXIS 189">201 No separate capital accounts for each of the three partners, under the copartnership agreement of March 25, 1941, were set up on the books of Adams Brothers as of April 1, 1941, but, instead, a single capital account was maintained and disclosed the following amounts on the dates indicated: DateAmountApril. 1, 1941$ 77,564.41Dec. 31, 1941132,796.69Dec. 31, 1942166,563.22Dec. 31, 194371,155.70 As of December 31, 1943, and carried forward to January 1, 1944, the capital account was changed to "Investment Account" which disclosed the following amounts for each of the three partners on the dates indicated: Dec. 31, 1943(Jan. 1, 1944)Dec. 31, 1944Dec. 31, 1945Edward H. Adams$26,484.74$45,369.50$66,818.56Katherine Adams26,484.7447,340.9666,655.53Dorothy Jean Celli18,186.2236,965.2266,675.53The petitioners exercised no control over Dorothy's withdrawals and she maintained a separate savings account in her own name. On May 3, 1943, the petitioners and Dorothy, respectively, as the partners in Adams Brothers executed a written contract of sale of the partnership's 7-Up beverage business, including1949 Tax Ct. Memo LEXIS 189">202 its bottling and distribution rights, good will, machinery, equipment, trucks, etc., for $125,000. Prior to consummating that sale the petitioners and Dorothy discussed the matter and at first Katherine would not consent to it, but eventually agreed because that department of the partnership business was causing some grief in regard to needed replacements of machinery and trucks. In connection with the sale of the 7-Up bottling business a journal entry was made in the books of Adams Brothers, debiting the withdrawal account of each petitioner and Dorothy with $41,666.67, respectively, and crediting $105,237 to capital gains and losses and $19,763 to miscellaneous sales. On September 15, 1943, and due to the fact that the Bureau of Internal Revenue had questioned the validity of the copartnership agreement dated March 25, 1941, the petitioners and Dorothy executed a written "Supplemental Partnership Agreement" for the purpose of reaffirming their existing copartnership and with more particularity setting forth their mutual intention, under the March 25, 1941 agreement, to become equal partners with each entitled to one-third of all the distributable net income of Adams Brothers and, 1949 Tax Ct. Memo LEXIS 189">203 further, setting forth in writing, inter alia, the prior mutual understanding of petitioners that the capital contribution to the partnership at its inception on April 1, 1941, consisted of each petitioner's one-half share of community property vested equally in both parties and, also, the mutual understanding of all three parties that Dorothy was thooughly familiar with the affairs of the business and would continue to render services and thus show a proprietary interest in the business. Opinion For the years involved respondent determined that the partnership among Edward H. Adams, his wife Katherine, and their daughter Dorothy was not recognizable for Federal income tax purposes and further determined, inter alia, that the entire net income of Adams Brothers was taxable to Edward, except as to a portion thereof computed by respondent as representing Katherine's community share based on the community investment in the business. Respondent's argument in support of his determination is that Katherine made no capital contribution and at no time rendered any vital services to the business; that Dorothy at no time rendered any vital services to the business, but performed only routine1949 Tax Ct. Memo LEXIS 189">204 work; and that after the effective date of the agreement of March 25, 1941, Edward continued to conduct the business of Adams Brothers in the same manner as he had theretofore done. The principal issue herein, namely, the existence of a valid family partnership recognizable for tax purposes, is one of fact, for as said by the Supreme Court in : "* * * A partnership is generally said to be created when persons join together their money, goods, labor, or skill for the purpose of carrying on a trade, profession, or business and when there is community of interest in the profits and losses. When the existence of an alleged partnership arrangement is challenged by outsiders, the question arises whether the partners really and truly intended to join together for the purpose of carrying on business and sharing in the profits or losses or both. And their intention in this respect is a question of fact, to be determined from testimony disclosed by their 'agreement, considered as a whole, and by their conduct in execution of its provisions.' ; Cox v. Hickman, 8 H.L. Cas. 268.1949 Tax Ct. Memo LEXIS 189">205 We see no reason why this general rule should not apply in tax cases where the Government challenges the existence of a partnership for tax purposes. * " With regard to the daughter Dorothy, who was of age and had completed a business training course and also had gained substantial practical experience in the business operated under the name of Adams Brothers, the facts herein are clear that she had capable business abilities; that, under the copartnership agreement of March 25, 1941, it was the intention of all the parties thereto that she would join with petitioners her labor and skill for the purpose of carrying on the business with a community of interest in the profits and losses thereof; and, further, that prior to, during, and subsequent to the years in question she did render very substantial and vital services to the business in the capacity of having full charge of the office affairs and in performing all the numerous services mentioned in our findings. It is our opinion that, for tax purposes, Dorothy was a recognizable partner with a one-third interest in the business of Adams Brothers, and we so hold. Cf. . With regard1949 Tax Ct. Memo LEXIS 189">206 to Katherine's being a recognizable partner in Adams Brothers, we have here the familiar case of a family enterprise of small beginnings being built up through the years into a prosperous business. In 1915 when Katherine married Edward, the latter in partnership with his brother George operated a small bottling and distributing business having a net worth of only $3,000. Over the period of years from 1916 to 1932 Katherine's services in the office and her financial aid at various times assisted the brothers in building up their business. In 1937 Katherine and her husband Edward pointly borrowed $15,000 which was paid to George Adams for the purchase of his one-half interest in the business of Adams Brothers, and in doing so Katherine and Edward were equally using their joint credit and risking their joint property interests with the intention and mutual understanding that they were jointly acquiring George's one-half interest in the business; and that interest so purchased became the community property of Edward and Katherine. The $15,000 loan was repaid out of subsequent earnings of the business which was managed and controlled by Edward from 1937 until April 1, 1941. When the partnership1949 Tax Ct. Memo LEXIS 189">207 agreement of March 25, 1941 was entered into, and without regard to any moneys furnished by her individually to Adams Brothers in 1932 and prior thereto, Katherine had a "present, existing and equal" interest in all of the community property acquired by her husband and herself after July 29, 1927 (see section 161a, Civil Code of California) and her interest in such property was a "present vested interest." ; ; and , aff'd. ; which embraced a substantial portion of the then greatly increased value of the business of Adams Brothers in excess of its value on July 29, 1927, at which time Edward's half interest in the business could not have exceeded $9,000 because that was the amount of the total net worth of both Katherine and Edward on that date. The facts herein are clear that under the copartnership agreement of March 25, 1941 it was the intention of all the parties thereto that Katherine was contributing her vested property interests in joining with Edward and Dorothy in an enterprise for the purpose of carrying1949 Tax Ct. Memo LEXIS 189">208 on business with an equal community of interest in all three of them in the profits and losses thereof. It is our opinion that, for tax purposes, Katherine was a recognizable partner with a one-third interest in the business of Adams Brothers, and we so hold. Cf. , and (Feb. 16, 1949). We hold that Edward and Katherine Adams and Dorothy Jean Celli were equal partners in the business of Adams Brothers during 1942 and 1943 and, further, that respondent erred in taxing to petitioner Edward H. Adams the entire 1942 and 1943 net income of that business, except for a portion thereof allocated by respondent as the wife's community share. This conclusion obviates the necessity of expressing any opinion on the alternative assignment of error. Decision in each proceeding will be entered under Rule 50.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621847/	Beacon Auto Radiator Repair Co., Inc., Petitioner v. Commissioner of Internal Revenue, RespondentBeacon Auto Radiator Repair Co. v. CommissionerDocket No. 5156-67United States Tax Court52 T.C. 155; 1969 U.S. Tax Ct. LEXIS 142; April 28, 1969, Filed 1969 U.S. Tax Ct. LEXIS 142">142 Decision will be entered for the respondent. B corporation, engaged in both the manufacture and repair of automobile radiators, transferred its repair business to B', a corporation under common control having a similar name. Both businesses were thereafter operated in the same manner as they previously had been conducted, in the same building and under the same management; there was no serious attempt to impress customers with the separate corporate identities. Held, B' has not shown by a "clear preponderance of the evidence" that the securing of an additional surtax exemption was not "a major purpose" of the transfer. Sec. 1551, I.R.C. 1954. John R. Berman, for the petitioner.Rufus E. Stetson, Jr., for the respondent. Raum, Judge. RAUM52 T.C. 155">156 The Commissioner determined the following deficiencies in petitioner's income tax:TYE June 30 --Amount1960$ 3,593.7219611,377.5619624,098.4319633,356.7919644,161.7719651,886.30The parties have made certain concessions relating to these deficiencies. The sole issue remaining for adjudication is whether petitioner has established by "the clear preponderance of the evidence that the securing of" an additional surtax exemption "was not a major purpose1969 U.S. Tax Ct. LEXIS 142">144 of" the transfer of property to it at its formation within section 1551(a), I.R.C. 1954.FINDINGS OF FACTPetitioner, a Massachusetts corporation, filed income tax returns for the years in question with the district director of internal revenue in Boston, Mass. Throughout its corporate life it has conducted its business in Boston, Mass.Beacon Auto Radiator Co., Inc. (sometimes hereinafter referred to as Beacon, and not to be confused with petitioner, Beacon Auto Radiator Repair Co., Inc.), was incorporated as a Massachusetts corporation in 1927. For a number of years Beacon's principal business has been the manufacture and sale of automobile radiators, and more particularly of radiator "cores," the principal component of automobile radiators. Among its customers were a number of new-car dealers, service stations, garages, and repair shops, some of which performed repairs on radiators. Beacon was also engaged (prior to June 30, 1959) in the repair of radiators, which often required the installation of new cores, and it was thus to a certain extent in competition with some of its foregoing customers. Its repair work was a distinctly secondary aspect of its total business. It 1969 U.S. Tax Ct. LEXIS 142">145 conducted its business, both manufacturing and repair, in a building which it owned at 110 Brookline Avenue, Boston, consisting of a single story and basement.Beacon's founder was Morris Sepinuck, who died in 1952. Since at least 1958 Beacon's 840 shares of outstanding stock have been owned by the following stockholders:George and Eva Sorkin279 shares.Nathan and Rose Sepinuck279 shares.Samuel Sepinuck279 shares.Tessie Sepinuck3 shares.Tessie Sepinuck is the widow of Morris Sepinuck; Eva Sorkin, Nathan Sepinuck, and Samuel Sepinuck are their children. Since at least 1950, 52 T.C. 155">157 George Sorkin (Sorkin) has been Beacon's president, and Samuel Sepinuck its treasurer.Petitioner was incorporated on June 30, 1959, under the laws of Massachusetts to take over the radiator repair work previously carried on by Beacon. Sorkin had considered setting up petitioner for about a year prior to that date. Its stockholders and the number of shares owned by them since its incorporation are as follows:Eva Sorkin100 shares.Nathan Sepinuck100 shares.Samuel Sepinuck100 shares.Petitioner's principal officers since its incorporation have been the same as those1969 U.S. Tax Ct. LEXIS 142">146 of Beacon, namely, Sorkin its president and Samuel Sepinuck its treasurer.Petitioner's repair business has been conducted at the same location and in substantially the same manner in which it had previously been carried on by Beacon. The manufacturing operations performed by Beacon were on the ground floor of the building at 110 Brookline Avenue, and the repair work was done by petitioner in the basement. The same office manager and most of the same office personnel served both corporations. One billing clerk is paid by petitioner, but all other office personnel are paid by Beacon; no part of the salaries thus paid by Beacon is charged to petitioner. Rent is paid by petitioner pursuant to an oral arrangement. Apart from the maintenance of a second set of books, separate payrolls for employees, separate profit-sharing plans, and the recording of certain intercorporate items, there was no substantial difference in the conduct of the business after the creation of petitioner. Petitioner purchased all of the radiator cores used in its repair business from Beacon. Since June 30, 1959, with possible very minor exceptions, Beacon has not engaged in any radiator repair work.In view1969 U.S. Tax Ct. LEXIS 142">147 of the goodwill associated with the Beacon name, petitioner's name was selected in such manner as to closely resemble that of Beacon. While some customers were told that the repair work was being performed by a newly organized corporation, others were not so informed apart from the fact that the invoices after June 30, 1959, revealed a slight change in name. There was no sign on the outside of the building at 110 Brookline Avenue indicating that a separate corporation was carrying on the repair work. A neon sign on the building simply reads "Beacon Auto Radiator Company." Petitioner does not have a telephone number that is different from that of Beacon's, and when the switchboard operator answers the telephone she simply says "Beacon."52 T.C. 155">158 Prior to the formation of petitioner, Beacon had difficulty soliciting warranty repair work on radiators from General Motors dealers because General Motors required such work to be performed by holders of Harrison radiator franchises and Beacon had no Harrison franchise. Harrison radiators were manufactured by or pursuant to arrangements authorized or approved by General Motors. Petitioner has never had a Harrison franchise.At some time1969 U.S. Tax Ct. LEXIS 142">148 prior to June 30, 1959, Beacon entered into a franchise agreement with John E. Mitchell Co. (hereinafter sometimes referred to as Mitchell) of Dallas, Tex., to sell and service Mark IV auto air conditioners. In the fall of 1959 the franchise agreement was terminated by Mitchell because of its feeling that, as a manufacturer of automobile radiators, Beacon was not a proper concern to sell and service air conditioners. Several weeks after the cancellation, upon the representation that petitioner would not engage in any other manufacturing activities, a Mitchell franchise was awarded to petitioner.Sorkin consulted neither his accountant nor his lawyer prior to arranging for petitioner's incorporation.Gross sales by Beacon and petitioner for the years indicated were as follows:BeaconYearRepairsAir conditionersSales, cores1957$ 167,424.95$ 819,710.621958154,167.90840,723.03195986,130.72$ 3,570.701,072,290.1119601.351,073,645.7019611,008,812.021962965,716.411963826,050.241964861,629.001965754,740.671966861,199.5819671,013,718.70BeaconSales,YearcompleteOtherTotalradiators1957$ 36,779.80$ 1,023,915.37195827,788.311,022,679.24195934,331.651,196,323.18196033,325.551,106,972.60196132,688.551,041,500.57196223,859.67989,576.081963132,956.89959,007.131964147,115.1714,949.171,023,693.341965170,587.7615,692.06941,020.491966211,199.8418,280.771,090,680.191967150,850.6738,383.041,202,952.411969 U.S. Tax Ct. LEXIS 142">149 PetitionerYear ending June 30 --RepairsAirOtherTotalconditioners1960$ 155,141.15$ 6,733.00$ 8,618.26$ 170,492.411961178,931.478,414.507,132.13194,478.101962182,147.8315,681.2114,499.28212,328.321963160,829.186,397.5118,692.74185,919.431964199,822.9422,499.6225,217.86247,540.421965180,051.5623,171.4717,940.70221,163.7352 T.C. 155">159 The taxable income reported on the returns of Beacon and petitioner for the years indicated including those at issue was as follows:BeaconPetitioner 11955$ 50,213.72195632,493.41195738,573.47195834,036.14195949,291.70196052,678.81$ 15,313.10196159,896.947,717.37196256,348.2617,704.24196343,879.9515,242.30196447,831.3416,559.66196532,581.059,009.28Petitioner has not shown that the securing of a surtax exemption was not a major purpose in the transfer to it of the repair business from Beacon.In each of the taxable years here involved, petitioner in computing its tax liability1969 U.S. Tax Ct. LEXIS 142">150 availed itself of the $ 25,000 surtax exemption provided by section 11. In his notice of deficiency, the Commissioner determined that petitioner was not entitled to the surtax exemption in any of those years.OPINIONAlthough the Commissioner originally relied upon both sections 269 and 1551 of the 1954 Code to deny petitioner the surtax exemption for the years involved, he has limited his position on brief to section 1551 which is set forth in full in the margin below. 152 T.C. 155">160 That section, in substance, provides, in the case of a transfer of property by one corporation to another corporation (created to receive the property or formerly inactive) under common control (as defined), that the surtax exemption may be disallowed unless the transferee establishes by a clear preponderance of the evidence that the securing of the exemption was not a major purpose of the transfer. There is no dispute between the parties in this case that there was a transfer of property to petitioner, or that petitioner was created for the purpose of acquiring such property, or that there was the requisite common control of both corporations, all in accordance with the provisions of section 1551. 1969 U.S. Tax Ct. LEXIS 142">151 The sole matter in controversy is whether "a major purpose" of the transfer was to secure the surtax exemption.1969 U.S. Tax Ct. LEXIS 142">152 It is clear that the prohibited purpose need not be the sole or principal purpose; it is sufficient merely that it be a major one. Thus a showing of a major business purpose does not necessarily preclude a finding that a major purpose was to secure the exemption. Using language that is plain beyond any reasonable ambiguity Congress has not only placed upon the taxpayer the heavy negative burden of proving that the securing of the exemption was not "a" major purpose, but has also required it to carry that burden by "the clear preponderance of the evidence." Cf. Hiawatha Home Builders, Inc., 36 T.C. 491">36 T.C. 491, 36 T.C. 491">498-499; Cronstroms Manufacturing, Inc., 36 T.C. 500">36 T.C. 500, 36 T.C. 500">506; Truck Terminals, Inc., 33 T.C. 876">33 T.C. 876, 33 T.C. 876">884, affirmed on other issues 314 F.2d 449 (C.A. 9).In this case no evidence at all was presented as to whether the objective of securing a surtax exemption was a factor, major or otherwise, in the transfer from Beacon to petitioner. While it is true that Sorkin testified that he had consulted neither Beacon's lawyer nor its accountant prior to the decision to form petitioner, 1969 U.S. Tax Ct. LEXIS 142">153 there was no evidence whatever as to the role the securing of the exemption may or may not have played in the decision. Petitioner's failure to present evidence in this regard must be taken to weigh against it. See Coastal Oil Storage Co., 25 T.C. 1304">25 T.C. 1304, 25 T.C. 1304">1311, affirmed on this issue 242 F.2d 396 (C.A. 52 T.C. 155">161 4); Central Valley Management Corp. v. United States, 165 F. Supp. 243">165 F. Supp. 243, 165 F. Supp. 243">245 (N.D. Cal.). To be sure, it has been held in some instances that the taxpayer may carry its burden of proof under section 1551 if it can show that there were such purposes for making the transfer that it would have been made regardless of whether an additional surtax exemption could have been secured. Bush Hog Manufacturing Co., 42 T.C. 713">42 T.C. 713, 42 T.C. 713">728; Cronstroms Manufacturing, Inc., 36 T.C. 500">36 T.C. 506; Hiawatha Home Builders, Inc., 36 T.C. 491">36 T.C. 499. In the present case, however, the alleged business purposes advanced to support the creation of petitioner appear to us to be pitifully weak. We do not believe on the evidence 1969 U.S. Tax Ct. LEXIS 142">154 before us that any such purposes in fact were the true motives for transferring the radiator repair business to petitioner, and certainly no such motives were established by any "clear preponderance of the evidence." We conclude that we are unable to find that the securing of an exemption was not a major purpose. In arriving at this conclusion, we are mindful that the expectations involved in the transfer need not be fulfilled, but need only to have been held in good faith. Sno-Frost, Inc., 31 T.C. 1058">31 T.C. 1058, 31 T.C. 1058">1063.Petitioner argues that there were several business purposes for its formation, which negative the existence of a major purpose to obtain the exemption. We cannot find on this record that any one of such purposes in fact existed or, if they existed, that they were the real reasons for the transfer of Beacon's repair work to petitioner.(a) The principal purpose relied upon by petitioner revolves around the argument that since Beacon was engaged in the manufacture, sale, and repair of radiators, and since some of its customers for new radiators also did repair work on radiators, those customers regarded Beacon as being in competition with them, 1969 U.S. Tax Ct. LEXIS 142">155 with the result that Beacon's sales to them might be adversely affected. Thus, the argument continues, by divorcing the repair work from the manufacturing and selling operations, the source of possible conflict would be eliminated, Beacon would not lose customers by reason of such conflict, and customers previously lost might be regained after they learned that Beacon no longer was engaged in repair work and that such work was being performed by a separate corporation. We think that his argument is spurious and that no such purpose played any part in the organization of petitioner.It wholly escapes us why a customer would feel any less concerned about the repair work merely because it was being carried on by a different corporation. The hard fact of competition remained, and it was competition at the same location, carried on in the same manner as before under substantially the same name, and under the guidance and ownership of the same persons. We reject as unbelievable the testimony to the extent that it suggests that this factor played any part in 52 T.C. 155">162 the transfer of the repair business to petitioner. The facts here are sharply different from those in other cases in1969 U.S. Tax Ct. LEXIS 142">156 which taxpayers were held to have sustained their burden under section 1551 by showing inter alia a valid business purpose to separate from the corporation a business through which it competed with the customers of another of its business enterprises. Cf. New England Foundry Corp., 44 T.C. 150">44 T.C. 150; Hiawatha Home Builders, Inc., 36 T.C. 491">36 T.C. 491. Unlike these cases, no real attempt was made in the present case to impress upon customers that Beacon and petitioner were wholly separate entities. Their corporate names were very similar; they operated from the same building, which bore no sign that two separate corporations were located therein; they shared the same telephone number. Petitioner's president testified that the names were kept similar in order that petitioner might capitalize on Beacon's goodwill, a purpose seemingly antithetical to the purpose of separating the manufacturing from the repair business in the minds of the customers of the manufacturing business who did not wish to compete with the repair business. The testimony of a customer that was offered by petitioner in support of its position was not convincing. 1969 U.S. Tax Ct. LEXIS 142">157 (b) A somewhat related business purpose advanced by petitioner concerns the difficulties that Beacon was experiencing in obtaining warranty work on General Motors automobiles since Beacon did not have a Harrison radiator dealership or franchise. However, it was not made clear to us that there was any reasonable expectation that a Harrison franchise would be obtained by transferring the repair work to another corporation; none was in fact obtained by petitioner; nor indeed was there any evidence that petitioner even attempted to obtain a Harrison franchise. We cannot find on this record that the problems experienced by Beacon in respect of its lack of a Harrison franchise as it affected repairs on General Motors automobiles were responsible in any material way for the decision to transfer its repair work to petitioner.(c) Another alleged purpose relates to an air-conditioner franchise which Beacon held from the John E. Mitchell Co. Under that franchise Beacon sold and installed automobile air conditioners manufactured by the Mitchell Co. The argument made by petitioner is that Beacon was deprived of that franchise because Mitchell was concerned that Beacon, a manufacturer, might1969 U.S. Tax Ct. LEXIS 142">158 undertake to fabricate air conditioners in competition with Mitchell, and that a major purpose in creating petitioner was to regain the franchise. The short answer to this point is that, as the evidence unfolded, it became clear that the Mitchell franchise was taken away from Beacon several months after the creation of petitioner, and that accordingly, this consideration could not have been a factor in the incorporation of petitioner. 52 T.C. 155">163 The testimony of petitioner's president that the air-conditioner franchise played a part in the decision to form petitioner was unconvincing, and there was no evidence that Beacon was informed prior to petitioner's formation that it might lose the franchise. Similarly, for these reasons, we cannot accord any weight to petitioner's claim that Beacon was concerned about insulating the manufacturing business from possible liability arising from the installation of air conditioners. Moreover, there was no convincing evidence that Beacon was in fact concerned about any such possible liability. The entire argument relating to air conditioners is a spurious one.Petitioner has failed to convince us of any permissible nontax purpose under 1969 U.S. Tax Ct. LEXIS 142">*159 section 1551 that impelled its formation and the concomitant transfer of property by Beacon. Petitioner has failed to show that the securing of a surtax exemption was not a major purpose by showing other purposes that would have prompted the transfer regardless of that tax benefit. While we do not find affirmatively that securing the exemption was a major purpose, we cannot find that it was not, and we certainly cannot find that petitioner has established that it was not by "the clear preponderance of the evidence" as required by section 1551.Decision will be entered for the respondent. Footnotes1. Petitioner's taxable year ended on June 30. Thus the figure given for each year represents a taxable year ending on June 30 of that year.↩1. SEC. 1551. DISALLOWANCE OF SURTAX EXEMPTION AND ACCUMULATED EARNINGS CREDIT.(a) In General. -- If -- (1) any corporation transfers, on or after January 1, 1951, and on or before June 12, 1963, all or part of its property (other than money) to a transferee corporation,(2) any corporation transfers, directly or indirectly, after June 12, 1963, all or part of its property (other than money) to a transferee corporation, or(3) five or fewer individuals who are in control of a corporation transfer, directly or indirectly, after June 12, 1963, property (other than money) to a transferee corporation,and the transferee corporation was created for the purpose of acquiring such property or was not actively engaged in business at the time of such acquisition, and if after such transfer the transferor or transferors are in control of such transferee corporation during any part of the taxable year of such transferee corporation, then for such taxable year of such transferee corporation the Secretary or his delegate may (except as may be otherwise determined under subsection (d)) disallow the surtax exemption (as defined in section 11(d)), or the $ 100,000 accumulated earnings credit provided in paragraph (2) or (3) of section 535(c), unless such transferee corporation shall establish by the clear proponderance of the evidence that the securing of such exemption or credit was not a major purpose of such transfer.(b) Control. -- For purposes of subsection (a), the term "control" means -- (1) With respect to a transferee corporation described in subsection (a) (1) or (2), the ownership by the transferor corporation, its shareholders, or both, of stock possessing at least 80 percent of the total combined voting power of all classes of stock entitled to vote or at least 80 percent of the total value of shares of all classes of the stock; or(2) With respect to each corporation described in subsection (a)(3), the ownership by the five or fewer individuals described in such subsection of stock possessing -- (A) at least 80 percent of the total combined voting power of all classes of stock entitled to vote or at least 80 percent of the total value of shares of all classes of the stock of each corporation, and(B) more than 50 percent of the total combined voting power of all classes of stock entitled to vote or more than 50 percent of the total value of shares of all classes of stock of each corporation, taking into account the stock ownership of each such individual only to the extent such stock ownership is identical with respect to each such corporation.For purposes of this subsection, section 1563(e) shall apply in determining the ownership of stock.(c) Authority of the Secretary Under This Section. -- The provisions of section 269(b), and the authority of the Secretary under such section, shall, to the extent not inconsistent with the provisions of this section, be applicable to this section.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621848/	WILLIAM T. HUNTER, JR. and CHRISTINE F. HUNTER, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, Respondent; EDWARD M. WARONKER and BERYL G. WARONKER, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, RespondentHunter v. CommissionerDocket Nos. 8590-79, 8786-79.United States Tax CourtT.C. Memo 1982-126; 1982 Tax Ct. Memo LEXIS 618; 43 T.C.M. 764; T.C.M. (RIA) 82126; March 16, 1982. M.J. Mintz,Michael C. Durney,George T. Boggs,Peter H. Jost and Mary V. Harcar, for the petitioners. Steedly Young, for the respondent. SCOTT MEMORANDUM FINDINGS OF FACT AND OPINION SCOTT, Judge: Respondent determined deficiencies in the income tax of William T. Hunter, Jr., and Christine F. Hunter for the calendar years 1973, 1974, 1975, and 1976 in the amounts of $ 16,305, $ 18,438, $ 5,912, and $ 7,023, respectively, and a deficiency in the income tax of Edward M. Waronker and Beryl G. Waronker for the calendar year 1975 in the amount of $ 3,197.78. The issues for decision are (1) whether the transaction between each of petitioners Edward M. Waronker and William T. Hunter and Southern Star Land and Cattle Co., Inc.1982 Tax Ct. Memo LEXIS 618">621 , was in substance a sale of 5 cows by the corporation to Mr. Waronker and a sale of 10 cows by the corporation to Mr. Hunter; (2) whether a nonrecourse note given by each Mr. Waronker and Mr. Hunter to Southern Star Land and Cattle Co., Inc., was a valid indebtedness; (3) whether the activity of each Mr. Waronker and Mr. Hunter with respect to the cattle which were the subject of their transactions with Southern Star Land and Cattle Co., Inc., was engaged in for profit; (4) whether Mr. Hunter's deductions in 1976 are limited by section 465 and, if so, to what extent; and (5) whether the minimum tax provided for in section 56 1 is an excise tax, payments of which will entitle Mr. Hunter to a deduction under sections 162 or 212. FINDINGS OF FACT Some of the facts have been stipulated and are found accordingly. William T. Hunter, Jr., and Christine F. Hunter, husband and wife, who resided in Talbot County, Maryland, at the time of the filing of their petition in this case, filed joint Federal income tax returns for the1982 Tax Ct. Memo LEXIS 618">622 calendar years 1973, 1974, 1975, and 1976 with the Internal Revenue Service Center, Philadelphia, Pennsylvania. Edward M. Waronker and Beryl G. Waronker, husband and wife, who resided in Dade County, Florida, at the time of the filing of their petition in this case, filed a joint Federal income tax return for the calendar year 1975 with the Internal Revenue Service Center, Chamblee, Georgia. In 1973 William T. Hunter, Jr. (Mr. Hunter) and Edward M. Waronker (Mr. Waronker) were each made aware of a cattle breeding program offered by Southern Star Land and Cattle Co., Inc. (Southern Star 2). Southern Star was incorporated under the laws of the State of Florida in early 1970. The corporation was founded by Neal Levine, its president, and Harry Epstein, the chairman of its board. A confidential offering memorandum prepared by Southern star dated December 11, 1974, states that "The Company is principally engaged in the business of breeding and raising cattle and in the sale and maintenance of such cattle under an Agreement with the purchasers of [breeding herds] * * ." 1982 Tax Ct. Memo LEXIS 618">623 Mr. Levine, who was 30 years old in 1970, was a practicing CPA in the Miami area when he organized Southern Star. During the years here in issue, Southern Star had three main ranches. One was located in Citra, Florida, another in Cassoday, Kansas, and the third in Marshfield, Missouri. Mr. Hunter became aware of the program offered by Southern Star through his brother-in-law, Russell Fisher. Mr. Fisher and Mr. Hunter had participated jointly in various business ventures on a number of occasions prior to Mr. Fisher bringing the Southern Star program to Mr. Hunter's attention. Mr. Hunter became a participant in the Southern Star program in 1973 on the advice and recommendation of Mr. Fisher. During the years in issue, Mr. Hunter was the vice president and general counsel of the Jasper Corporation of Bethesda, Maryland. On his income tax returns for these years, he listed his occupation as that of executive. In 1968 Mr. Hunter received a J.D. degree from the University of California, Hastings College of the Law. In 1969 he received an LL.M. degree in taxation from the New York University School of Law. From 1969 to 1973, he was employed as a trial attorney in the Refund1982 Tax Ct. Memo LEXIS 618">624 Litigation Section of the Tax Division of the United States Department of Justice. Mr. Waronker is a real estate appraiser by profession and operates his own apprisal company. In 1952 Mr. Waronker received a bachelor's degree from Temple University, Philadelphia, Pennsylvania, with a major in accounting, and in 1958 he received a master's degree in finance from the University of Miami. An insurance and pension plan consultant brought the Southern Star program to Mr. Waronker's attention. After talking to a fellow appraiser who had decided to take part in the program, Mr. Waronker has his own personal accountant look into the Southern Star operation. After receiving his accountant's advice, Mr. Waronker became a participant. On November 7, 1973, Mr. Hunter entered into an agreement with Southern Star which provided in part that Mr. Hunter (Buyer) "hereby purchases and Seller * * [Southern Star] hereby sells a unit of breeding cattle consisting of ten (10) Purebred Aberdeen Angus females, * * * (hereinafter referred to as the 'Basic Herd') * * ." The agreement stated that the buyer agrees to pay a total purchase price of $ 72,000 for the "Basic Herd" consisting of a $ 1982 Tax Ct. Memo LEXIS 618">625 6,000 downpayment and a $ 66,000 nonrecourse note secured by the cattle with an interest rate of 6 percent. On May 3, 1973, Mr. Waronker entered into a similar agreement with Southern Star except his agreement provided for the purchase of a "Basic Herd" of 5 exotic bred cows 3 for $ 36,000 and with a $ 1,000 downpayment and a $ 35,000 nonrecourse note secured by the cattle with an interest rate of 6 percent. The following terms of payment on the two "notes" were identical (except as noted): (1) Interest on the entire unpaid principal balance of the note computed at the rate of 6 percent per annum was to be paid quarterly through December 1, 1975 (interest owed by Mr. Waronker to be paid semi-annually through December 1, 1975); (2) An amount equal to 30 percent of the total net proceeds resulting from the sale of animals in the herd (gross sales price less commissions, sales costs, and brokerage fees) from time to time as such animals were1982 Tax Ct. Memo LEXIS 618">626 sold was to be applied to reduction of principal until the principal balance on the note was paid in full. (3) Interest at the rate of 6 percent per annum upon the unpaid balance of the note accruing after December 1, 1975, was to be paid from 20 percent (referred to as the buyer's share of the proceeds) of the net proceeds realized from the sales of animals in the herd subsequent to December 1, 1975. In the event such proceeds were insufficient to pay accumulated interest, any deficiency was to be carried forward and charged against the buyer's share of the proceeds realized from future sales. The sales contract with Mr. Hunter further provided with respect to the purchase price of the cattle as follows: XI. Buyer agrees to release Seller of all obligations under the Sales and Management Agreements including those obligations listed herein, in the event Buyer desires to remove his Herd from Seller's care and maintenance. Seller agrees that upon written notice of the Buyer to remove his Herd from Seller's care and maintenance, and full payment of the Note due Seller, that Seller will arrange within thirty (30) days for the Herd to be prepared for shipment and delivery. Buyer1982 Tax Ct. Memo LEXIS 618">627 will pay all costs of preparation and shipment. Seller agrees to reduce the purchase price of the Basic Herd in the following manner: 1. If Buyer takes delivery of the Herd in 1973, the Note will be reduced by fifty four thousand ($ 54,000.00) dollars. 2. If Buyer takes delivery of the Herd in 1974, the Note will be reduced by thirty six thousand ($ 36,000.00) dollars. 3. If Buyer takes delivery of the Herd in 1975, the Note will be reduced by eighteen thousand ($ 18,000.00) dollars. All obligations under the Management Agreement will be prorated through the date of removal, and will be paid by the Buyer before the removal of the Herd. In the event the Buyer wishes to remove the Herd after January 1, 1976, then Buyer must complete payment of the Note and its obligations under the Management Agreement. When Buyer takes delivery of the Herd he will pay to Seller Fifty (50%) percent of the Herd value. Herd value will be the value of the Herd under normal marketing procedures. Herd value will satisfy Section 8, Part D of the Management Agreement. Mr. Waronker's contract had an identical provision except the amounts of reductions were in proportion to his $ 36,000 stated1982 Tax Ct. Memo LEXIS 618">628 sales price. The sales agreements contained the guarantee that the animals purchased are warranted to be breeders. 4 Both also provided (if the management contracts were in force) that if any animal in the "basic herd" ceased to be a breeder, Southern Star was obligated to replace that animal with another of equal quality and age. Under the management contract which Mr. Hunter entered into simultaneously with his sales agreement, Southern Star agreed to breed, care for and maintain his herd of animals. However, the term "herd" as used in the management contract included not only the purchased animals but all substitutes, together with any heifers and cows which were born to and retained in the herd which had reached the age of 24 months. Under the management contract, beginning with the 1974 calf crop, Southern Star would retain from each year's calf crop sufficient heifer calves to be added to Mr. Hunter's herd, so that by December 31, 1979, his breeding herd would consist of at least 16 animals and the breeding herd was to be maintained at1982 Tax Ct. Memo LEXIS 618">629 that level for the duration of the contract. The management contract provided as follows with respect to Southern Star's discretion in managing the cattle: 14. Subject to the express provisions contained herein, and so long as this Agreement is in effect and the NOTE (as defined in the Sales Agreement) or any part thereof remains unpaid, * * * [Southern Star] or any subsequent holder of the Note shall have full control of the location, maintenance, expansion, breeding and culling of the Herd which constitutes the collateral security for such Note, including, without limitation, the matters described in Section 7 above and the determination of the most opportune time for sales from the Herd. Upon any default by * * * [Southern Star] pursuant to the provisions of section 17 below and the termination of this Agreement pursuant thereto, or upon payment of the Note in full, Owner shall have the right to enter into any management agreement with respect to the Herd which Owner, in his sole judgment or discretion, may decide. Paragraph 7 of the management agreement stated that Southern Star would "give freely of its advice and counsel relative to the maintenance, expansion and breeding1982 Tax Ct. Memo LEXIS 618">630 of the Herd," and paragraph 17 provided for termination of the agreement if Southern Star was declared a bankrupt. Paragraph 9C of the management agreement provided as follows: C. All sales of animals made by * * [Southern Star] for which full payment is to be received in less than fifteen (15) months shall not require the consent of the Owner. However, on any sales of animals by * * * [Southern Star] with an extension of credit of fifteen (15) months or more, * * * [Southern Star] shall obtain the consent of Owner, which consent shall not be unreasonably withheld. Under the management contract, Southern Star guaranteed that beginning May 1, 1974, the breeding herd should have an annual live calf birth rate of at least 80 percent and, if there was any shortfall, Southern Star would transfer to Mr. Hunter a sufficient number of animals of comparable value and quality to make up the deficiency. The animals transferred to make up the deficiency were to consist of approximately half heifer calves and half bull calves. Under the agreement Southern star also guaranteed to replace any animal in the breeding herd dying before its tenth birthday. Any such replacement was1982 Tax Ct. Memo LEXIS 618">631 to be similar in age, sex and value to the deceased animal and was itself to be in good and sound condition. 5The management agreement provided that Mr. Hunter would pay Southern Star the following management fee for the maintenance of his herd and for pasture rental: A. In 1973, $ 10,000 on December 5, 1973; B. In 1974, $ 10,000 to be paid in four installments of $ 2,500 each by January 1, 1974, April 1, 1974, July 1, 1974, and October 1, 1974; C. In 1975, $ 6,000 to be paid in four installments of $ 1,500 each by January 1, 1975, April 1, 1975, July 1, 1975, and October 1, 1975, and D. Additionally, 50 percent of all net proceeds (gross sales price less commissions, sales costs and brokerage fees) from the sale of cattle in the herd. The management agreement provided that Southern Star would deliver to Mr. Hunter yearly reports detailing the ear tag number, tattoo number and location of each of his animals and would maintain books and records covering the registration certificates on all animals owned by Mr. Hunter, of all sales of animals in his herd, of all1982 Tax Ct. Memo LEXIS 618">632 deaths of animals in his herd, of substitutions and replacements made to the herd and all other records concerning breeding. The agreement provided that these books and records were to be open to Mr. Hunter's inspection during normal business hours upon his giving at least 15 days' notice to Southern Star. The management agreement provided that Mr. Hunter would apply for a lifetime membership in the American Angus Association and would pay for all registration and transfer fees on cows registered in his name. However, the sales agreement provided that "The herd will remain registered under the name of * * * [Southern Star] or its nominee for benefit of Owner with the American Angus Association." The management agreement provided that either party should have the option to liquidate the herd when the principal owed on the purchase note was $ 30,000 or less. However, Southern Star had the option to liquidate at any time so long as it gave written assurance that the net liquidation proceeds would be equal to at least three times the remaining balance owed on the principal of the purchase note. The management contract was to terminate upon liquidation of the herd, but Southern1982 Tax Ct. Memo LEXIS 618">633 Star had the option to terminate it at any time after the purchase note was fully paid or if there was a failure by the puchaser to cure any default in payment. The management contract which Mr. Waronker entered into with Southern Star simultaneously with the signing of his sales agreement had substantially the same terms as Mr. Hunter's management contract except as to number of cattle, amounts of payments, payment dates and references to exotic cattle rather than Black Angus. In Mr. Waronker's management contract, his breeding herd was to consist of at least eight animals by December 31, 1979. The management fees provided for under Mr. Waronker's contract for care and maintenance and pasture rental were: A. In 1973, $ 5,000 on October 19, 1973; B. In 1974, $ 5,000 to be paid in semi-annual installments of $ 2,500 each on June 1, 1974, and December 1, 1974; C. In 1975, $ 3,000 to be paid in semi-annual installments of $ 1,500 each on June 1, 1975, and December 1, 1975; and D. Additionally, 50 percent of all net proceeds (gross sales price less commissions, sales costs and brokerage fees) from sale of animals. Mr. Waronker's management agreement required him to apply1982 Tax Ct. Memo LEXIS 618">634 for life membership in various exotic cattle associations as well as pay all registration and transfer fees on cows registered in his name. However, Mr. Waronker's sales agreement contained the same provisions as Mr. Hunter's with respect to cattle being registered in the name of Southern Star. Under the management agreement between Mr. Waronker and Southern Star, either party had the option to cause liquidation of the breeding herd when the balance on the $ 35,000 nonrecourse note had been reduced to $ 15,000 or less. 61982 Tax Ct. Memo LEXIS 618">635 The December 11, 1974, offering memorandum of Southern Star contained the following statements with regard to suitability standards for an investor: 71982 Tax Ct. Memo LEXIS 618">636 SUITABILITY STANDARDSThe Company offers this investment only to those persons who are able to meet certain suitability standards and are able to assume the risks attendant to an investment of this nature. Accordingly, this investment is offered only to those people whom the Company believes satisfy the following requirements: 1. Persons with a net worth (excluding home, furnishings, and automobiles) of at least $ 150,000 and who, without regard to this investment, have some portion of their annual income subject to Federal Income Tax in at least the 50% tax bracket during the current tax year. Neither Mr. Hunter nor Mr. Waronker visited the Southern Star ranches to inspect or examine the cows he agreed to buy under his sales contract. Southern Star selected the cows to be assigned to each petitioner, and it did so by simply going down a list of available cows and assigning animals, in order on that list, to satisfy the number of cows called for by a sales contract. Under his sales contract and management contract, neither Mr. Hunter nor Mr. Waronker had the right to pick the cattle he was agreeing to buy but took the cattle assigned to him by Southern Star. Prior1982 Tax Ct. Memo LEXIS 618">637 to entering into the agreements with Southern Star, neither Mr. Hunter nor Mr. Waronker had engaged in cattle breeding. In the purebred cattle breeding business, the maintenance of careful records on each cow is very important. Southern Star sent out semi-annual herd reports to the participants in its breeding program. Southern Star also provided tax froms, with pertinent tax data, to each Mr. Hunter and Mr. Waronker who each reflected yearly transactions with respect to his breeding cattle on his Federal income tax returns in the exact manner as provided by Southern Star. Mr. Hunter and Mr. Waronker each received the following letter from Southern Star during the fourth and fifth years of his involvement in the breeding program: [Date] Dear Herdowner: You are now in either your fourth or fifth year of cattle breeding with Southern Star and, as you know, Uncle Sam requires that you show a profit during two out of five years to meet the requirements of the Hobby Loss rule. We are now preparing to sell animals so that this profit requirement can be met. We, at Southern Star, take great pride in the herd we have been developing in the past few years. We have culled1982 Tax Ct. Memo LEXIS 618">638 the herd systematically and along with selective purchases of breeding animals and the latest in breeding techniques we have developed a fine breeding herd. In line with our breeding program there are specific animals in your herd which we do not wish to sell to other breeders. We would like to retain them in our own breeding herd. We have evaluated these animals and have determined their estimated value to us. We have enclosed a list of these animals and their estimated prices. Southern Star requests to purchase these animals from you and agrees to waive its Management and Interest proceeds received from such sales and will apply the entire proceeds of this sale to reduce your mortgage. We have analyzed your herd and depreciation method used. We may recommend that you switch from the declining balance method of depreciation to a straight line method. This switch of depreciation method was taken into consideration when we analyzed your Program. As always, when we prepare your information forms for [year], we will make the conversions where we feel it is appropriate. We recommend that you review this with your adviser when you receive our forms. If any of the animals1982 Tax Ct. Memo LEXIS 618">639 Southern Star requests to purchase include any Basic Herd animals, we have shown a tax analysis of the transaction. If you agree to the above, please sign the enclosed list and return immediately. If you have any questions, please contact me. Sincerely, SOUTHERN STAR LAND & CATTLE CO., INC./s/ M. F. Haskell, Comptroller It was Southern Star's practice to send out such letters to participants who were in their fourth and fifth years of the breeding program. Attached to the letter sent to each Mr. Hunter and Mr. Waronker was a listing of particular cows which Southern Star offered to buy from him for a stated price. The December 1, 1976, letter sent by Southern Star to Mr. Hunter had the following attached page: William T. Hunter December 1, 1976 I agree to sell the following animals to Southern Star Land & Cattle Co., Inc. I understand that Southern Star has waived its Management and Interest rights and will apply all the proceeds to reduce my mortgage. Ear TagDate ofNumberBirthAmount96679/15/743,100.0096629/18/743,100.00Date: An identical letter dated May 7, 1976, was sent to Waronker by Southern1982 Tax Ct. Memo LEXIS 618">640 Star, offering to buy his cow with the ear tag number 9827 for $ 6,200. Mr. Waronker agreed to the proposed purchase of the cow by Southern Star. Mr. Hunter had not replied to his letter from Southern Star by December 29, 1976. Under date of December 29, 1976, Southern Star wrote a letter to Mr. Hunter, the boyd of which reads as follows: As of this date we have not received a reply from you approving our request of December 1, 1976 to purchase specified animals from your herd. If we do not hear from you within ten days, we will assume that you accept our offer to purchase these animals. Under date of January 6, 1977, Mr. Hunter wrote a letter to Southern Star, the body of which is as follows: This is in response to your letter of December 29, which reached this office with this morning's mail. I do not consent to the purchase by * * * [Southern Star], or any related entity or individual, of any of the stock contained in my breeding herd. Without intending to impune the character of your organization, or its employees, I find the conflict of interest inherent in your proposal to be so glaring as to be almost beyond comprehension. I have paid and am paying to your1982 Tax Ct. Memo LEXIS 618">641 organization a sizeable sum to provide care and management for my breeding herd. I have engaged your services to that end due to my ignorance of the cattle breeding business. My ignorance extends to a lack of knowledge as to the fair market value of individual members of my herd. It would be foolhardy for me to agree to sell my breeding stock to you without benefit of an independent expert valuation, and in my opinion your suggestion that I entertain such an agreement constitutes an act of mismanagement on your part. Surely you must see that in instances where sales of my cattle are made at arm's length with third parties, a right you have retained under the management contract, our interests in the outcome of the sale are coincident, and thus my interests are protected. If * * [Southern Star] or any related individual or entity wishes to buy any of my cattle, an independent expert appraisal will be a necessary precondition. When Mr. Hunter received his status report in 1977, he learned that the two cows (referred to in the letter to him from Southern Star dated December 1, 1976) were not part of his herd because the two animals had been purchased by Southern Star in December1982 Tax Ct. Memo LEXIS 618">642 1976. Mr. Hunter reviewed his agreements with Southern Star and concluded that under these agreements Southern Star had the right to purchase his cattle without his consent. 8 Southern Star sent out a tax form to each Mr. hunter and Mr. Waronker which reflected the sale transaction between each of them and Southern star. Mr. Hunter and Mr. Waronker, each on his own income tax return for the year 1976, incorporated the exact data which had been furnished to him by Southern Star.The herd status reports sent respectively to Mr. Hunter and Mr. Waronker showed that the animals referred to in the respective letters from Southern Star had been purchased from his herd. The cow records maintained by Southern Star on the mothers of cows numbers 9667 and 9662 (the animals stated to have been purchased by Southern Star from Mr. Hunter's herd) showed that both 9667 and 9662 had been inadvertently sired by the1982 Tax Ct. Memo LEXIS 618">643 bull of a neighbor of Southern Star. These records showed that at birth both numbers 9667 and 9662 were red, white-faced calves. The cow records for numbers 9667 and 9662 disclose that the animals were resold on March 18, 1977, by Southern Star to a third party for $ 175.64 each. Cow number 9827, which was the cow referred to in the letter from Southern Star to Mr. Waronker, was a half Simmental and half Charolais. The cow records maintained by Southern Star state on their face that the mother of number 9827 was an unregistered Charolais. An animal which is not registered, as well as any offspring produced by it, is worthless for purebred breeding purposes. The individual cow record maintained by Southern Star on number 9827 states that on March 18, 1977, the animal was sold by Southern Star to a third party for $ 252.31. On the income tax returns filed by Mr. Waronker for 1976 and 1977, he reported a slight profit for each year on the cattle breeding operation with Southern Star. Mr. Hunter reported a small profit in 1976 and apparently also in 1977. Mr. Hunter and Mr. Waronker each in his petition alleged that he was entitled to the presumption provided under section 183(d). 1982 Tax Ct. Memo LEXIS 618">644 The following two tables summarize the income reported and the deductions and credits claimed by each Mr. Hunter and Mr. Waronker for the years indicated from his participation in the Southern Star program: Table A -- Mr. Hunter19731974197519761977TotalIncome$ 29$ 95$ 8,126 $ 11,144$ 19,394Additionalfirst-yeardepreciationallowance(sec. 1979)$ 4,000Otherdepreciation9,71416,65311,8955,9485,948Interest1,0363,9603,960273989Maintenanceand pasturerental10,00010,0156,0476832,472Subtotal ofdeductionsclaimed peryear$ 24,750$ 30,628$ 21,902$ 6,904$ 9,409$ 93,593Investmentcredit$ 5,040$ 5,040Table B -- Mr. Waronker1973197419751976Income$ 47$ 241$ 6,437Additional first-yeardepreciation allowance(sec. 179)$ 4,000Other depreciation9,143$ 6,531$ 4,665$ 3,332Interest1,4201,0502,1001,097Maintenance and pasturerental5,7102,5234,1211,619Subtotal of deductionsclaimed per year$ 20,273$ 10,104$ 10,886$ 6,048Investment credit$ 2,5201982 Tax Ct. Memo LEXIS 618">645 19771978TotalIncome$ 630$ 828.56$ 8,183.56Additional first-yeardepreciation allowance(sec. 179)Other depreciation$ 5,142.86Interest$ 126165.71Maintenance and pasturerental315414.48Subtotal of deductionsclaimed per year$ 441$ 5,723.05$ 53,475.05Investment credit$ 2,520.00Mr. Hunter, on his original 1973 Federal income tax return, reported income from salaries and wages of $ 28,333, income from dividends after the dividend exclusion of $ 118,505, and interest income of $ 5,847. He, however, reported a loss in adjusted gross income (prior to claimed deductions) of $ 195,035, composed of a distributive share of partnership losses of $ 322,810 and the farm income loss of $ 24,750 arising from the transaction here in issue, less a director's fee of $ 125. Subsequently, as will be hereinafter more fully discussed, in December 1975 Mr. Hunter filed an amended Federal income tax return for the year 1973 reporting a corrected adjusted gross income of $ 307,038 rather than the $ 195,035 loss previously reported. On his 1974 Federal income tax return Mr. Hunter reported $ 37,000 of salary income,1982 Tax Ct. Memo LEXIS 618">646 $ 118,192 of dividend income after subtraction of the dividend exclusion, $ 4,418 of interest income, and a loss of $ 106,973, leaving adjusted gross income of $ 52,637, which, when reduced by claimed itemized deductions and dependency exemptions, left taxable income of a loss of $ 369. The $ 106,973 loss was composed of the following items: Net gain or (loss) from SupplementalSchedule of Gains and Losses(attach form 4797)9 $ 29 Pensions, annuities, rents, royalties,partnerships, estates or trusts,etc. (attach Schedule E)(12,282)Farm income or (loss) (attachSchedule F)10 (30,628)State income tax refunds3,000 Other - Director's Fee375 Net operating loss carryover - Scheduleattached(67,467)[A schedule attached to Mr. Hunter's original 1974 return showed a net operating loss carryover computed as follows: Net operating loss 1973$ (255,796) Carryback to 1970, 1971,and 197211 (188,329) Carryover to 1974$ ( 67,467)]1982 Tax Ct. Memo LEXIS 618">647 In December 1975, at the same time Mr. Hunter filed an amended 1973 income tax return he filed an amended 1974 income tax return, the major adjustment in the amended 1974 return being an elimination of the claimed net operating loss carryover deduction of $ 67,467 claimed on his original return. The other adjustment consisted of an additional capital gain which is not of consequence in this case. The amended 1973 return showed that the change in income from that reported on the original returns was a previously unreported net gain from sale of capital assets of $ 502,073. On Schedule D, attached to the amended return, the capital gain was reported as follows: Short-term capital gain peroriginal return$ 1,648 Long-term capital losses peroriginal return(173,325)Condemnation gain (see attachedstatement)1,174,175 Net long-term capital gain1,000,850 Net gain1,002,498 50 percent of long-term capitalgain500,425 Total capital gain502,073 The explanation given in the 1973 amended return1982 Tax Ct. Memo LEXIS 618">648 for the change was as follows: CONDEMNATION GAINIn 1973 the Fisher Family Partnership received condemnation proceeds which resulted in a gain. Pursuant to section 1033(a)(3) and regulation 1.1033(a)-2(c)(2), the gain was not recognized in 1973 by the partnership.Since the replacement period ends on 12/31/75 and qualifying replacement has not been made, the taxpayers are including their respective share of the gain in income. The 1973 return of the Fisher Family Partnership has also been amended. * * * In 1975, Mr. Hunter reported salary income of $ 42,000, dividend income after the dividend exclusion of $ 94,908, interest income of $ 5,632, and income other than wages, dividends and interest of $ 60,319, resulting in total adjusted gross income of $ 202,859. The $ 60,319 of other income was composed of net gain from the sale or exchange of capital assets of $ 255,914, partnership losses of $ 169,217, farm income loss of $ 21,807 which was the loss claimed from the transaction here in issue, and other loss of $ 4,571 which related to items not here pertinent. In 1976, Mr. Hunter reported salary income of $ 151,000, dividend income after dividend exclusion of $ 75,837, 1982 Tax Ct. Memo LEXIS 618">649 interest income of $ 46,167, and a loss from other than wages, dividends and interest of $ 127,930. Included in computing this loss was a loss of $ 6,904, denominated farm income or loss which related to the transaction here in issue. For the year 1977, Mr. Hunter on his Federal income tax return reported income from salary of $ 62,000, interest income of $ 68,848, dividend income after the exclusion of $ 165,722, capital gain of $ 31,400, net gain from the supplemental schedule of gains and losses (Form 4797) of $ 11,144, losses from partnerships of $ 96,239, farm income loss of $ 89,713, resulting in total adjusted gross income of $ 153,156. On the Form 4797, Mr. Hunter reported ordinary gain of $ 11,144 from breeding cattle. 12 The loss reported under the designation farm income or loss was derived from two Schedule F's attached to Mr. Hunter's 1977 return. The first of these schedules showed a loss from an operation designated Cook's Hope Farm. The second Schedule F showing a loss from an operation designated "Breeding Cows--Florida" of $ 9,409 was from the transaction involved in the instant case. 1982 Tax Ct. Memo LEXIS 618">650 Mr. Waronker, on his 1973 return, reported income from salary of $ 51,044.50 and interest income of $ 539.76 which he reduced by a loss of $ 13,394.76. This loss was composed of a $ 20,273 claimed loss from the transaction here involved reduced by certain rental income and capital gains and a small amount of earnings of his wife as a travel agent. On his 1974 return Mr. Waronker reported $ 51,712.11 of salary income and $ 906.42 of interest income and a loss of $ 26,475.28 from other items. Included in this loss of $ 26,475.28 was a loss of $ 10,104 reported on the transaction here in issue. On his 1975 tax return Mr. Waronker reported salary income of $ 39,898.17 and interest income of $ 1,114.70, reduced by a loss of $ 12,832.33, which included a $ 10,886 loss from the transaction here in issue. On his 1976 return Mr. Waronker reported $ 40,250.93 of salary income, $ 761.48 of interest income, reduced by a loss of $ 9,966.18 which included a $ 6,048 loss from the transaction here in issue. On his 1977 return Mr. Waronker reported $ 41,481.79 of salary income, $ 1,114.45 of interest income, $ 630 of capital gains, and $ 9,532 of income from pensions, annuities, rents, 1982 Tax Ct. Memo LEXIS 618">651 royalties, partnerships, etc., reduced by a farm income loss of $ 441. The $ 441 farm income loss was from the transaction here in issue. On the Schedule F attached to his 1977 return Mr. Waronker claimed no depreciation deduction from the transaction here in issue. Mr. Waronker, on his 1978 return, reported salary income of $ 29,457.91, interest income of $ 7,403.22, capital gains of $ 20,640.89, sale of breeder cattle culls of $ 828.56, a farm income loss from the transaction here in issue of $ 5,722.85, and a loss from pensions, annuities, rents, royalties, partnerships, etc. of $ 14,500. The Schedule F attached to Mr. Waronker's 1978 return showed the claimed $ 5,722.85 farm loss to consist of interest of $ 165.71, management and pasture rental of $ 414.28, and depreciation of $ 5,142.86. Southern Star on its Federal income tax return for its fiscal year ended November 30, 1973, attached a schedule denominated "Installment Sales." This schedule showed in part as follows: YEAR ENDED - NOV. 30: 1970 (55,088 X 97.51%)53,7161971 (134,843 X 87.52%)118,0141972 (52,185 X 91.02%)47,4991973 (67,000 X 93.37%)62,752281,981TAXPAYER1982 Tax Ct. Memo LEXIS 618">652 HAS ELECTED TO REPORT SALES OF CATTLE UNDER SEC. 453 I.R.C. -- INSTALLMENT METHOD. Southern Star on its Federal income tax return for its fiscal year ended November 30, 1974, attached a schedule denominated "Installment Sales." This schedule showed in part as follows: DESCRIPTION OF PROP. SOLD BREEDING PROGRAMS DATE ACQUIRED: VARIOUS DATE SOLD: 1974 1. GROSS SALES PRICE$ 1,898,400 2. ORIGINAL COST$ 130,8333. PLUS: CAPITAL IMPROVEMENTS4. PLUS: EXPENSES OF SALE5. TOTAL COST$ 130,8336. LESS: ALLOWED OR ALLOWABLE DEPRECIATION7. ADJUSTED COST130,833 8. NET PROFIT ON SALE$ 1,767,567 9. PERCENT OF NET PROFIT TO GROSS SALES PRICE CURRENT YEAR REPORTABLE PROFIT93.108249%10. DOWN PAYMENT RECEIVED (IF SOLD THIS YEAR)$ 43,72411. OTHER PAYMENTS RECEIVED THIS YEAR12. TOTAL PAYMENTS RECEIVED THIS YEAR$ 43,72413. PROFIT REPORTABLE THIS YEAR (ITEM 12 X ITEM 9)40,711 A comparable schedule was contained in Southern Star's Federal income tax return for its fiscal year ended November 30, 1975, which showed in part as follows: Computation of Installment Income - 1975Property Sold -- CATTLE BREEDING PROGRAMSGross Sales Price2,768,000 Cost of Sales152,545 Gross Profit on Sales2,615,455 Percent of Gross Profit to Gross Sales Price94.48898%Collections Received in Current Year74,250 Profit Reportable This Year (Line 28 X 31)70,159 1982 Tax Ct. Memo LEXIS 618">653 Of the ten cows assigned by Southern Star to Mr. Hunter in the attachment to his sales agreement, four had been purchased by Southern Star for $ 345 each, one had been purchased by Southern Star for $ 800, one had been purchased by Southern Star for $ 1,000, and four had been born on the Southern Star Ranch. The five cows assigned to Mr. Waronker by Southern Star in the attachment to his sales contract had been purchased by Southern Star for $ 230 each. As of December 31, 1979, and as of the date of the trial in December 1980, the records of Southern Star showed only ten cows in Mr. Hunter's herd and five cows and one calf in Mr. Waronker's herd. Respondent in his statutory notice of deficiency to Mr. Hunter disallowed all the deductions and the investment credit claimed by Mr. Hunter for the years 1973 through 1976 as a result of his participation in the Southern Star program, except the $ 1,036 interest deduction claimed in 1973. Respondent in his answer to the petition, however, asserts that the statutory notice erroneously had failed to disallow the $ 1,036 interest deduction claimed by Mr. Hunter and claimed an increased deficiency. Respondent in his statutory notice1982 Tax Ct. Memo LEXIS 618">654 of deficiency to Mr. Waronker disallowed all the deductions claimed by him for the year 1975 as a result of his participation in the Southern Star program. Mr. Hunter in his petition alleged the following with respect to the $ 37,000 and $ 16,601 of minimum tax paid by him for the years 1973 and 1975, respectively: (kk) The minimum tax is a Federal excise tax which is deductible under Section 162 as an ordinary and necessary business expense or under Section 212 as an expense incurred for the production of income. In determining Petitioners' tax liability for 1975 and 1976, Respondent fauled to allow as a deduction the amounts of $ 37,000.00 and $ 16,601.00, respectively, in minimum taxes paid by Petitioners during such years. Mr. Hunter paid the $ 37,000 of minimum tax for 1973 in 1975. He paid the $ 16,601 of minimum tax for 1975 in 1976. Mr. Hunter alleges in his petition that he is entitled to income tax deductions in 1975 and 1976 for these respective amounts paid as minimum tax. OPINION Respondent's primary contention in this case is that the respective transactions between Mr. Hunter and Mr. Waronker and Southern Star do not have sufficient economic substance1982 Tax Ct. Memo LEXIS 618">655 to constitute sales of cattle by Southern Star to Mr. Hunter and Mr. Waronker. It is respondent's position that despite the words contained in the various documents executed by the parties, the transaction did not in fact transfer the benefits and burdens of ownership of the cattle to Mr. Hunter and Mr. Waronker. Respondent contends that since the transactions lack economic substance, Mr. Hunter and Mr. Waronker are not entitled to the depreciation and interest deductions and investment tax credit, provided under various provisions in the Internal Revenue Code, which they have claimed for the years in issue. It is well settled that the mere signing of papers calling a transaction by a certain designation does not cause the transaction to acquire that status for Federal income tax purposes. Likewise, signing papers which on their face formally comply with the requirements of a tax statute does not give substance to a transaction when in fact it has no economic substance.As stated in Gregory v. Helvering,293 U.S. 465">293 U.S. 465, 293 U.S. 465">469 (1935), "But the question for determination is whether what was done, apart from the tax motive, was the thing which the statute intended." See1982 Tax Ct. Memo LEXIS 618">656 also Knetsch v. United States,364 U.S. 361">364 U.S. 361, 364 U.S. 361">364-365 (1960). Whether a transaction denominated in documents signed by a taxpayer as a sale constitutes a sale for tax purposes is a question to be determined from the entire provisions of the documents, as well as all the other evidence of record. Generally, a sale is a transfer of property for money, or a promise to pay money. Commissioner v. Brown,380 U.S. 563">380 U.S. 563, 380 U.S. 563">570-571 (1965). In order for such a transfer to occur, the purchaser must acquire the burdens and benefits of ownership of the property. Numerous factors are to be considered in determining whether what purports by words in documents to be a sale is in economic substance a sale. Where the "promise to pay" is a non-recourse note, as here, it must be determined if the note itself has economic substance. Other factors to be determined are (1) whether the stated price for the property is within a reasonable range of its value; (2) whether the purported purchaser has any control over the property and, if so, to what extent; (3) whether there is any intent that the stated purchase price of the property will ever be paid; and (4) whether the1982 Tax Ct. Memo LEXIS 618">657 purchaser will receive any benefit from the disposition of the property. The determination of whether a purported sale is in economic substance a sale for purposes of Federal income tax must be made as of the date of the purported sale. However, subsequent actions of the parties may be considered to the extent those actions cast light on the intention as it existed at the time of the purported sale. In deciding the extent to which a nonrecourse note has economic substance, a number of cases have relied heavily on whether the fair market value of the property acquired with the note was within a reasonable range of its stated purchase price. Estate of Franklin v. Commissioner,544 F.2d 1045">544 F.2d 1045 (9th Cir. 1976), affg. 64 T.C. 752">64 T.C. 752 (1975); Hager v. Commissioner,76 T.C. 759">76 T.C. 759 (1981). Compare Frank Lyon Co. v. United States,435 U.S. 561">435 U.S. 561 (1978), where among other things the buyer-lessor in a sale-leaseback transaction was personally liable on the mortgage. See also on this point 1982 Tax Ct. Memo LEXIS 618">658 Hilton v. Commissioner,74 T.C. 305">74 T.C. 305, 74 T.C. 305">363 (1980). As stated by the Ninth Circuit Court of Appeals in 544 F.2d 1045">Estate of Franklin,supra at 1048: An acquisition * * * if at a price approximately equal to the fair market value of the property under ordinary circumstances would rather quickly yield an equity in the property which the purchaser could not prudently abandon. This is the stuff of substance. It meshes with the form of the transaction and constitutes a sale. No such meshing occurs when the purchase price exceeds a demonstrably reasonable estimate of the fair market value. Payments on the principal of the purchase price yield no equity so long as the unpaid balance of the purchase price exceeds the then existing fair market value. Under these circumstances the purchaser by abandoning the transaction can lose no more than a mere chance to acquire an equity in the future should the value of the acquired property increase. * * * The stated price under the sales agreement entered into by each Mr. Hunter and Mr. Waronker with Southern Star was $ 7,200 per cow. At trial, each Mr. Waronker and Mr. Hunter testified that he knew that, viewed in isolation, 1982 Tax Ct. Memo LEXIS 618">659 such amount greatly exceeded the animals' actual value. Mr. Hunter, who in 1973 considered himself to be an informed layman on the subject, testified that at the time he considered that a good quality breeding cow would sell at auction for a price of between $ 800 to $ 1,200. Mr. Waronker, while stressing that he was not expert in the matter, testified that in 1973 he had the general idea that a good breeding cow would sell at auction for somewhere between $ 500 to $ 1,000. The evidence in this record shows that even these estimates of Mr. Hunter and Mr. Waronker were high. Mr. Hunter and Mr. Waronker each attempted to justify the $ 7,200 price per cow by stating that he believed he was really purchasing an entire breeding program. Clearly a price of $ 7,200 per cow for the animals which Southern Star assigned to Mr. Hunter and Mr. Waronker is many times the animals' actual fair market value. The evidence shows that of the ten animals assigned by Southern Star to Mr. Hunter, four had previously been purchased by Southern Star for $ 345 each, another two animals had been purchased by Southern Star for $ 800 and $ 1,000, respectively, and the last four animals had been born on1982 Tax Ct. Memo LEXIS 618">660 the Southern Star ranch. All five of the animals assigned to Mr. Waronker had previously been acquired by Southern Star for $ 230 apiece. Neal Levine, Southern Star's chief executive officer, testified that had either Mr. Hunter or Mr. Waronker not wanted to enter into the management contract and merely wished to buy cows from Southern Star, he could have done so for a cash price of $ 1,800 per cow. 13 The record of sales actually made by Southern Star of cattle indicates that even this greatly reduced cash price was approximately three times the average amount being received by Southern Star when it made cash sales of cows. Based on the record in this case, the conclusion that the stated sales prices of $ 7,200 per cow was many times the animals' actual value is inescapable. Petitioners, however, strenuosly argue that the stated price of $ 7,200 per cow represents the fair market value of the animals purchased in the sense that it is the price petitioners had to pay to be involved in a long-term1982 Tax Ct. Memo LEXIS 618">661 breeding program operated by their agent, Southern Star. Upon consideration of all the evidence of record, including the testimony of Mr. Hunter and Mr. Waronker, we do not agree with petitioners' position. Mr. Levine, the promoter of this program, testified that the portion of the $ 7,200 per cow which exceeded $ 1,800 was due to the special, unique guarantees Southern Star was offering. 14 The guarantees Mr. Levine referred to are the guaranteed 80 percent live calf birth rate and Southern Star's obligation to replace any animal which turns out to be a non-breeder or which dies prior to its tenth birthday. 15 Mr. Levine testified that these guarantees would not be given if the buyer did not enter the management agreement. An expert witness called by petitioners testified that in his opinion the price of $ 7,200 per cow was reasonable when the provisions of the sales contract and management contract were considered together as a package. 16 This witness gave no basis for his stated opinion, and in light of all the evidence in this record we do not accept his conclusion. 1982 Tax Ct. Memo LEXIS 618">662 Petitioners argue strenuously that the 1973 transactions were sales at arm's length between independent, unrelated parties. Thus, they argue that the fact that petitioners were willing to buy and Southern Star was willing to sell at a price of $ 7,200 per cow is strong, if not conclusive, evidence of fair market value. Such is not the case. Petitioners and Southern Star have an obvious common interest in inflating the stated purchase prices. 17 By doing so they would generate basis so as to allow petitioners to claim much more in tax benefits through depreciation and investment tax credit than they would otherwise receive. Sections 1011, 1012, 167(g), 46(a)(2) and 46(c)(1); sections 1.46-3(c)(1) and 1.46-3(c)(2), Income Tax Regs. Because of these potential tax benefits to be received by Mr. Hunter and Mr. Waronker, they were willing to make payments to Southern Star that otherwise they would not have made, thereby increasing Southern Star's income. However, Mr. Hunter and Mr. Waronker were not in fact paying the stated price because of the nonrecourse nature of their notes and the contingent manner in which payment was arranged. All payments on the notes, other than interest1982 Tax Ct. Memo LEXIS 618">663 for two years, were to be made solely out of the net proceeds realized from sales of cattle. This situation is far different from one where fixed and regular payments are required to be made on the notes. 18 On the basis of this record, we conclude that the nonrecourse note was without substance. 1982 Tax Ct. Memo LEXIS 618">664 This record shows that Southern Star retained control of the cattle. The cattle were to be registered in the name of Southern Star. The record does not show that the registration records indicated that Southern Star was holding the cattle for the benefit of Mr. Hunter and Mr. Waronker. Southern Star could sell cattle without the consent of Mr. Hunter and Mr. Waronker and without even consulting them. All the proceeds of the sales of cattle were retained by Southern Star. The sales agreement and management contract involved in the instant case are very similar, and in many respects identical, to the sales agreements and management contracts analyzed in Grodt and McKay Realty, Inc. v. Commissioner, 77 T.C. (Dec. 7, 1981). In that case we concluded that there was no sale of cattle by the cattle company to the taxpayers. That case is not factually distinguishable from the instant case. The record in this case is clear that the stated purchase price of the cattle is unlikely to ever be paid. If the ten cattle assigned to Mr. Hunter each produced a calf each year that sold for a net amount of $ 500, the total receipts would be $ 5,000 a year. Of this $ 5,000, the amount1982 Tax Ct. Memo LEXIS 618">665 of $ 2,500 would go to Southern Star as management fees and $ 1,000 would go to Southern Star as an interest payment. The remaining $ 1,500 would be used to pay on the $ 66,000 note. At this rate of payment, it would require 44 years for the note to be paid off and since the $ 1,000 payment would not pay all the yearly accrued interest on the note for the first 29 years some unpaid interest would still be due at the end of the 44 years. From the evidence in this record the indication is that it is most unlikely that the offspring from the cattle assigned to Mr. Hunter would result in net sales (gross sales price less commissions, sales costs and brokerage fees) of $ 5,000 a year. The record indicates that the sales expense of cattle could run as high as 30 percent of the gross sales price. In fact, as of June 30, 1980, even after Southern Star had credited Mr. Hunter's note with $ 12,400 of cattle it "bought back" from him so he could "show a profit", there still remained $ 49,722.72 unpaid on the note. In other words, less than $ 4,000 had been credited on the note from sales by Southern Star of cattle assigned to Mr. Hunter over a period of 7 years. Mr. Waronker's note showed1982 Tax Ct. Memo LEXIS 618">666 a balance of $ 28,204.88 on June 30, 1980, even after a credit of $ 6,200 for a "bought back" cow. From the record, it appears that it would take as long or longer for "his cattle" to be paid for than for Mr. Hunter's to be paid for. We therefore conclude, based on our analysis set forth above, as well as the analysis set forth in the Grodt and McKay case, that the transactions between Southern Star and Mr. Hunter and Mr. Waronker in 1973 did not constitute a sale of cattle by Southern Star to Mr. Hunter and Mr. Waronker. Mr. Hunter and Mr. Waronker each argues that the fact that he actually paid out-of-pocket sizable amounts as a management fee to Southern Star for the care and maintenance of the animals indicates that he did own the cattle. The characterization of the amounts paid for maintenance is merely an exercise in labeling. Southern Star was well paid for arranging an attractive package of tax benefits for petitioners. From 1973 to 1975, Southern Star received $ 40,956 and $ 19,620 in actual cash payments, respectively, from Mr. Hunter and Mr. Waronker. On the basis of this record, we conclude that Mr. Hunter and Mr. Waronker each willingly made these payments solely1982 Tax Ct. Memo LEXIS 618">667 for the tax benefits he might receive from the deal. 19 See Tables A and B, supra. Within a very few years Mr. Hunter and Mr. Waronker each received tax benefits well in excess of his total cash expenditure and would continue to retain such benefits for an extended period of time. Here, as in Knetsch v. United States,364 U.S. 361">364 U.S. at 363, what each petitioner paid cash for was hoped-for tax deductions. The entire transaction was a sham entered into solely to obtain tax benefits. 1982 Tax Ct. Memo LEXIS 618">668 On brief, petitioners argue that in the event the Court finds the stated purchase prices not to be within a reasonable range of the fair market value of the animals, Mr. Hunter and Mr. Waronker are still entitled to their claimed deductions and investment credit for the reason that they had simply made bad bargains. The record does not support this contention. We recognize that a finding that a transaction lacks economic substance is not one which should lightly be made. We are aware of the statement of the Ninth Circuit Court of Appeals in sustaining our decision in Estate of Franklin (544 F.2d 1045">544 F.2d at 1049) that-- Our focus on the relationship of the fair market value of the property to the unpaid purchase price should not be read as premised upon the belief that a sale is not a sale if the purchaser pays too much. Bad bargains from the buyer's point of view--as well as sensible bargains from the seller's point of view--do not thereby cease to be sales. * * * We intend our holding and explanation thereof to be understood as limited to transactions substantially similar to that now before us. It is unlikely (though it is possible) that where the stated purchase1982 Tax Ct. Memo LEXIS 618">669 price of property is many times its actual value there was simply a bad buy. In any event, the evidence in this case is overwhelming that Mr. Hunter and Mr. Waronker each entered into his transaction with his eyes open. Both Mr. Hunter and Mr. Waronker are sophisticated individuals with a wealth of education, training and practical business experience. The reasonable inference from the record is that each of them knew that the payments he made were solely to obtain deductions in computing his Federal income tax. The record clearly indicates that Mr. Hunter and Mr. Waronker were not purchasing cattle or securing maintenance for such animals but were purely and simply purchasing a package of potential tax benefits. Because the arrangement was so well structured to this end, these benefits would continue for many years, even though Mr. Hunter and Mr. Waronker each had recouped more than the cash he paid for the program during the years here in issue through claimed deductions. On the facts presented here, we conclude neither Mr. Hunter nor Mr. Waronker is entitled to deduct the amounts he claimed as depreciation, interest expense (including the interest expense which respondent1982 Tax Ct. Memo LEXIS 618">670 claims to be nondeductible in his answer to Mr. Hunter's petition) or maintenance fees since he made no purchase of cattle. Grodt and McKay Realty Inc. v. Commissioner,supra.See also Estate of Franklin v. Commissioner,544 F.2d 1045">544 F.2d at 1048. Since no sale of cattle was in substance made to Mr. Waronker and Mr. Hunter, the nonrecourse note was not a valid indebtedness interest on which is deductible. 544 F.2d 1045">Estate of Franklin v. Commissioner,supra.Also, since Mr. Hunter and Mr. Waronker had not purchased cattle, neither of them is entitled to an investment credit with respect to the cattle assigned to him by Southern Star. The facts in this case show that Mr. Hunter and Mr. Waronker each ostensibly made small downpayments, $ 6,000 by Mr. Hunter and $ 1,000 by Mr. Waronker. Each also made respective cash payments of $ 26,000 and $ 13,000, which were donominated as maintenance. However, in our view, as stated above, the $ 40,956 and $ 19,620 in cash paid by petitioners simply represented the fees required for entry into an elaborate tax avoidance scheme which was devoid of any economic substance. We are thus not bound, nor do we attach any significance1982 Tax Ct. Memo LEXIS 618">671 to the labels the parties affixed to the cash payments. Helvering v. F. & R. Lazarus & Co.,308 U.S. 252">308 U.S. 252 (1939); Hamme v. Commissioner,209 F.2d 29">209 F.2d 29, 209 F.2d 29">32 (4th Cir. 1953); Grodt and McKay Realty Ins. v. Commissioner, 77 T.C. (Dec. 7, 1981). In reaching the conclusion that the payments by Mr. Waronker and Mr. Hunter were solely to obtain tax deductions over an extended period of time, we have considered the testimony in the record that occasionally a "prize bull" or "prize cow" will be produced from a herd and bring a very high price. Such a "prize" being produced from any herd is extremely unlikely, and with the provisions of the contracts here involved we consider the production of such a "prize" to be so remote that no part of the payments made by Mr. Hunter and Mr. Waronker was for such contingency. Petitioners' expert witness testified that it required many years to develop a prize cow. It required showing the cow as well as several of its offspring to establish that not only did the cow have superior qualities but that it was able to pass those qualities on to its progeny. There is no indication in the record that Southern Star1982 Tax Ct. Memo LEXIS 618">672 was attempting to handle any of the cattle assigned to Mr. Hunter and Mr. Waronker in this manner. Since Southern Star raised cattle for its own account, it is most unlikely that it would go through the long process necessary to establish a prize cow with any of the cattle assigned to Mr. Hunter or Mr. Waronker. The success rate in producing a prize cow, even after the expenditure of great effort over a period of years, is very low. Since male calves produced by the cows assigned to Mr. Hunter and Mr. Waronker were sold at the age of 24 months or less, the likelihood of a prize bull being produced from the cattle assigned to either of them was nil. In light of our holding above, we do not reach the question of whether section 183 would disallow the depreciation and maintenance deductions taken by each Mr. Hunter and Mr. Waronker, nor whether section 465 might limit the deductions taken by Mr. Hunter in 1976. However, since we have concluded that Mr. Hunter and Mr. Waronker did not own the cattle assigned to them by Southern Star, neither of them was required to report any portion of the "sales price" of the cattle sold by Southern Sales which were assigned to them. The reported1982 Tax Ct. Memo LEXIS 618">673 income of each Mr. Hunter and Mr. Waronker should be reduced by the amount he reported as income from cattle sales. The total proceeds from such sales were retained by Southern Star and were in fact, to the extent the proceeds represented gain on the sale of the cattle, the income of Southern Star. Obviously, the fact that we have held the entire transaction to be a sham for Federal tax purposes does not necessarily change the other rights of the parties under their agreements. If at some date in the distant future any actual money is received by either Mr. Waronker or Mr. Hunter under the agreements, the tax effects of such receipt will have to be determined as of that year. We in no way in this case pass on the rights of the parties under the agreements, other than for Federal tax purposes, or what the Federal tax effects would be if either petitioner at some future date did actually receive some of the proceeds on the sale of the cattle. The remaining issue is whether the amounts paid by Mr. Hunter as minimum tax in 1975 and 1976 are deductible because the minimum tax is an excise tax, not an income tax. This Court has expressly held that 1982 Tax Ct. Memo LEXIS 618">674 the minimum tax is a Federal income tax, the payment of which is not deductible under section 275. Graff v. Commissioner,74 T.C. 743">74 T.C. 743 (1980); Standard Oil Co. (Indiana) v. Commissioner,77 T.C. 349">77 T.C. 349, 77 T.C. 349">411-412 (1981). On the basis of these cases, we hold that the amounts of minimum tax paid by Mr. Hunter in 1975 and 1976 are not deductible. Decisions will be entered under Rule 155.Footnotes1. Unless otherwise indicated, all statutory references are to the Internal Revenue Code of 1954, as amended and in effect during the years here in issue.↩2. The use of the name Southern Star in this opinion encompasses not only Southern Star Land and Cattle Company, Inc., but also its wholly owned subsidiary, Cattle Management, Inc.↩3. At a later date Southern Star decided to devote its operations exclusively to the Black Angus breed and, without consulting Mr. Waronker, substituted animals of that breed for the exotic animals previously assigned to Mr. waronker.↩4. Although this warranty is provided for in the sales contract, it was related to the subsequently discussed management contract.↩5. These warranties also were contained in the sales agreement in substantially the same language.↩6. The following is a summary of the payments required by each Mr. Hunter and Mr. Waronker under the respective sales and management contracts: HunterWaronkerDownpayment on purchase price$ 6,000$ 1,000Initial interest payments through 12/1/75(assuming no payments were made onprincipal of the note)8,9565,620Initial pasture & Maintenance fee paymentsthrough 12/31/7526,00013,000$ 40,956$ 19,620All other payments of principal and interest on each note and for maintenance and pasture rental were to be made out of the net proceeds derived from the sale of cattle. Until the purchase money nonrecourse note was paid in full, Southern Star retained 100 percent of the net proceeds from the sale of cattle referred to in the sales contract as the cattle of Mr. Hunter and Mr. Waronker. Thirty percent of such proceeds were applied to the note, 20 percent to interest, and 50 percent to management fees. Only when the notes were fully paid would each petitioner be entitled to receive a percentage of any further net proceeds.↩7. Mr. Waronker testified that a similar type of document was given to him in 1973. Mr. Waronker stated that the 1973 offering memorandum had a similar section dealing with the minimum requirements for an investor and that in the information pertaining to tax aspects the 1973 offering memorandum contained a projected schedule of deductions which a hypothetical investor in the 50 percent tax bracket would receive over the years. Mr. Hunter testified that he could not remember whether or not he had seen such a document. However, Mr. Hunter stated that such a document might have been furnished to his brother-in-law. Each of the sales contracts and management contracts signed by Mr. Hunter and Mr. Waronker contain the following provisions: Buyer is fully aware of the speculative nature of purchasing and managing breeding cattle and represents that his financial circumstances are consistent with this investment and that he is a sophisticated investor and by reason of his business and financial experience, he has the capacity to protect his own interests in connection with his investment.↩8. In this respect Mr. Hunter testified-- I am also not -- I haven't memorized the contract. But my perception at the time that I did review it, at the time that this took place, was that the company was within its rights buying the cattle from me whether I assented or not.↩*. This $ 11,144 is assumed to be from the transaction here in issue even though in 1977 Mr. Hunter was engaged in a farming operation with his brother-in-law, Mr. Fisher, under the name "Cook's Hope Farm" which he testified included a breeding cattle operation. See fn. 12, infra↩.9. This $ 29 was described on Form 4797 as follows: "Breeding Cattle culls - $ 29." ↩10. The $ 30,628 as computed on Schedule F represented the claimed deduction from the transaction with Southern Star involved in this case.↩11. This computation was shown in detail on the return, but the details, other than as here stated, are not of consequence in this case.↩12. This amount is not broken down between sales in connection with the transaction here in issue and sales in connection with Mr. Hunter's Cook's Hope Farm. Mr. Hunter testified that in 1977 he had a breeding cattle operation at Cook's Hope Farm. The 1977 return does not expressly state that no portion of the $ 11,144 came from sales of cattle at Cook's Hope Farm. However, the record does show that under date of June 21, 1977, Mr. Hunter received a letter from Southern Star identical to the one he received dated December 1, 1976, and attached thereto was the statement: I agree to sell the following animals to Southern Star Land & Cattle Co., Inc. I understand that Southern Star has waived its Management and Interest rights and will apply all the proceeds to reduce my mortgage. Ear TagDate ofNumberBirthAmount6303612/28/75$ 3,100T96011/7/753,100At the bottom of this attachment to the June 21, 1977, letter is Mr. Hunter's signature dated July 1, 1977. Therefore, at least $ 6,200 of this amount was clearly with respect to the transaction here in issue. We assume that the balance was also with respect to the transaction here in issue since no Schedule F for Cook's Hope Farm was attached to Mr. Hunter's 1976 return and apparently that operation was in its first year in 1977. Also, in his petition Mr. Hunter alleged that in 1977 his gross income derived from the transaction here in issue exceeded the deductions attributable thereto. Further, attributing the entire amount as being with respect to the subject transaction would be consistent with the fact that Mr. Hunter also claimed a $ 2,472 deduction for maintenance and pasture rental with respect to the transaction in 1977. ((11.144 - 6,200) X 50% equals $ 2,472.) As to the two animals referred to above, the cow records of Southern Star show that later Southern Star on January 24, 1979, resold one animal to a third party for $ 522.50 and on February 17, 1980, sold the other to a third party for $ 919.↩13. Apparently in this respect Mr. Levine was referring to the provision of the sales agreement permitting a buyer in 1973 to take possession of his cows for this amount per cow.↩14. In a prospectus dated June 10, 1975, which was filed with the Securities and Exchange Commission by Southern Star, the company acknowledges that "The cost to Herd Owners of cattle offered hereby is substantially in excess of the cost of such cattle to [Southern Star], exclusive of its costs of warranties." In the same prospectus it is later stated that the estimated warranty cost per animal is $ 2,040. In 1975 the price per animal of the offering described in the prospectus was $ 8,000. The record indicates that no such prospectus was issued in 1973. The June 10, 1975, prospectus states that on May 14, 1975, a consent agreement was reached between Southern Star and the Securities and Exchange Commission. None of the 1973 promotional materials gives a breakdown of the stated purchase price of $ 7,200 per cow. ↩15. The claimed cost of $ 2,040 per animal for the warranties in the prospectus referred to in footnote 14 is excessive. Petitioners' expert witness testified that an average yearly crop rate of 80 to 85 percent is an expected standard in the industry. He even remarked that with a really well-operated purebred breeding herd a calf crop rate of 85 to 90 percent might be possible. He volunteered the statement that if a breeder was not overly concerned with carefully breeding specific cows to certain bulls and with having animals bred by certain dates for show classification purposes, such percentages should even be better. Since Southern Star was only obligated under the warranties to replace with an animal of equal quality, the cost to Southern Star would have been minimal for cows dying before reaching their tenth birthday considering the mortality rate for cows shown by the record and the original cost to Southern Star of the animals assigned to Mr. Hunter and Mr. Waronker. The record shows that a guarantee to replace a non-breeder was common and accepted in the industry. ↩16. Petitioners' expert, a cattleman, did not break down the $ 7,200 per cow figure by testifying as to which portions of such amount he would allocate to the component parts of the Southern Star program. Instead, he made the merely conclusional statement that, in his opinion, viewed as a total package a figure of $ 7,200 per cow was reasonable.↩17. The events which took place in 1976, whereby Southern Star attempted to manufacture profits so as to allow each petitioner to claim the presumption provided under section 183(d), clearly demonstrates the actual nature of the transactions entered into in 1973. Southern Star knew that the animals it was ostensibly repurchasing from petitioners were worth nowhere near the stated purchase prices. The animals were shown by Southern Star's own records not to be purebreds and to have no value beyond their value as cattle for slaughter for meat. We simply do not believe the testimony of Mr. Levine that Southern Star wanted these animals because they were high quality animals, or the other reasons given by Mr. Levine for Southern Star's acquiring the animals. From this record, it is clear that all Southern Star did was reduce the principal on the nonrecourse note of each Mr. Hunter and Mr. Waronker by $ 6,200. Since the purchase prices shown in the sales contracts were so grossly overstated, and in view of the fact that payment of this price was to be made solely out of the net proceeds realized from the sale of cattle assigned to Mr. Hunter and Mr. Waronker, Southern Star did not lose anything since it never expected the notes to be paid off. Furthermore, Southern Star would have kept all funds from the sale of cattle in any event under its contract with Mr. Hunter and Mr. Waronker. The only difference was that, by applying this total amount it kept to the note, income was generated for Mr. Hunter and Mr. Waronker in an effort to comply with sec. 183(d). If this had not been done and those amounts had been applied as provided in the contract, there would be a paper loss for the year since the 20 percent applied to interest and the 50 percent applied to management fees would have been reported to Mr. Hunter and Mr. Waronker as items which were deductible in computing their Federal income tax. ↩18. To be sure, the mere nonrecourse nature of a purchase note and the fact that its terms of payment may seem out of the ordinary does not mean that a purchase price was not arrived at by arm's length negotiation. Rather, each case turns on its own facts. See Mayerson v. Commissioner,47 T.C. 340">47 T.C. 340, 47 T.C. 340">352-353↩ (1966).19. Mr. Hunter and Mr. Waronker each testified at the trial that his prime motive in entering the transaction was not the tax advantages. Mr. Waronker testified that in 1973 he was not even in the 50 percent tax bracket. However, if Mr. Waronker had not claimed $ 20,273 in deductions due to his participation in the Southern Star program, his taxable income for 1973 would have been $ 46,583.53, placing him just in the 50 percent incremental bracket.See sec. 1(a), as amended by Pub. L. 91-172, sec. 803(a), 1969-3 C.B. 10, 123. At any rate, the significant point is that if Mr. Waronker had not taken part in the Southern Star program, he would have paid, we calculate, approximately $ 15,000 in taxes for 1973 as opposed to the $ 3,820.79 which he reported. Moreover, this $ 11,179.21 is the tax savings for only the initial year of his participation in the program. Mr. Hunter testified that, because of a large $ 250,000 partnership loss which he knew his wife would have for 1973, he could not anticipate in November of that year using the deductions resulting from his participation in the Southern Star program either in 1973 or 1974. If this testimony was intended to have led us to draw the conclusion that he could not in fact use the deductions at all at that point, such conclusion would be erroneous. Mr. Hunter, on his original 1973 return, reported a loss of some $ 259,546. However, on his original 1974 return dated April 15, 1975, there is a net operating loss carryforward schedule showing that the 1973 loss gave rise to a 1973 net operating loss of $ 255,796.The schedule shows that $ 83,455 of this loss was carried back and used by Mr. Hunter in 1971, $ 104,874 of the loss was carried back and used in 1972, and the remaining balance of $ 67,467 was carried forward and taken as a deduction for 1974. Unquestionably, Mr. Hunter would have known that he could use the last portion of the 1973 net operating loss in 1974. For 1974, Mr. Hunter and his wife reported $ 118,192 in dividend income; for 1973 they reported $ 118,505 of such dividend income. We conclude that the testimony of each Mr. Hunter and Mr. Waronker, that the tax benefits were not his primary motive for entering into the transaction with Southern Star, is not credible. In fact, based on the record in this case we conclude that the tax benefit to be obtained was the only motive of each of them for entering into the transaction.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621849/	Estate of John F. Nutt, Deceased, Eileen M. Nutt and Frances D. Nutt, Executrixes, Petitioner v. Commissioner of Internal Revenue, Respondent; Eileen M. Nutt, Petitioner v. Commissioner of Internal Revenue, RespondentEstate of Nutt v. Comm'rDocket Nos. 77669, 77670United States Tax Court52 T.C. 484; 1969 U.S. Tax Ct. LEXIS 108; June 19, 1969, Filed 1969 U.S. Tax Ct. LEXIS 108">108 Held: Funds which were community property of a husband and wife living in Arizona retained their character as community property when placed in a joint bank account of the husband and wife where it was the intent of the parties that the funds remain community property and the funds were treated by them as community property. Stock in an Arizona corporation one-half of which was registered in the name of the wife and one-half in the name of the husband purchased with funds from this joint bank account, which stock was intended to be and was treated as community property by the husband and wife, was their community property. Under Arizona law the husband has the right of management of the community property held in his name and that held in the name of his wife and would be in a position to regain possession of real property which had been owned by him and his wife which had been transferred to a corporation all the stock of which was owned as community property by him and his wife. Therefore, the gain on the sale of the unharvested crops on the land sold by the husband and wife to their wholly owned corporation is taxable as ordinary income under sec. 1.1231-1(f), Income Tax1969 U.S. Tax Ct. LEXIS 108">109 Regs., providing that sec. 1231(b)(4) is inapplicable to unharvested crops on land sold with retention of a right or option to reacquire such land either directly or indirectly. W. Lee McLane and Nola McLane, for the petitioners.Wesley Dierberger, for the respondent. Scott, Judge. SCOTT 52 T.C. 484">485 These cases arose from respondent's determination of deficiencies in petitioners' income taxes for the calendar years 1955, 1956, and 1957 in the respective amounts of $ 20,795.45, $ 43,060.09, and $ 38,806.03 as to 1969 U.S. Tax Ct. LEXIS 108">110 John F. Nutt, 1 and in the amounts of $ 20,699.45, $ 42,604.09, and $ 38,806.04, respectively, as to Eileen M. Nutt.By amendment to answer respondent claimed increased deficiencies for the year 1957 in the case of each petitioner in the amount of $ 8,413.85.On October 26, 1962, the original Findings of Fact and Opinion of this Court were filed, being reported at 39 T.C. 231">39 T.C. 231, and on April 18, 1963, the original decisions of this Court were entered. Petitioners appealed our decisions to the U.S. Court1969 U.S. Tax Ct. LEXIS 108">111 of Appeals for the Ninth Circuit, and on November 22, 1965, that court remanded the case to this Court for further proceedings in accordance with its opinion, Nutt v. Commissioner, 351 F.2d 452 (C.A. 9, 1965). Further proceedings were held and thereafter on August 18, 1967, this Court filed its Additional Findings of Fact and Opinion which are reported at 48 T.C. 718">48 T.C. 718. By order dated November 17, 1967, this Court vacated its decisions entered April 18, 1963, and on December 12, 1967, entered its decisions in accordance with its opinion filed August 18, 1967, and the agreed computations of tax liability filed by the parties pursuant to the opinion filed October 26, 1962. Petitioners on January 8, 1968, filed in the U.S. Court of Appeals for the Ninth Circuit a petition for review of our decisions entered December 12, 1967. On March 26, 1969, the Court of Appeals entered an order for remand in this case which, insofar as here pertinent, stated:The cases are remanded to the United States Tax Court with the suggestion it vacate its findings of fact, opinion and decision and permit either party to offer in evidence any written1969 U.S. Tax Ct. LEXIS 108">112 or other appropriate evidence concerning the nature of the bank account or accounts in the First National Bank of Arizona at Eloy on which were drawn the two checks for $ 7,500 each (mentioned in our opinion, 352 [sic] F. 2d 452 at 453). Thereafter, new findings, opinion and decision should be entered.On April 21, 1969, pursuant to this remand the cause was calendared to receive such further evidence as the parties desired to submit. The trial was held on May 12, 1969, at which time petitioners offered the testimony of two witnesses and one documentary exhibit in evidence.52 T.C. 484">486 In our Findings of Fact and Opinion filed October 26, 1962 (39 T.C. 231">39 T.C. 231), all the stipulated facts were found as stipulated and some of those facts, as well as facts based upon the testimony and documentary evidence received at the trial, were set forth. In our additional findings of fact and opinion, we referred to our original findings of fact and found additional facts from the evidence which had been introduced at the trial held on November 9, 1966, pursuant to remand. In accordance with the suggestion that we vacate our findings of fact, opinion, and decisions and the1969 U.S. Tax Ct. LEXIS 108">113 direction that "Thereafter new findings, opinion and decision should be entered," contained in the order for remand of the Ninth Circuit, dated March 26, 1969, we hereby vacate our findings of fact and opinion reported at 39 T.C. 231">39 T.C. 231 and our additional findings of fact and opinion reported at 48 T.C. 718">48 T.C. 718 and also hereby reinstate both our previous findings of fact and opinions as part of this present findings of fact and opinion, since in our view the facts found in each of those opinions are pertinent to the issue here involved and are correctly found and since in our view each of those opinions correctly states the law with which it deals. We will confine this opinion to the additional findings we deem pertinent based on the evidence received pursuant to remand on May 12, 1969, and to the discussion of the bearing of these facts on the issue here involved. By separate order we will vacate our decisions entered December 12, 1967, and will enter decisions in accordance with this opinion, incorporating as heretofore set forth our two prior opinions and further discussing the issue in the light of the new evidence received.ADDITIONAL1969 U.S. Tax Ct. LEXIS 108">114 FINDINGS OF FACTThe commercial account of petitioners on which were drawn two checks dated August 26, 1955, in the amount of $ 7,500, issued in payment for the shares of common stock of Rancho Tierra Prieta, was opened on September 22, 1949, with the Eloy Branch of the First National Bank of Arizona, Phoenix. This account was maintained by petitioners from the date it was opened throughout the years here pertinent under the number 83-06036. The only document in the records of the Eloy Branch of the First National Bank of Arizona, Phoenix, as to the agreement between the bank and petitioners with respect to this account is a card approximately 3 by 5 inches, on one side of which appears the following (for identification printed matter on the card is placed in all capital letters, typewritten matter is in initial capital letters, and handwritten matter is underscored):52 T.C. 484">487 [EDITOR'S NOTE: TEXT WITHIN THESE SYMBOLS [O> <O] IS OVERSTRUCK IN THE SOURCE.]ADDRESS[O> Box 844 <O]Box 938 -- EloyTELEPHONE7393BUSINESS OROCCUPATIONFarmerHousewifeBIRTHPLACESouth Dak.Ala.INTRODUCED BYKnownKnownREMARKSFarmer in This Area for Many Years.Business1969 U.S. Tax Ct. LEXIS 108">115 Accounts & Savings AccountsThis OfficeOPENED BYResDATE 9-22-49AMOUNT 1000.00ACCT.AVER.CLOSEDBAL. $REASONTEL. 102 REV.-6-49-10M -- SIGNATURE CARD: JOINT TENANTSOR JOINT TENANTS TRUSTEE ACCOUNT 41.82 Took CashMcGREW PRINTERYThe other side of this card is in printing, except that "Mr. or Mrs. John Nutt 83-06036" at the very top of the card is typewritten, and the two starred notations, "courtesy card holder" and "courtesy card" appearing at the top and at the side of the card, the signatures, "John F. Nutt," "Eileen M. Nutt," and "Mrs. John F. Nutt," and the notation "(Deceased -- 1-5-66)" are in handwriting:Mr. or Mrs. John Nutt 83-06036 Courtesy card holder The undersigned depositors agree as follows with FIRST NATIONAL BANK OF ARIZONA, PHOENIX.(1) That this account is to be carried by said bank as a COMMERCIAL [O> SAVINGS <O] account and all funds which the undersigned depositors have or may have on deposit therein with said bank shall be governed by the rules and regulations of this bank, all future amendments thereof, and all regulations passed or hereafter to be passed by the bank relating to deposits, withdrawals, interest, service1969 U.S. Tax Ct. LEXIS 108">116 charges, etc. We each acknowledge that we have read and we hereby agree to the provisions governing all items received by the bank for deposit or collection which are printed in our pass book or on the official deposit receipt issued by this bank, or on the deposit slip furnished by this bank, whichever is applicable.(2) That all funds now to the credit of or which may hereafter be placed to the credit of this account are and shall be the property of the undersigned as JOINT TENANTS to be withdrawn as follows: upon the request or order of both or either of us; and also that upon the death of either of us, the survivor shall have the absolute right to withdraw or be paid all moneys then remaining to our credit in said account, and the receipt of either of us or the survivor of us and payment thereof shall discharge said bank from liability to either of our heirs, executors or administrators. It is understood, however, that no checks drawn on this account by the survivor will be honored, nor will this account or the proceeds thereof be transferred or delivered to the survivor or any other person or persons, without the written consent thereto of the Estate Tax Commissioner of Arizona, 1969 U.S. Tax Ct. LEXIS 108">117 or his duly authorized representative as required by law.52 T.C. 484">488 (3) YOU ARE ALSO HEREBY AUTHORIZED TO ACCEPT THE ENDORSEMENT OF EITHER OF US FOR THE OTHER OF US ON CHECKS PAYABLE TO BOTH OF US OR TO THE OTHER OF US FOR DEPOSIT TO THIS ACCOUNT.Signed John F. Nutt (Deceased -- 1-5-66) 1Signed Eileen M. Nutt 2Mrs. John F. Nutt Courtesy card.The signatures of John F. Nutt, Eileen M. Nutt, and Mrs. John F. Nutt appearing on this signature card are the signatures of petitioners.OPINIONAs we understand the order of the Ninth Circuit remanding this case to us, we were to receive such further evidence as either party desired to present with respect to the nature of petitioners' account in the Eloy branch of the First National Bank of Arizona, Phoenix, and on the basis of this evidence and the other evidence of record in this case determine whether the funds in this bank account were community property of petitioners under Arizona law. Since we are directed after receiving evidence as to the nature of the account to enter "new findings, opinion, and decision," we consider that we are directed to determine how our conclusion as to the nature of the bank account affects the issue1969 U.S. Tax Ct. LEXIS 108">118 of whether petitioners' stock in Rancho Tierra Prieta was community property. 21969 U.S. Tax Ct. LEXIS 108">119 The agreement of petitioners with the First National Bank of Arizona was that petitioners as depositors agreed with the bank that all funds to the credit of account No. XX-X6036, or which thereafter might be placed to the credit of the account, are and shall be their property 52 T.C. 484">489 as "joint tenants." There followed the provision which we have quoted in our findings as to how the funds were to be withdrawn. There is no evidence to show that there existed between petitioners a similar agreement as to the nature of the funds and much evidence tending to show that there did not exist between them an agreement that the funds were held by them as "joint tenants" and not as community property. The evidence in this case which we have set forth in detail in our findings reported at 39 T.C. 231">39 T.C. 231 and 48 T.C. 718">48 T.C. 718 shows that petitioners considered all of their property to be community property, that they never had an agreement between themselves that any property was other than community property and that all the funds that went into their bank account No. XX-X6036 were community property. Unless the agreement of petitioners with the1969 U.S. Tax Ct. LEXIS 108">120 bank that all the funds in account No. XX-X6036 are and shall be their property as joint tenants is conclusive as to the nature of those funds, the evidence here shows that the funds in that bank account were community property of petitioners. The evidence not only shows that between themselves petitioners considered the funds in account No. XX-X6036 to be community property but also shows that these funds were used as community property. The evidence shows that petitioners used the funds in that account to pay community obligations. Their household expenses as well as the expenses of their farming operations were paid from this account. The evidence shows that petitioners considered the stock purchased with the two $ 7,500 checks drawn on this account to be community property and so treated it.The only Arizona case to which our attention has been directed or which we have found dealing with the nature of funds in a joint bank account is Jacobs v. Jacobs, 3 Ariz. App. 436">3 Ariz. App. 436, 415 P.2d 151 (1966). That case involved an issue of whether certain patented mining claims which had been purchased in 1945 with funds taken by a husband from1969 U.S. Tax Ct. LEXIS 108">121 a joint account with his wife were his separate property or were community property of the husband and wife. One of the parties to the action contended that since the funds to purchase the mining claims came from a "joint account" these funds were the husband's separate funds and therefore the mining claims were also his separate property. The court held the mining claims to be community property. The court stated in part (415 P. 2d at 154):The money was originally community funds earned during the marriage of Caroline and Edward Jacobs, and later placed in a joint account. Plaintiffs contend that when the community funds were placed in the joint account they lost their community character and that real property purchased from the joint account by either became the sole and separate property of the one taking it in his own name. Defendants take the position that community funds placed in a joint account for the convenience of the husband and wife do not lose their community property character unless the result is clearly intended, citing In re 52 T.C. 484">490 Baldwin's Estate, 50 Ariz. 265">50 Ariz. 265, 71 P.2d 791 (1937);1969 U.S. Tax Ct. LEXIS 108">122 Evans v. Evans, 79 Ariz. 284">79 Ariz. 284, 288 P.2d 775 (1955), as authority.The evidence is clear that Arthur Jacobs purchased the land with funds earned by Edward Jacobs during his marriage to Caroline Jacobs. Edward testified that he intended to hold the land as community property, and that he considered the funds in the joint account as community funds. Property acquired subsequent to marriage, except through gift, devise or descent, is presumed to be community property unless shown to be otherwise by clear and satisfactory evidence. 79 Ariz. 284">Evans v. Evans, supra; A.R.S. § 25-211.The facts in 3 Ariz. App. 436">Jacobs v. Jacobs, supra, do not show the nature of the agreement the Jacobs signed with the bank when they established their joint account. However, section 6-267, Ariz. Rev. Stat. Ann. (1956), provides:Sec. 6-267. Bank deposits in two or more names; payment to survivor; estate taxA. Bank deposits may be made in the name of two or more persons, including minors, payable to either or any of them, or payable to either or any of the survivors or the sole survivor, and 1969 U.S. Tax Ct. LEXIS 108">123 the deposits or any part thereof and any interest thereon, may be paid to or on order of any of the persons whether the other or others are living or not. The receipt, order or acquittance of the persons so paid is valid and sufficient release and discharge to the bank for any payments so made. The term "deposits" includes certificates of deposit.That section of the Arizona Code was amended to read as set forth above in 1951. From 1928 until the amendment in 1951 this section provided as follows:Whenever a husband and wife open a joint account with any bank, and either one dies, such bank shall pay to the survivor the amount standing to their joint credit, and upon making such payment such bank shall be released from all further liability for such amount.Therefore, under the provisions of Arizona law the bank was protected upon payment to either of the parties to this joint bank account or to the survivor. In substance the agreement of petitioners in the instant case with the First National Bank of Arizona, Phoenix, was that the bank would be discharged from any liability to petitioners, their heirs, executors, or administrators upon payment of funds from their joint account1969 U.S. Tax Ct. LEXIS 108">124 upon the order of either of them or the survivor. It would therefore appear that there was in substance no difference in the rights of the parties or the bank with respect to the joint account of the Jacobs involved in 3 Ariz. App. 436">Jacobs v. Jacobs, supra, and the joint account of petitioners in the instant case.The only other case discussing the Arizona law of community property in connection with bank accounts held in joint tenancy which we have been able to find is Greenwood v. Commissioner, 134 F.2d 915 (C.A. 9, 1943), affirming 46 B.T.A. 832">46 B.T.A. 832 (1942). The issue in Greenwood v. Commissioner, was whether separate property of Charles H. Greenwood, deceased, which he had placed in a safe-deposit box at a bank and in bank accounts in Arizona when he and his wife moved to 52 T.C. 484">491 Arizona from New York upon his retirement, was transmuted into community property. The issue arose in an appeal from the Commissioner's determination that the entire value of the property was includable in the estate of Charles H. Greenwood for estate tax purposes. The parties agreed that if the 1969 U.S. Tax Ct. LEXIS 108">125 property was held by Charles H. Greenwood and his wife as joint tenants, the entire value of the property was includable in his gross estate but if the property were community property of Charles H. Greenwood and his wife, only one-half of the value thereof would be includable in his gross estate for estate tax purposes. The safe-deposit box had been rented by the decedent and his wife under a rental agreement which they both signed which contained the declaration that, "We, * * declare and represent that we own as joint tenants, with the right of survivorship, all of the property * * * now within said box * * ." The two bank accounts were joint accounts, one in the name of the decedent or his wife, and the other in the name of decedent or his wife, "Either or Survivor of Either."The facts in Greenwood v. Commissioner, supra, do not show in detail the agreement which the husband and wife signed with the bank with respect to the two bank accounts. The court in the Greenwood case concluded that the taxpayer upon whom rested the burden to show error in respondent's determination that the property in the bank accounts and in the safe-deposit1969 U.S. Tax Ct. LEXIS 108">126 box was held by the decedent and his wife as joint tenants had failed to establish such error. The court pointed out that the nature of the property in the bank accounts must be determined under the law of Arizona and that that State had adopted very liberal rules regarding the right of a husband and wife to deal with each other. It was also pointed out that under the law of Arizona the separate property of the husband and wife might be transmuted into community property where the spouses have treated the income from their separate property as community property, and it was their intent that it should be community property. The court in Greenwood v. Commissioner, stated that there were very few Arizona cases bearing on the question of the transmutation of separate property into community property but that the Arizona statutes dealing with community property were more nearly analogous to those of the State of Washington than to those of any other State. Under the law of the State of Washington property owned by spouses separately or jointly may be changed into community property by agreement between them. The court further pointed out that it had been held in Washington1969 U.S. Tax Ct. LEXIS 108">127 cases that such an agreement must be established by positive and direct evidence. After discussing the facts of the case at issue and the law of Arizona, Washington, and California with respect 52 T.C. 484">492 to the transmutation of separate property of a spouse into community property, the court stated (134 F. 2d at 921):The rental agreement for the safe deposit box and the signature cards for the bank accounts, in addition to establishing contractual relations with the bank, represent contracts between the decedent and his wife. In the absence of clear and convincing evidence that the parties had a contrary intent those instruments must be permitted to speak for themselves, especially in a case where a public official has relied upon them in acting to determine and protect the revenue interests of the Government.We conclude that the clear inference from Greenwood v. Commissioner, supra, is that the fact that property is held by a husband and wife in joint tenancy with the right of survivorship in a safe-deposit box or bank account is not conclusive that the property is their property as joint tenants as distinguished from1969 U.S. Tax Ct. LEXIS 108">128 their community property. We further gather that this is true even where the agreement signed by the husband and wife contained a specific representation or declaration that the property was owned by them as joint tenants, which declaration on its face would appear to constitute a contract between the husband and wife. As we have heretofore pointed out, the agreement between the petitioners in the instant case and the First National Bank of Arizona, Phoenix, did not contain a declaration as to the nature of the ownership of the account in the same specific terms as did the agreement involved in Greenwood v. Commissioner, supra. The agreement in the instant case between the petitioners and the bank stated that the "undersigned depositors agree" with the First National Bank of Arizona, Phoenix, that "all funds now to the credit of or which may hereafter be placed to the credit of this account are and shall be the property of the undersigned as Joint Tenants to be withdrawn as follows." This was followed by the agreement as to withdrawals by either party or the survivor of either. There is no positive declaration as between the two that the property1969 U.S. Tax Ct. LEXIS 108">129 is their joint property.Although no Arizona cases discussing agreements such as the one signed by the parties in the instant case have been called to our attention, petitioners cite and rely upon the case of In re Ivers' Estate, 4 Wash. 2d 477, 104 P.2d 467 (1940). That case involved a suit by the daughters of a deceased man against decedent's widow to have her replace in decedent's estate one-half of the funds which had been in a joint account with right of survivorship of decedent and his wife at the date of decedent's death. The daughters contended that the funds in the bank account were community property when placed in the bank account and retained their character as community property even though placed in the joint account of decedent and his wife. The court pointed out that the widow contended that irrespective of the nature of the property in the bank account, whether separate or community, 52 T.C. 484">493 when she withdrew the property after her husband's death it became her separate property. The court refused to determine the broad question raised by the widow in her contention and stated that this contention would be eliminated1969 U.S. Tax Ct. LEXIS 108">130 from consideration since "in cases where funds deposited belong exclusively to one of the parties named as depositors, serious questions may often arise involving not only the form of the deposit and the relationship of the parties, but also the intention of the persons concerned, the theory upon which the right of survivorship is asserted, and the force of certain presumptions upon which reliance is placed." The court rather chose to proceed upon the original community character of the funds deposited in the account and on that assumption held that such funds might be placed in join ownership under the laws of the State of Washington and where this was done that the intention of the parties is the controlling consideration in determining whether or not a joint tenancy with the element of survivorship has been created by contract. The court stated that the parties could transmute community property into property held in joint tenancy with the right of survivorship if that were their intention and proceeded to decide on the basis of the facts there involved whether such intention was shown. On the facts there present, the court concluded that the property was held in joint tenancy1969 U.S. Tax Ct. LEXIS 108">131 with right of survivorship so that the wife did have the right to retain the funds on deposit after her husband's death.In Munson v. Haye, 29 Wash. 733">29 Wash. 733, 189 P.2d 464 (1948), it was held that funds withdrawn from a joint account held by a husband and wife with right of survivorship in a savings and loan association during the lifetime of both remained community funds where there was no clear evidence that the parties intended by placing the funds in such account to change their character from community funds to funds held as joint tenants. In this case the court stated (189 P. 2d at 469-470), in distinguishing In re Ivers' Estate:We agree with the New York courts that, when a deposit is made in the form prescribed by such a statute as Rem. Rev. Stat. § 3348(3), a presumption arises that the interest of the depositors is that of joint tenants. And, on the authority of Nelson v. Olympia Federal Sav. & Loan Ass'n, 193 Wash. 222, 74 P.2d 1019, it might be said that a similar presumption arose when two or more persons jointly became members in a1969 U.S. Tax Ct. LEXIS 108">132 savings and loan association under Rem. Rev. Stat. (Sup.) § 3717-41. (Both Nelson v. Olympia Federal Sav. & Loan Ass'n, supra, and In re Ivers' Estate, 4 Wash 2d 477, 104 P.2d 467, relied upon by appellant, deal with the right of survivorship. We are here concerned with the right of one member of a marital community to deprive the other of all right or interest in all or part of the deposit while they are both alive.)The court held that the presumption that the husband and wife were joint tenants was met and destroyed when it was shown that the funds deposited in the account were community property and that evidence that was clear, certain, and convincing was required 52 T.C. 484">494 to establish that the husband and wife intended to change the status of their community property by giving to either the right to appropriate all or any part of the account to his or her own use and to divest the other of all interest in the part so appropriated. The court in discussing the nature of community property which is placed in a joint account of husband and wife and is withdrawn during the lifetime of both, made1969 U.S. Tax Ct. LEXIS 108">133 the following comments (189 P.2d 467">189 P.2d 467-469):Respondents urge upon us a position which, if adopted, would mean that every joint and several account with a right of survivorship opened by a husband and wife, and every dollar thereafter deposited therein, would ipso facto cease to be community property. It would become their property as joint tenants, with either having the right to do as he or she pleased with all or any part thereof so long as they both lived, and with the surviving spouse becoming the sole owner of the account and entitled to any balance therein. We do not have involved in this case the question of the rights of a survivor, and the right of survivorship is referred to only because of its relationship to the joint tenancy status which respondents would substitute for the rights of members of the marital community.* * * It must be remembered that two transactions are involved in the formation of any account involving more than one depositor; the transaction between the named depositors, and the transaction between the bank and the depositors. Depositors usually sign an agreement with the bank covering the terms on which1969 U.S. Tax Ct. LEXIS 108">134 withdrawals may be made, and statutory provisions enacted for the protection of the bank frequently become a part of that agreement. Such an agreement with a bank does not necessarily have any bearing upon the transaction or agreement between the depositors themselves. What that transaction may be is a matter of intent or agreement between the depositors. In re Porianda's Estate, 256 N.Y. 423">256 N.Y. 423, 176 N.E. 826">176 N.E. 826; People's Sav. Bank in Providence v. Rynn, 57 R.I. 411">57 R.I. 411, 190 A. 440">190 A. 440; Buckley v. Buckley, 301 Mass. 530">301 Mass. 530, 17 N.E.2d 887; O'Brien v. Biegger, 233 Iowa 1179">233 Iowa 1179, 11 N.W.2d 412; 5 Michie on Banks and Banking 99, § 46.We conclude that under Arizona law an agreement between a bank and a husband and wife who are opening a joint account with rights of survivorship is evidentiary only and not conclusive as to the nature of the funds in that account. In United States v. Pierotti, 154 F.2d 758 (C.A. 9, 1946), the court held that land held in joint tenancy in California by a decedent and his1969 U.S. Tax Ct. LEXIS 108">135 wife was community property and should be so treated in determining the estate tax liability of the husband. The Government had included the entire value of the property in the husband's gross estate on the theory that it was joint tenancy property and the taxpayer contended that even though held in joint tenancy, the property was community property. The court concluded that although the husband and wife held the property as joint tenants, under the California law which governed the determination of decedent's gross estate, parol evidence was admissible to establish that the property was intended to be community property.On the basis of the evidence present in that case the court concluded that it was the intent of the spouses that the property be community 52 T.C. 484">495 property and that the fact that they "considered and treated all their property, including that held in joint tenancy, as community property is amply supported by the evidence." See also Griffith, "Joint Tenancy & Community Property," 37 Wash. L. Rev. 30">37 Wash. L. Rev. 30 (1961), and Griffith, "Community Property in Joint Tenancy Form," 14 Stanford L. Rev. 87 (1961-1962).From all1969 U.S. Tax Ct. LEXIS 108">136 the evidence of record in this case we conclude that the funds held by petitioners in the Eloy Branch of the First National Bank of Arizona, Phoenix, on which the two checks for $ 7,500 each were drawn to pay for stock in Rancho Tierra Prieta were at all times here pertinent the community property of the two petitioners. We likewise conclude on the basis of all the evidence that the stock held in the name of petitioner Eileen M. Nutt and that held in the name of petitioner John F. Nutt in Rancho Tierra Prieta was the community property of John F. Nutt and Eileen M. Nutt and that the management of this property during the lifetime of both was in the petitioner-husband, John F. Nutt.We have not discussed in this Opinion whether the stock held by petitioners in Rancho Tierra Prieta would be their community property even if the community property placed in their joint bank account upon which the checks to purchase the stock were drawn should be considered to have been transmuted into property held in joint tenancy. It was not necessary to reach this issue since we have determined that the funds in this bank account remained their community property. However, it might be noted that1969 U.S. Tax Ct. LEXIS 108">137 the intent of the parties with respect to the nature of their ownership of the stock and their treatment of the income therefrom would govern the determination of whether the stock, if it had been acquired with funds which were not community property, had been transmuted into community property. See Greenwood v. Commissioner, supra.Based on our holding herein, we will issue an order vacating our decisions entered in this case on December 12, 1967, and will enter decisions in all material respects comparable to those decisions which are in substance the same as the decisions originally entered on April 18, 1963. Footnotes1. John F. Nutt died on Jan. 5, 1966, and the caption of docket No. 77669 has accordingly been changed to "Estate of John F. Nutt, Deceased, Eileen M. Nutt and Frances D. Nutt, Executrixes, Petitioner v. Commissioner of Internal Revenue, Respondent." However, to conform this opinion with the prior opinions in this case reported at 39 T.C. 231">39 T.C. 231 and 48 T.C. 718">48 T.C. 718↩, we will continue to refer to petitioners as John F. Nutt and Eileen M. Nutt.2. In our original opinion we held that under sec. 1231, I.R.C. 1954, petitioners were not entitled to capital gain on receipts from sales of growing crops on land sold to Rancho Tierra Prieta since they retained the right indirectly to reacquire the land sold to that corporation within the meaning of sec. 1.1231-1(f), Income Tax Regs., which provides, so far as here pertinent, as follows:Unharvested crops. Section 1231 does not apply to a sale, exchange, or involuntary conversion of an unharvested crop if the taxpayer retains any right or option to reacquire the land the crop is on, directly or indirectly (other than a right customarily incident to a mortgage or other security transaction). The length of time for which the crop, as distinguished from the land, is held is immaterial. A leasehold or estate for years is not "land" for the purpose of section 1231.We based our holding in part on certain dealings of petitioner John F. Nutt with the corporation which showed his dominion and control over the corporation. The case was first remanded to us for our determination of whether the stock held by petitioners in Rancho Tierra Prieta was community property and if so the rights of John F. Nutt, the husband-petitioner, with respect to the stock. We determined that the stock was community property and that John F. Nutt, the husband, had the right of management of the stock including the right to direct how it should be voted. We interpret the second remand as requiring us first to decide whether the nature of the bank account affects the issue of whether petitioners' stock in Rancho Tierra Prieta was community property. If we determine in the light of the new evidence that the funds in the bank account were community property and do not change our conclusion as to the stock being community property, we do not understand that we are directed to reconsider our conclusion as to the control John F. Nutt as the husband of the community had over that stock.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621875/	WILLIAM H. HOTCHKISS ESTATE, MARY B. HOTCHKISS, ELEANOR H. POTTER ESTATE, RODERICK POTTER, MARGARET H. STREIT, AND RAYMOND E. STREIT, PETITIONERS, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Hotchkiss v. CommissionerDocket Nos. 16101, 17510-17512, 17862, 23722-23725.United States Board of Tax Appeals16 B.T.A. 1334; 1929 BTA LEXIS 2402; July 16, 1929, Promulgated 2402 1. Gain realized by an estate upon the sale of securities is taxable to it where there is no provision directing the distribution thereof. 2. A loss sustained by the estate in the sale of securities is not allowable to the individual beneficiaries of the estate. Carl H. Smith, Esq., for the petitioner. A. H. Morris, Esq., for the respondent. MORRIS1334 These proceedings, which were consolidated for hearing and decision, are for the redetermination of deficiencies in income taxes for the calendar years 1921, 1922, and 1923, in the amounts hereinbelow set forth: 192119221923William H. Hotchkiss Estate$173.74$278.04Mary B. Hotchkiss$2,013.62177.9957.96Eleanor H. Potter Estate1,101.1572.6373.12Roderick Potter561.435.43752.69Margaret H. Streit1,061.00Raymond E. Streit545.25The errors alleged to have been committed by the respondent in these various proceedings are: 1. In his determination that $5,171.75 and $7,452.44 of the net income of the estate of William H. Hotchkiss for the years 1922 and 1923, respectively, representing profit on the sale of stock, was taxable2403 to the petitioner as executor of said estate. 2. His action in allowing a loss to the estate on the sale of securities for the year 1921 amounting to $12,515.24 and disallowing any apportionment of said loss to the beneficiaries of the estate. 3. His incorrect determination of the net income of the estate distributable to certain beneficiaries, and the distributive share of each of said beneficiaries, in the following particulars: (a) He incorrectly disallowed legal expenses of $1,950 and repairs of $5,105.02 in the computation of the estate's net income for 1921, and (b) He determined the net income of said estate for the year 1922 to be $73,005.96, and in doing so he eroneously disallowed as a deduction in the computation of net income certain legal fees paid by the petitioner, amounting to $2,855.75, and 1335 (c) He, having erroneously taxed to the executor for the years 1922 and 1923 net profit from the sale of stocks referred to in allegations of error numbered 1 and 2, has thereby in respect to those items of profit incorrectly computed the amount of net income distributable to each of the beneficiaries of said estate, and (d) He, having determined the2404 net income of the estate for the year 1923 to be $73,768.80, erred in the disallowance of certain repairs in the amount of $16,385.09 to real estate from which rentals are derived by said estate and of certain legal fees amounting to $310. FINDINGS OF FACT. William H. Hotchkiss died November 30, 1918, leaving the following last will and testament and letters testamentary were issued December 10, 1918: FIRST: I direct that my just debts and funeral expenses and the expenses connected with the administration of my estate, including the payment of any and all transfer or succession taxes be settled and discharged out of my estate. SECOND: I give, devise and bequeath to my wife, MARY B. HOTCHKISS, the dwelling house and lot known as No. 173 Summer Street, Buffalo, New York, free from all mortgage or other liens or incumbrances, together with the contents of said dwelling house, of every name and nature; also any automobiles which I may own at the time of my death. THIRD: All the rest, residue and remainder of my estate, I direct my Executors hereinafter named to divide into eighteen equal parts: (a) Six of said parts, I give, devise and bequeath to my wife, MARY B. HOTCHKISS, 2405 to have and to hold the same absolutely and forever. These provisions in my said will for the benefit of my wife, MARY B. HOTCHKISS, if accepted by her, shall be in lieu of dower in my said estate. (b) Four of said parts, I give, devise and bequeath to my daughter, ELEANOR H. POTTER, to have and to hold the same absolutely and forever. (c) Four of said parts, I give, devise and bequeath to my daughter, MARGARET H. STREIT, to have and to hold the same absolutely and forever. (d) Two of said parts I give, devise and bequeath to my son-in-law, RODERICK POTTER, to have and to hold the same absolutely and forever. In case of the death of said RODERICK POTTER prior to my death, I direct that the bequest herein made to him shall at my death pass to and vest absolutely in, and I give, devise and bequeath the same to the children of said RODERICK POTTER living at the time of my death, in equal shares. (e) Two of said parts I give, devise and bequeath to my son-in-law, RAYMOND E. STREIT, to have and to hold the same absolutely and forever. In case of the death of said RAYMOND E. STREIT prior to my death, I direct that the bequest herein made to him shall at my death pass to and2406 vest absolutely in, and I give devise and bequeath the same to the children of said RAYMOND E. STREIT living at the time of my death, in equal shares. FOURTH: I nominate and appoint my son-in-law RODERICK POTTER, and my son-in-law, RAYMOND E. STREIT, Executors of this my last will and testament, giving and granting to said Executors full power and authority to sell and convey any and all real estate of which I may die seized or possessed, at such price and upon such terms as to them may seem proper. I further given and grant to my said Executors full power and authority to compromise and settle any claims in favor of or against my estate, in such 1336 manner as to them may seem best; to hold existing investments of any character and to make and change investments at will; to purchase real or personal property; to make, execute and deliver mortgages or leases of or upon any or all of my said property, and to borrow money and incur indebtedness upon the faith and credit of my said estate, whenever, in their judgment, the best interests of my said estate shall demand the same, and generally to manage my said estate for its best interests in their judgment, to the same estent2407 as I might were it not for the intervention of death. FIFTH: Should either of the Executors above named fail to qualify or be unable to act, or should either die before the administration of my estate shall be fully completed, I nominate and appoint CARL H. SMITH, of Buffalo, New York, in the place and stead of the one so failing to qualify, or unable to act, or the one so dying, as the case may be, giving and granting to said substitute Executor all the power and authority relative to the management of my said estate which I have herein granted to those first nominated as Executors, or either of them. SIXTH: I expressly direct that the several bequests herein made to my Executors, RODERICK POTTER and RAYMOND E. STREIT, shall be in full of and in lieu of all commissions to which they or either of them shall be entitled by law for their services as such Executors as aforesaid. * * All of the debts of the decedent owing at his death (exclusive of indebtedness on realty or Federal income taxes in excess of the amounts originally assessed) were fully paid and discharged within one year from the issuance of the letters above set forth, and all obligations of said estate incurred2408 in the operation thereof since said date have been paid and discharged within the year in which contracted. Roderick Potter, as executor of the estate of William H. Hotchkiss, filed a fiduciary return of income for the calendar year 1921 on Form 1041, showing therein gross income less losses of $130,163.65 and net income of $100,774.64 and the shares of the following beneficiaries of the estate to be the amounts set opposite their respective names: Beneficial interestDividendsOther incomeMary B. Hotchkiss3/9$13,818.68$19,772.88Estate of Eleanor H. Potter2/99,212.4413,181.92Roderick Potter1/94,606.226,590.96Margaret H. Streit2/99,212.4413,181.92Raymond E. Streit1/94,606.226,590.96In computing its net income the following deductions were claimed: Loss on sale of stocks and bonds$12,515.24Interest paid1,491.95Taxes paid2,788.05Sales commissions11,893.00Administration expenses13,216.01Total41,904.251337 The said Potter as executor of the estate aforesaid filed a fiduciary return of income on Form 1041 for the calendar year 1922, showing therein gross income of $68,880.082409 and net income of $43,606.21, distributable to the beneficiaries in the following manner: PercentageCapital DividendsOther incomeage of net gainattributableattributablebeneficialable to 1922to 1922interest(losses)Per centMary B. Hotchkiss33 1/3$7,109.00$16,413.00$1,878.27Estate Eleanor H. Potter22 2/94,740.0010,942.001,252.17Roderick Potter11 1/92,369.005,472.00626.09Margaret H. Streit22 2/94,740.0010,942.001,252.17Raymond E. Streit11 1/92,369.005.472.00626.09In computing the net income in said 1922 return the following deductions were claimed: Interest paid$1,690.78Taxes paid8,571.23Administration expenses15,011.86Total25,273.87The said Potter as executor of the estate aforesaid filed a fiduciary return of income on Form 1041, for the calendar year 1923, showing therein gross income of $93,427.37 and net income of $63,677.85, distributable as follows: Percentage ofDividendsOther incomebeneficial interestPer centMary B. Hotchkiss33 1/3$17,259.84$3,966.11Estate Eleanor H. Potter22 2/911,506.552,644.08Roderick Potter11 1/95,753.281,322.44Margaret H. Streit22 2/911,506.552,644.88Raymond E. Streit11 1/95,753.281,322.04Total51,779.5011,898.352410 The following deductions were claimed in the computation of the net income for 1923: Interest paid$1,879.00Taxes paid8,166.40Administration expenses19,704.1229,749.52The estate of William H. Hotchkiss filed no returns of Form 1040 nor 1040-A for the years 1921, 1922, and 1923, and paid no tax as such. 1338 In addition to the other facts hereinabove found, the parties stipulated further: That attorney's fees for the years 1921, 1922 and 1923, amounting to a total of $5,115.75, appearing as disbursements upon the reports of the estate of William H. Hotchkiss for the years named, as follows, viz: 1921$1,950.0019222,855.761923310.005,115.75heretofore entirely disallowed, be and the same hereby are allowed in full as proper operating expense deductions on the estate reports for the years named. That estate report "Repairs" for the year 1921, involving the sum of $5,105.02, less $155.15 allowable as a depreciation, and "Repairs" for the year 1923, involving the sum of $16,385.09, heretofore totally disallowed, amounting to the aggregate sum of $21,334.96, all heretofore claimed as capital improvements by2411 the respondent, are hereby allocated as follows: For the year 1921 - Repairs$3,446.75Capital improvements1,403.12For the year 1923 - Repairs$6,015.24Capital improvements10,369.85The estate of William Hotchkiss derived profits of $5,171.75 in 1922 and $7,452.44 in 1923 for the sale of stock, which the respondent taxed to said estate in those years. OPINION. MORRIS: Briefly stated, the sole question remaining for consideration after all others have been stipulated and agreed to by the parties, is whether certain profits are taxable to and certain losses deductible by the estate of William H. Hotchkiss, or whether said profits are taxable to and the losses deductible by the individual beneficiaries. The position taken by the petitioners is that the profits should not have been taxed to the estate, but to each of the several beneficiaries, and that the losses should not be attributed to the estate as a taxable entity but should be apportioned among said beneficiaries. Section 219 of the Revenue Act of 1921, in so far as applicable here, provides: (a) That the tax imposed by sections 210 and 211 shall apply to the income of estates or of any2412 kind of property held in trust, including - (1) Income received by estates of deceased persons during the period of administration or settlement of the estate; (2) Income accumulated in trust for the benefit of unborn or unascertained persons or persons with contingent interests: 1339 (3) Income held for future distribution under the terms of the will or trust; and (4) Income which is to be distributed to the beneficiaries periodically, whether or not at regular intervals, and the income collected by a guardian of an infant to be held or distributed as the court may direct. (b) The fiduciary shall be responsible for making the return of income for the estate or trust for which he acts. The net income of the estate or trust shall be computed in the same manner and on the same basis as provided in section 212, except that (in lieu of the deduction authorized by paragraph (11) of subdivision (a) of section 214) there shall also be allowed as a deduction, without limitation, any part of the gross income which, pursuant to the terms of the will or deed creating the trust, is during the taxable year paid or permanently set aside for the purposes and in the manner specified2413 in paragraph (11) of subdivision (a) of section 214. * * (c) In cases under paragraph (1), (2), or (3) of subdivision (a) or in any other case within subdivision (a) of this section except paragraph (4) thereof the tax shall be imposed upon the net income of the estate or trust and shall be paid by the fiduciary, except that in determining the net income of the estate of any deceased person during the period of administration or settlement there may be deducted the amount of any income properly paid or credited to any legatee, heir, or other beneficiary. In such cases the estate or trust shall, for the purpose of the normal tax, be allowed the same credits as are allowed to single persons under section 216. (d) In cases under paragraph (4) of subdivision (a) and in the case of any income of an estate during the period of administration or settlement permitted by subdivision (c) to be deducted from the net income upon which tax is to be paid by the fiduciary, the tax shall not be paid by the fiduciary, but there shall be included in computing the net income of each beneficiary that part of the income of the estate or trust for its taxable year which, pursuant to the instrument2414 or order governing the distribution, is distributable to such beneficiary, whether distributed or not * . The will, after providing for the payment of all expenses connected with the administration of the estate and devising a certain dwelling house and automobiles owned by the testator at the time of his death to the widow of the testator, directed the executors to "divide" the residue of the estate into 18 parts - 6 to Mary B. Hotchkiss, 4 to Eleanor H. Potter, 4 to Margaret H. Streit, 2 to Roderick Potter, or to his children in the event that he predeceased the testator, and 2 to Raymond E. Streit, or, in the event he predeceased the testator, then to the children of said Streit. It is clear that the estate here is not governed by subsections (a)(2) and (3) of section 219, supra. The respondent contends that because the will of Hotchkiss empowered the executors to hold existing investments and manage the estate as he, the testator, might have if still alive, and because the petitioners and the respondent have, as he states, treated the income of the estate as distributable periodically, although not at regular intervals, the case falls within subsection (a)(4), supra,2415 that is, that all the income is taxable to the 1340 beneficiaries. We can not agree with this contention. It is true that the instrument creating the estate gave the executors almost unlimited powers and discretion in the management of the estate properties, but there is no direction in the will of the testator for the distribution of income, either periodically or otherwise. The testator's express direction to the executors was that the estate be divided into 18 stated parts, and we construe the word "hold" used by the testator, which the respondent stresses in his argument, to mean during the time necessary to properly conduct the administration and settlement of the estate. It will be noted that the only controversy in connection with income items arises over the sale by the estate in 1922 and 1923 of certain securities. The proposed deficiencies against the estate for those years are based upon those transactions. In view of that fact we are unable to understand the above argument of the respondent and the concluding clause of his brief "that the distributees should be required to include in their incomes for 1922 and 1923 the gains on sales of securities, because2416 distributable to the beneficiaries under the will." We agree, however, with the respondent's action in taxing to the estate the gains derived by it upon the sale of securities. . We are also of the opinion, notwithstanding attempted distinctions by counsel for the petitioners, that the loss on the sale of securities is governed by , and other cases therein cited, and that said loss is not allowable to the beneficiaries. In that case we said: Petitioner contends that she has the right to deduct from her gross income 27 per cent of the capital loss of the estate. It is clear that section 219 imposed a tax upon an estate in the process of administration as a distinct taxable entity, separate and apart from its beneficiaries, and it is further clear that the estate had the right to take such capital loss as a deduction. So far as the deductibility of capital losses is concerned, we can see no distinction with respect to income taxation between an estate in the process of administration and a trust. Both are treated as taxable entities by section 219. *2417 Further, the capital loss of the estate did not arise out of any trade or business carried on by petitioner nor in any transaction entered into by her for profit. (Section 214(a)(1) and (4). This contention must be decided adversely to the petitioner on the authority of , ; ; Baltzell v. Mitchell, supra; and . See also in this connection, and (writ of certiorari denied by the Supreme Court April 8, 1928). Judgment will be entered under Rule 50.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4475211/	Black, Judge-. This proceeding involves deficiencies in excess profits tax for the calendar years 1942 and 1943 in the respective amounts of $39,959.89 and $186,944.91. The deficiencies are due to numerous adjustments to petitioner’s net income. Many of these adjustments are not contested by petitioner. Respondent’s adjustments which result in the major portion of the deficiency- were explained in a statement attached to the deficiency notice as follows: 19 4& (c) In your return for the year 1941, you reported a net loss of $4,990.87. You contend that said net loss should be increased by $75,500.00, for purposes of a carry-over net loss, by excluding that amount from gross income reported in the return. It is held that the amount of $75,500.00 constituted gross income within the meaning of Section 22 (a) of the Internal ■Revenue Code, and, further, that the net loss for 1941, available as a carry-over loss to 1942, is $4,534.04. The net operating loss deduction of $4,373.59 claimed on Item 27 of your 1942 return has, therefore, been increased in the amount of $160.45. 1948 In your Excess Profits Tax Return for the year 1943, in the determination of your excess profits credit based on income, you claimed abnormal deductions in the aggregate amount of $69,464.72 in computing base period net income of $129,768.39 for the year 1939. Abnormal deductions in the amount of $749.84 have been disallowed within the provisions of Section 711 (b) (1) (J) of the Internal Revenue Code. The base period income claimed for 1939 has, therefore, been decreased by $68,714.88 for purposes of the excess profits credit. The petitioner assigns errors as follows: The determination of taxes set forth in said notice of deficiency is based upon the following errors: (a) The inclusion as taxable income, in computing the taxable net income of Petitioner for the calendar year 1941, of a surplus credit of $75,500 arising out of the settlement during that year of an excise tax obligation of Petitioner to the United States of America in the amount of $125,500, for $50,000, with a resultant reduction of $75,500 in the net operating loss carryover from the calendar year 1941 to the calendar year 1942. (b) The inclusion as taxable income, in computing the taxable net income of Petitioner for the calendar year 1941, of a surplus credit of $1,570.83 arising out of the purchase during that year, pursuant to direct negotiations with the holder, for $1,250, of bonds of Petitioner in the face amount of $2,500 on which interest had accrued to the date of purchase in the amount of $320.83, with a resultant reduction of $1,570.83 in the operating loss carryover from the calendar year 1941 to the calendar year 1942. (c) The disallowance as a deduction in computing taxable net income for the calendar year 1942 of depreciation in the amount of $50.24 on furniture and fixtures acquired by Petitioner during that year. (d) The disallowance as deductions in computing taxable net income for the calendar year 1943 of depreciation in the amount of $907.22 on molds and cores acquired during that year, depreciation in the amount of $47.77 on furniture and fixtures acquired during that year and depreciation in the amount of $7.02 on machinery and equipment acquired during that year. (e) The failure to disallow in computing Petitioner’s excess profits tax credit based on income, with, reference to the calendar years 1941, 1942 and 1943, the following "class abnormalities”: (1) Bad debt losses on defalcations in the amount of $30,540.13 in the year 1939. (2) Bad debt losses on accounts receivable taken over from Petitioner’s predecessor corporation in the amount of $8,851.72 in the year 1938, and in the amount of $10,590.45 in the year 1939. (f) Failure to disallow in computing Petitioner’s excess profits tax credit based on income for the calendar years 1941, 1942 and 1943, the following “amount abnormalities”: [[Image here]] (g) Failure to take into account the loss of $1,560.70 for the year 1987 as reducing the income of the first half of the base period, in making the growth formula computation in Exhibit A (page 12) of Respondent’s ninety-day notice (Exhibit A to this Petition). FINDINGS OF FACT IN GENERAL. Most of the facts were stipulated and are so found. The stipulation of facts is incorporated herein by reference. Petitioner is a corporation, incorporated on June 28, 1937, under the laws of the State of Delaware. During the years here involved petitioner’s principal business and accounting offices were located at Warren, Ohio. Petitioner’s books have been kept and its tax returns have been prepared and filed on the accrual basis. Petitioner filed its returns for the calendar years 1941, 1942, and 1943 with the collector of internal revenue for the eighteenth collection district of Ohio, at Cleveland. Petitioner was organized to take over as of October 1, 1937, the assets and business of an Illinois corporation of the same name, subject to certain of its liabilities, pursuant to a revised plan of reorganization under section 77-B of the Bankruptcy Act of the United States, confirmed by an order of the District Court of the United States for the Northern District of Ohio, Eastern Division, dated April 2, 1937. The predecessor corporation was a manufacturer of tires, soles, and material for the recapping trade. It also manufactured molded rubber products for textile loom parts. About 75 to 80 per cent of its business was from the manufacture and sale of tires. Petitioner continued to manufacture approximately the same products after it was formed in 1937. Petitioner took over the assets of its predecessor and assumed most of the latter’s liabilities as a part of the purchase price. The assets taken over by petitioner exceeded the liabilities assumed. Issues (a) and (&). FINDINGS OF FACT. Included among the liabilities assumed was an obligation owed to the United States Government arising out of manufacturers’ excise taxes incurred by the predecessor corporation. Pursuant to the revised plan of reorganization, petitioner executed and delivered to the collector of internal revenue for the eighteenth collection district of Ohio a negotiable promissory note dated July 1,1937, in the principal amount of $144,572.49. This was in payment of the liability for manufacturers’ excise taxes incurred by the predecessor corporation. The note bore interest at the rate of 4 per cent per annum and it matured on April 2,1940. The petitioner delivered to the collector a mortgage deed upon certain of the physical assets of petitioner as security for the note. The lien of this mortgage was junior to one securing bonds in the principal amount of $125,000. The petitioner made payments of principal and interest on the note until April 2, 1940. At that time there was $130,000 remaining unpaid. Petitioner, on April 2, 1940, delivered a second note, in the amount of $130,000, to the collector. This note provided for the payment of $2,000 a month, beginning October 1,1940, and continuing until June 1,1942, and $2,500 per month after such date until the balance of the note should be paid. As collateral security for this note there were delivered to the collector the prior note in the amount of $144,572.49 and the mortgage given in connection with the prior note. Petitioner made payments subsequent to April 2, 1940, in amounts which reduced the principal as of May 23, 1941, to $125,500. Wilson B. McCandless (hereinafter referred to as McCandless), president of the petitioner, on May 8, 1941, wrote a letter to the Reorganization Division, Bureau of Internal Revenue, Washington, D. C., forwarding copies of petitioner’s profit and loss statements and balance sheets for 1940. The letter states, in part, as follows: • You will notice from the Balance Sheet, that the working capital position is very serious. We have quite a large number of past due accounts payable and of course, this adds to our worries and makes it really impossible to maintain the schedule of payments to the Government upon which we agreed. I simply cannot see any way to make these payments during 1941 with our present financial set-up, and frankly, I am at a loss for some alternative suggestion. * ' * * * * * * There is only one tentative suggestion that I have to make now. I believe that by pledging everything under the sun, I can raise .$50,000. in cash, although I am not certain about this. I would be perfectly willing to undertake this, if the Treasury Department would consider a $50,000. cash payment in compromise settlement for the Government’s claim against Denman. The Balance Sheet shows $52,000. in bonds outstanding, and the remainder of the issue of $122,500, owned by the company. We have been forced to pledge these bonds for bank loans, in order to pay the most pressing current creditors, consequently, in case of liquidation, I am afraid the Government’s claim would not be paid in full. In fact, based on my experience in the tire business, the Government would probably realize a fairly small fraction of the indebtedness. For this reason, I think the Government may wish to accept $50,000. compromise settlement now instead of taking a chance on the future. McCandless went to Washington several times during 1941 to discuss with representatives of the Internal Revenue Bureau the financial condition of the petitioner and its inability to make the payments due. He told them that, if payment in full were insisted upon, the Government would have to take over the entire factory. He was told the Government did not want the factory and for petitioner to make an offer of compromise. After discussion, a figure of $62,500 was arrived at as being a fair offer. McCandless was then asked to determine if the money could be raised. McCandless secured a promise to provide the money from financial interests. He then, on May 23, 1941, wrote a second letter to the Treasury Department in which he stated that during the year 1940 petitioner lost about $56,000 and that its working capital was very low. He further said that it did not appear feasible to maintain the present schedule of payments. He concluded in the letter that: “After discussing this matter with financial interests, I wish to submit a firm offer of $62,500.00 in full and final liquidation of the forementioned [sic] obligation.” The Acting Secretary of the Treasury on July 15, 1941, accepted “the offer of $62,500.00 cash, in full and final satisfaction of the two final promissory notes now outstanding if payment was made within thirty days.” After mailing the letter of May 23, 1941, making the firm offer of $62,500, McCandless found that the interests who had promised to advance the money had changed their minds. On August 5, 1941, McCandless requested a 30-day extension of the date of payment. This request was granted in a letter dated August 15, 1941. In a letter dated September 4, 1941, McCandless stated that he was unable to raise the agreed amount of $62,500, although he had canvassed every conceivable source. He stated, however, that he could raise $50,000 through a personal friend and he asked if this amount would be accepted in full payment.' On September 22,1941, McCandless stated that he had received a firm commitment for the $50,000 and he could pay it within 30 days of acceptance of petitioner’s offer. Concurrently with the letters of September 4, 1941, and September 22, 1941, Mc-Candless had further- talks with the same representatives of the Internal Revenue Bureau. He stated that $50,000 was the most that he could raise. They told him to make doubly sure that he could raise that amount. On September 30, 1941, the Acting Secretary of the Treasury accepted the offer to pay $50,000 “in full satisfaction of the outstanding balance due on the notes in the amount of $125,-500.00.” This amount was paid and the collector surrendered to petitioner the notes and mortgage. There is no proof that the value of the assets taken over by petitioner was less at the date of compromise of the indebtedness than at the date of acquisition. Prior to October 17, 1941, Elizabeth H. Paecke was the owner of certain outstanding bonds of petitioner in the face amount of $2,500, on which unpaid interest accrued from January 1,1940, to October 31, 1941, amounted to $320.83. On October 17, 1941, petitioner received from Chicago, Illinois, from Walter P. Paecke, the husband of Elizabeth P. Paecke, a telegram reading as follows: Please wire collect your best bid for two thousand five hundred Denman Tire and Rubber income bonds owned by my wife. Feel we should receive approximately sixty for them. Petitioner replied to the telegram on the same day as follows: “Retel this is firm offer of fifty flat for bonds.” Petitioner’s offer was accepted and the $2,500 principal amount of petitioner’s bonds was delivered to petitioner on or about October 31, 1941, upon payment by petitioner of the agreed sum of $1,250. These bonds were thereupon canceled under date of October 31, 1941, and a liability for $2,500 principal and $320.83 interest as of October 31,1941, was thereby eliminated. At the time of the discharge of petitioner’s indebtedness to the United States Government for $50,000 and at the time of petitioner’s purchase of its bonds from Elizabeth H. Paecke, as above set forth, petitioner was in an unsound financial condition and was unable to meet its obligations as they matured, but was not insolvent in the sense that the total value of its assets was less than the amount of its liabilities before or after the discharge of these items of indebtedness. In its corporation income and declared value excess profits tax return for 1941, which was filed March 14,1942, petitioner reported as “Other Income, Gain on Settlement of Indebtedness $75,500.00” and “Excess of Face Value over Cost of Bonds Repurchased $1,570.83.” This return showed a net loss of $4,990.87, and no tax was paid for 1941. Petitioner did not at the time of making and filing this return make and file with the return its consent to the regulations prescribed under section 113 (b) (3) of the Internal Revenue Code then in effect. On April 21, 1944, petitioner filed with the collector of internal revenue for the eighteenth district of Ohio, at Cleveland, a claim for refund on Form 843, claiming a refund of $32,294.73 of the income tax theretofore paid by petitioner with reference to the calender year 1942, and contemporaneously therewith filed an amended income and declared value excess profits tax return for the year 1941, in which $75,500 oí surplus credit resulting from the elimination of the $125,500 indebtedness to tbe United States Government by payment of $50,000, as above set forth, and $1,392.23 of the surplus credit resulting from the purchase for $1,250 of petitioner’s bonds in the face amount of $2,500, with accrued interest in the amount of $320.83, for retirement, as above set forth, were excluded from gross income in the computation of taxable income for the year 1941, thereby reporting a net loss of $81,883.10 for the calendar year 1941, instead of $4,990.87 net loss as shown on the original return. With this amended return petitioner filed a “consent” on Form 982 to the adjustment of the basis of its property under section 113 (b) (3) by the $76,892.23 of surplus credits representing cancellation of indebtedness so excluded from gross income in the amended return for the year 1941. OPINION. The question presented under these issues is whether respondent erred in refusing to increase petitioner’s net loss carry-over from 1941 by excluding from its income for that year $75,500 arising from a cancellation of indebtedness due the United States Government and $1,570.83 arising from a $1,250 purchase by petitioner of $2,500 face value of its bonds, plus interest of $320.83 accrued. As has been found in our above findings, petitioner returned these amounts as part of its income for the year 1941 on its original return, but it paid no tax for 1941, because even with these amounts returned as income, a loss was still shown on the return .of $4,990.87. The Commissioner in his determination of the deficiencies has left these amounts undisturbed as petitioner first returned them and has allowed it a net loss carry-over from 1941 of the sum of $4,534.04, instead of $4,373.59 as claimed on petitioner’s original return for 1942 and $81,265.82 as claimed on its claim for refund filed oil April 21, 1944. As has been found in our findings of fact, petitioner on April 21,. 1944, filed an amended return for 1941 in which it excluded from net income the above described items of $75,500 and $1,392.23 of the income reported in 1941 from the purchase of $2,500 face value of its bonds, and also filed on Form 982 a “consent of corporation to adjustment of basis of its property under section 113 (b) (3) of the Internal Revenue Code.” It now contends that in the first place the $75,500 gain from the cancellation of indebtedness was never taxable income at all, under Helvering v. American Dental Co., 318 U. S. 322, and should be excluded from income on that account. It also contends in the alternative that, if it is wrong in contending that the $75,500 was never taxable income, nevertheless, the consent which it filed on Form 982 with its amended return for 1941 filed April 21, 1944, was timely and that because of the filing of this consent the $75,500 gain from the cancellation of indebtedness and $1,392.23 of the gain resulting from purchase of its bonds should be excluded from income and a corresponding reduction in its basis of cost of assets acquired from its predecessor should be made, as provided in section 113 (b) (3) of the code. Petitioner is, of course, privileged to make these contentions even though they are contrary to the way the petitioner treated the transactions on its original return. We shall now examine these respective contentions. Petitioner cites Helvering v. American Dental Co., supra, to support its contention that the unpaid balance of the excise taxes remaining after the compromise payment is not taxable income because it represented a gift by the United States Government. Helvering v. American Dental Co., supra, must be examined in the light of Commissioner v. Jacobson, 336 U. S. 28, which tells us that there can be a gift only when the intent to make a gift is present. In that case the Supreme Court said: * * • * Both the general provisions for taxation of income and this provision for the exclusion of gifts from gross income, for income tax purposes, have been in the Federal Income Tax Acts in substantially their present form since the Revenue Act of 1916. The contrast between the provisions is striking. The income taxed is described in sweeping terms and should be broadly construed in accordance with an obvious purpose to tax income comprehensively. The exemptions, on the other hand, are specifically stated and should be construed with restraint in the light of the same policy. * * * From the facts it is plain that petitioner reached a settlement figure with the Government through prolonged negotiations wherein the Government neither expressly nor impliedly manifested any intention of making a gift to petitioner. It was seeking the best settlement it could get from a corporation in an unsound financial condition, but not insolvent. Cf. 1180 East 63rd Street Building Corporation, 12 T. C. 437, in which we said: “We also note the unlikeliness of officers charged with the collection of state taxes having the intent of making a gift to taxpayers.” We are unable to find that the unpaid balance of the compromised tax liability constituted a gift and, therefore, the Government’s release of $75,500 of its claim against petitioner is not excludable from gross income under section 22 (b) (3) of the Internal Revenue Code. Petitioner further contends that, should we hold that the cancellation of the indebtedness is not a gift, it should be treated as a reduction of the purchase price. Hirsch v. Commissioner, 115 Fed. (2d) 656; Commissioner v. Sherman, 135 Fed. (2d) 68; Helvering v. Killian Co., 128 Fed. (2d) 433; Gehring Publishing Co., 1 T. C. 345. These cases involve purchase money obligations and a reduction of the obligation occasioned by a corresponding decline in value of the property which gave rise to the obligation. We have no corresponding situation here. Petitioner took over the assets of its predecessor and assumed its liabilities, including the tax liability owing the United States Government. A part of the purchase price of the assets which petitioner acquired from its predecessor was the assumption and agreement to pay these excise taxes to the United States Government. There is no evidence that these properties had declined in value, and even if they had, the United States Government was not the seller of these properties, and in accepting the compromise settlement was not in any way undertaking to reduce the purchase price of assets which petitioner had acquired from its predecessor. We do not desire to extend the rule of Hirsch v. Commissioner, supra, to the present situation, and that is especially true where, as here, statutory relief of a similar nature was available to petitioner under section 22 (b) (9) of the Internal Revenue Code. The statutory relief referred to is the relief petitioner seeks to gain under its third argument if its first and second arguments fail. Section 22 (b) (9), which is printed in the margin,1 provides for the exclusion from gross income of the income from the discharge of certain indebtedness of a corporate taxpayer in an unsound financial condition, if the taxpayer makes and files at the time of filing the return its consent to the regulations prescribed under 113 (b) (3) then in effect. Section 19.22 (b) (9)-l, Treasury Regulations 103, applicable to the year 1941, reads in part as follows: Sec. 19.22 (b) (9)-l. Income from discharge of indebtedness. — Section 22 (b) (9) provides a method whereby a corporation may elect to have excluded from its gross Income the amount of income attributable to a discharge, within the taxable year, of its indebtedness or of indebtedness for which it is liable as, for example, in the case of a debt arising from an assumption of liability of another corporation. To be entitled to the benefits of the provisions of section 22 (b) (9) a corporation must (1) file with its return for the taxable year a consent to the provisions of the regulations, in effect at the time of the filing of the return, prescribed under section 113 (b) (3) (see sections 19.113 (b) (3)-i and 19.113 (b) (3)-2, relating to adjustment of basis), and (2) establish that it was in an unsound financial condition immediately preceding the discharge of the indebtedness. Respondent apparently concedes tbat under section 22 (b) (9) petitioner would be entitled to exclude tbe $75,500 from gross income, and also $1,570.83 gain from repurchase of its bonds, if petitioner had filed its consent with its original return. Petitioner, however, did not file its consent with its original return but, on the contrary, reported in its income $75,500 as “Gain on Settlement of Indebtedness” and $1,570.83 as “Excess of Face Value over Cost of Bonds Repurchased.” Later on, in April, 1944, petitioner filed an amended return in which it excluded the $75,500 and $1,392.23 of the $1,570.83 from income and filed the consent provided in section 22 (b) (9) of the code. ■ Petitioner ■contends that the filing of such consent in 1944 with an amended return satisfies the requirements of section 22 (b) (9), because that section does not require the consent to be filed with the original return. In support of its contention, petitioner cites cases arising under section 131 (a) (1) of the Internal Revenue Code. W. K. Buckley, Inc. v. Commissioner, 158 Fed. (2d) 158; Gentseh v. Goodyear Tire & Rubber Co., 151 Fed. (2d) 997; Connor v. United States, 19 Fed. Supp. 97; Ralph Leslie Raymond, 34 B. T. A. 1171. In these cases a consent filed with an amended return was sufficient to obtain credit for foreign taxes under a statute which required the taxpayer to signify his desire to have the credit “in his return.” These cases involved an adjustment of the tax for the year in which the credit was desired. It was held that taxpayers who determined no tax liability for "that year were later entitled to claim their credit under section 131 (a) (1) when it was discovered that there was a tax liability for that year. In the instant proceeding, however, petitioner’s amended return, as well as its original return, discloses a net loss. Petitioner was fully cognizant of all the facts at the time of filing its original return. There was apparently good reason for not filing its consent with the original Return. As we have, already pointed out, that return showed a loss and no tax due, even with these amounts returned as income. The only effect of filing such a consent at that time, would have been to reduce petitioner’s basis of-its assets for future years. This, it doubtless decided, it did not want to ,do. In so far as we can see, it was .only because petitioner sought to reduce its tax liability for a bater year, the year 1942, by a larger net loss carry-over that petitioner filed its amended return for 1941, in April, 1944, accompanied by the consent on Form 982. This, we think, was too late. Section 22 (b) (9) was intended as a relief measure for certain taxpayers whose debt structure had been favorably changed. It was intended to postpone the taxation of what would ordinarily constitute income in that year to a later period, when its assets were disposed of.2 We do not think that Congress intended section 22 (b) (9) to be used as a method for reducing taxes in years subsequent to the cancellation of the indebtedness by increasing a net loss carry-over. We hold, therefore, that petitioner’s election in its amended return was not an election contemplated by section 22 (b) (9) and, therefore, the $75,500 is includible in petitioner’s taxable income for 1941. Cf. J. E. Riley Inv. Co. v. Commissioner, 311 U. S. 55. With reference to the transaction involving the purchase of petitioner’s bonds at a discount, petitioner concedes on brief that this transaction is clearly within the rule of Commissioner v. Jacobson, supra, and taxable income was realized thereon if petitioner has not complied with the requirements of section 22 (b) (9). The amended return filed by petitioner for the year 1941 in April, 1944, excluded from its gross income $1,392.23 of the amount realized from the purchase of its bonds and consented to the adjustment of the basis of its property under section 22 (b) (9) by said amount. We have decided that petitioner’s election with respect to the $75,500 income from the settlement of the Government’s claim for taxes was not an election contemplated by section 22 (b) (9). The same conclusion must be reached with respect to petitioner’s purchase of its bonds at a discount and, therefore, the $1,570.83 mentioned in assignment of error (b) is in-cludible in petitioner’s taxable income for the year 1941. Issue (o). FINDINGS OF FACT. With respect to the year 1942, petitioner made additions to its furniture and fixtures of $1,507.12 and is entitled to depreciation of $50.24 thereon. This is in addition to the depreciation allowed in the deficiency notice. OPINION. Petitioner is entitled to an additional allowance of $50.24 representing depreciation for the year 1942 and effect will be given thereto in a recomputation under Eule 50. Issue (d) . FINDINGS OF FACT. With respect to the year 1943, petitioner made additions to its molds and cores costing $9,072.21, additions to furniture and fixtures of $1,438.15, and additions to machinery and equipment of $210.45. Petitioner is entitled to depreciation of $907.22 on molds and cores, $47.77 on furniture and fixtures, and $7.02 on machinery and equipment purchased' in 1943. This is in addition to the depreciation allowed in the deficiency notice. OPINION. Petitioner is entitled to an additional allowance of $962.01 representing depreciation for the year 1943 and effect will be given thereto in a recomputation under Rule 50. Issue (e) FINDINGS OF FACT. . Petitioner began business on October 1, 1937, and for the three-month taxable period ended-December 31,1937, had no bad debt losses, and no bad debt deductions were claimed on petitioner’s income tax returns. The income tax returns of petitioner filed for the calendar years 1938 and 1939 claimed bad debt deductions of $49,976.88 and $60,024.66, respectively. On examination of thesé returns by the Bureau of Internal Revenue certain adjustments were made to these bad debt deductions and the amounts deductible for said years were determined to be $46,316.89 for the year 1938 and $58,896.28 for the year 1939. An analysis and a breakdown of these bad debt deductions show them to be made up as follows: [[Image here]] No losses from defalcations have ever been sustained by petitioner from the date of its incorporation on June 28, 1937, down to the date of the filing of the petition in these proceedings on June 7,1948, except in two instances: One in the amount of $2,275 and the other in the amount of $28,265.13, both of which were included in the so-called “bad debt” deductions for the year 1939. These losses were sustained as a result of embezzlements of funds of petitioner by two of its employees. The losses were discovered by petitioner in 1939 and were claimed as bad debt deductions on petitioner’s income tax return for the year 1939, and they were so treated by respondent. Among the assets taken over by petitioner from its predecessor corporation pursuant to the plan of reorganization were accounts receivable aggregating $191,299.67. During the taxable periods subsequent to October 1, 1937, various accounts included in the total so taken over were charged off and claimed and allowed as bad debt deductions on petitioner’s income tax returns, as follows: 10/1/37-12/1/37_ $0.00 1938 _ 8, 851. 72 1939 _ 10, 590.45 1940 _ 0.00 In the computation of the excess profits credit of petitioner based on income for the calendar years 1941, 1942, and 1943, and the unused excess profits credit of petitioner for the year 1941, respondent has not disallowed as deductions in computing excess profits net income for the years 1938 and 1939 the following items which are claimed by petitioner as “class abnormalities” pursuant to the provisions of section 711 (b) (1) (J) (i) of the Internal Revenue Code: (a) Losses on defalcations in the year 1939 in the amount of $30,540.13. (b) Bad debt losses on accounts receivable taken over from Petitioner’s predecessor corporation, in the amount of $8,851.72 in the year 1938 and in the amount of $10,590.45 in the year 1939. These losses deducted by petitioner represented deductions of a “class abnormal”' for petitioner as that term is used in section 711 (b) (1) (J) (i) of the Internal Revenue Code. The abnormality was not a consequence of an increase in the gross income of petitioner in the base period or a decrease in the amount of some other deduction in its base period, and was not a consequence of a change at any time in the type, manner of operation, size, or condition of the business engaged in by the taxpayer. OPINION. The question presented under this issue is whether the bad debt losses in 1938 and 1939 on accounts receivable taken over from petitioner’s predecessor and certain losses on defalcations in the year 1939 were deductions of a class abnormal for petitioner and should, therefore, be restored to petitioner’s excess profits net income for the purpose of determining its excess profits tax credit for the taxable years herein. Petitioner contends that these deductions were of a class abnormal for petitioner within the meaning of section 711 (b) (1) (J) (i) of the Internal Revenue Code. The pertinent provisions of the Internal Revenue Code are printed in the margin.3 Respondent contends that these bad debt losses were not of a “class” abnormal for petitioner and, therefore, if petitioner is entitled to any relief it would be by reason of section711 (b) (1) (J) (ii). The record shows that the losses on defalcations were included in petitioner’s bad debt deductions. Aside from these losses, petitioner has never sustained any loss on defalcations. While the loss on defalcations is properly deductible under section 23 (f) of the Internal Revenue Code as a loss from theft, First National Bank of Sharon v. Heiner, 66 Fed. (2d) 925, petitioner took these losses, and they were allowed, as bad debt deductions. Petitioner could have taken the deductions under section 23 (f) and the same result would follow under section 711 (b) (1) (E). Cf. Schneider Grocery Co., 10 T. C. 1275. Petitioner has proved that the losses on defalcations were not due to any of the limiting factors of section 711 (b) (1) (K) and, therefore, the deductions are to be restored to income for the purpose of determining petitioner’s excess profits tax credit. Cf. William Leveen Corporation, 3 T. C. 593. The next question is whether the bad debt losses sustained by petitioner in 1938 and 1939 on accounts receivable taken over from petitioner’s predecessor represent deductions of a class abnormal to petitioner. Green Bay Lumber Co., 3 T. C. 824, stands for thé proposition that the classification under section 711 (b) (1) (J) (i) of the Internal Revenue Code does not have to be in accordance with the statutory deduction category of section 23 of the Internal Revenue Code, It is possible under section 711 (b) (1) (J) (i) to have two or more distinct and separate classes of bad debts. The determination that a particular group of bad debt deductions constitutes a distinct and separate class within the meaning of section 711 (b) (1) (J) (i) is largefy one of fact. Green Bay Lumber Co., supra. The bad debts of the predecessor corporation were the result of sales to customers whose financial responsibility was not subject to petitioner’s investigation. This is in direct contrast to the bad debts which were the result of sales made by petitioner after entering business in 1937. Section 711 (b) (1) (J) (i) was added by section (3) of the Excess Profits Tax Amendments of 1941 and has always remained as originally enacted. The purpose of the 1941 amendments was to liberalize the Second Revenue Act of 1940. The following quoted excerpts from House Report No. 146, 77th Cong., 1st sess., p. 3, refer to section (3) of the 1941 amendments: (2) It adds to the list of adjustments for specific items of abnormal deductions, set out in 711 (b) of tbe existing law, tbe further adjustment for abnormal deductions of any class during tbe years in the base period. [Emphasis supplied.] On page 5 of this report the following appears: In addition to the adjustments for the deductions specified by the present law the amendments made by this section provide that any deduction will be disallowed for the base period if it was of a class abnormal for the taxpayer. [Emphasis supplied.] Senate Report No. 75, 77th Cong., 1st sess., pp. 3 and 5, is to the same effect as the above quoted section from the House report. • We believe that it is reasonable to find that the debts taken over by petitioner from its predecessor were of a different class from those of its own which it acquired in the sale of goods after it began business' Petitioner was not in existence prior to the time it took over the accounts receivable of its predecessor and, therefore, it can not be said that the deductions were a result of a change in the method of operation of the business. On these facts the instant proceeding is distinguishable from Pacific Gas & Electric Co., 7 T. C. 1142. Petitioner, having shown that abnormal deductions resulted from factors other than described in section 711 (b) (1) (K), is entitled to have these deductions restored to income. Cf. Lorenz Co., 12 T. C. 263; William Leveen Corporation, supra. Issue (/). FINDINGS OF FACT. In the base period years petitioner charged off bad debts on its sales made subsequent to its formation in 1937. The amounts of the bad debts charged off through 1940, together with the gross income and gross sales in each of these years, were as follows: [[Image here]] Petitioner had expenditures for advertising in the years 1938 through 1940 in the following amounts: 1938-$16,113.48 1939- 39,446.18 ' 1940- 23, 959. 36 The petitioner had incurred expenses for “Professional Services” during the years 1938, 1939, and 1940 in the following amounts: 1938-$1,782.56 1939- 5, 647.90 1940- 4, 629.71 • The petitioner had expenses for “Factoring Commissions” during the years 1939 and 1940. These commissions represented the cost to petitioner of financing its accounts receivable. The expenses were as follows: 1937_._ $0. 00 1938_ 0.00 1939_ 16,872.09 1940_19,180.88 The petitioner had expenses for repairs in the years 1938, 1939, and 1940 in the following amounts: 1938-$16,100.83 1939- 37, 638. 54 1940_ 27,803. 32 The following extracts are from a fetter written by petitioner’s president and received on January 26, 1940, in the Office of the Chief Counsel of the Bureau of Internal Revenue: The factory has been maintained at maximum efficiency by the addition of modern equipment and by constantly improved and modern manufacturing methods, and as a result the plant is vastly improved over its condition two years ago, and may be considered one of the best units of the tire industry. During 1938 additions to the plant accounts amounted to $23,620.16 and in 1939 amounted to $37,424.98, making a total of $61,045.14 for the two year period. This addition to manufacturing facilities, plus our hand-custom-building precision methods and expert workmanship, enable us to produce a tire that is absolutely second to none. Merchandising methods have been revised to eliminate the sale of special brand merchandise to large distributors in favor of developing sales of the company’s own brand quality tires. 1939 is the first whole year with the operation of the present sales force, and during that year many new dealers became associated with the company. Tables of figures are contained in the stipulation which, show the respective amount abnormalities of bad debt deductions, advertising expenses, professional services, factoring commissions, and expenses for repairs for use in a recomputation under Rule 50 if petitioner is sustained on this issue. These figures are quite extensive and more or less complicated and it is believed 'unnecessary to incorporate them here. The stipulation of facts has been incorporated by reference, supra, as a part of our general findings of fact. OPINION. As to petitioner’s claim that abnormality in amount of bad debt deductions for 1938 as defined by section 711 (b) (1) (J) (ii) should be disallowed, we think petitioner should be sustained. Clearly, according to the figures which have been stipulated there was this abnormality in amount of bad debt deductions for 1938. We do not understand that respondent contends otherwise. He does contend, however, that petitioner has not met its burden of proof in showing that the abnormality in amount was not due to the limiting factors mentioned in section 711 (b) .(1) (K) (ii). The stipulated facts, taken with other evidence at the hearing, convince us that the excess in amount of 1938 bad debt deductions was not a consequence of an increase in the gross income of the taxpayer in its base period or a decrease in the amount of some other deduction in its base period and was not a consequence of a change at any time in the type, manner of operation, size or condition of the business engaged in by the taxpayer. These are the factors covered by section 711 (b) (1) (K) (ii). We, therefore, sustain petitioner in its claim that bad debt deductions in 1938 which were abnormal in amount as that term is used in the statute should be disallowed. Cf. C. Hommel Co., 8 T. C. 383. As to petitioner’s claim that it had abnormal deductions,- excessive in amounts, for 1939 in advertising, professional services, factoring commissions and repairs which should be disallowed, we do not think it can be sustained. Here again we do not understand the Commissioner to contend that these deductions were not abnormal in amounts for 1939 as defined by the applicable statute. He does contend, however, that petitioner has not met its burden of proof by showing that the abnormality in amounts was not due to some of the limiting factors contained in section 711 (b) (1) (K) (ii). After careful examination • of all the facts, we think respondent must be. sustained as to these-particular items. The letter written by petitioner’s president to the Office of the Chief Counsel of the Bureau of Internal Revenue shown in our findings of fact discloses that petitioner, after it acquired the plant and business of its predecessor, very considerably improved and expanded its business. We think it is reasonable to assume that the increases in amounts in 1939 of petitioner’s expenditures for advertising, professional services, factoring commissions, and repairs were due, in part at least, to some of (he limiting factors enumerated in section 711 (b) (1) (K) (ii). At least petitioner has not convinced us that such was hot the case. Cf. William Leveen Corporation, supra. We, therefore, sustain the Commissioner in his refusal to disallow these particular amount abnormalities. Issue (g). FINDINGS OF FACT. In making the growth formula computation appearing in the deficiency notice, respondent failed to take into account the loss of $1,560.70 for the year 1937 as reducing the income of the first half of the base period as required by section 713 (f) of the Internal Revenue Code.4 OPINION. In a recomputation under Rule 50 the loss of $1,560.70 for the year 1937 should be taken into account as. reducing petitioner’s income of the first half of the base period in making the growth formula computation. Reviewed by the Court. Decision will be entered wider Bule 60. Arundeul, dissents on the first issue. SEC. 22. GROSS INCOME. * * * * * * * (b) Exclusions from Gross Income. — The following items shall not be included in gross income and shall be exempt from taxation under this chapter: * * # ;. # * * (9) Income from discharge op indebtedness. — In the case of a corporation, the amount of any income of the taxpayer attributable to the discharge, within the taxable year, of any indebtedness of the taxpayer or for which the taxpayer is liable evidenced by a security (as hereinafter in this paragraph defined) if— (A) it is established to the satisfaction of the Commissioner, or (B) it is certified to the Commissioner by any Federal agency authorized to make loans on behalf of the united States to such corporation or by any Federal agency authorized to exercise regulatory power over such corporation, that at the time of such discharge the taxpayer was in an unsound financial condition, and if the taxpayer makes and files at the time of filing the return, in such manner as the Commissioner, with the approval of the Secretary, by regulations prescribes, its consent to the regulations prescribed under section 113 (b) (3) then in effect. In such case the amount of any income of the taxpayer attributable to any' unamortizéd premium (computed as of the first day of the taxable year in which such discharge occurred) with respect to such indebtedness shall not be included in gross income and the amount of the deduction attributable to any unamortized discount (computed as of the first day of the taxable year in which such discharge occurred) with respect to such indebtedness shall not be allowed as a deduction. As used in this paragraph the term “security” means any bond, debenture, note, or certificates or other evidence of indebtedness, issued by any corporation, in existence on June 1, 1939. This paragraph shall not apply to any discharge occurring before the date of the enactment of the Revenue Act of 1939 [June 29, 1939], or in a taxable year beginning after December 31,1942. H. R. Rept. No. 855, p. 5, 76th Cong., 1st sess.; S. Rept. No. 648, pp. 2-3, 76th Cong., 1st sess. SEC. 711. EXCESS PROFITS NET INCOME. (b) Taxable Years in Base Period.— (I) General rule and adjustments. — Tbe excess profits net income for any taxable year subject to the Revenue Act of 1936 shall be the normal-tax net income, as defined in section 13 (a) of such Act; and for any other taxable year beginning after December 31, 1937, and before January 1, 1940, shall be the special-class net income as defined in section 14 (a) of the applicable revenue law. In either case the following adjustments shall be made (for additional adjustments in case of certain reorganizations, see section 742 (e)) : ******* (J) Abnormal Deductions. — under regulations prescribed by the Commissioner, with the approval of the Secretary, for the determination for the purposes of this subparagraph, of the classification of deductions— (i) Deductions of any class shall not be allowed if deductions of such class were abnormal for the taxpayer, and (ii) If the class of deductions was normal for the taxpayer, but the deductions of such class were in excess of 125 per centum of the average amount of deductions of such class for the four previous taxable years, they shall be disallowed in an amount equal to such excess. (K) Rules for Application op Subparagraphs (H), (I), and (J). — For the purposes of subparagraphs (H), (I), and (J)— * * * * * * * (ii) Deductions shall not be disallowed under such subparagraphs unless the taxpayer establishes that the abnormality or excess is not a consequence of an increase in the gross income of the taxpayer in its base period or a decrease in the amount of some other deduction in its base period, and is not a consequence of a change at any time in the type, manner of operation, size, or condition of the business engaged in by the taxpayer. See also G. C. M. 23,047, 1942-1 C. B. 141; G. C. M. 23,650, 1944 C. B. 398.	01-04-2023	01-16-2020
https://www.courtlistener.com/api/rest/v3/opinions/4336744/	DAVID M. AND PHYLLIS E. BROWN, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, RespondentBrown v. Comm'rNo. 6412-04SUnited States Tax CourtT.C. Summary Opinion 2007-166; 2007 Tax Ct. Summary LEXIS 173; September 24, 2007, FiledPURSUANT TO INTERNAL REVENUE CODE SECTION 7463(b), THIS OPINION MAY NOT BE TREATED AS PRECEDENT FOR ANY OTHER CASE.173 David M. and Phyllis E. Brown, pro sese.Randall L. Preheim, for respondent.Vasquez, Juan F.JUAN F. VASQUEZVASQUEZ, Judge: This case was heard pursuant to the provisions of section 7463 of the Internal Revenue Code in effect when the petition was filed. 1 Pursuant to section 7463(b), the decision to be entered is not reviewable by any other court, and this opinion shall not be treated as precedent for any other case.This case is before the Court on respondent's motion for summary judgment pursuant to Rule 121. After a concession, 2 the sole issue for decision is whether petitioners can exclude from income wages earned during 2000 from working in Antarctica.BACKGROUND At the time they filed the petition, petitioners resided in Green Valley, Arizona. During 2000, petitioners performed services at McMurdo Station in Ross Island, Antarctica. On their 2000 Federal income tax return, petitioners excluded wage 174 income earned and received during 2000 for services performed in Antarctica.DISCUSSIONI. Summary JudgmentRule 121(a) provides that either party may move for summary judgment upon all or any part of the legal issues in controversy. Full or partial summary judgment may be granted only if it is demonstrated that no genuine issue exists as to any material fact and that the legal issues presented by the motion may be decided as a matter of law. See Rule 121(b); Sundstrand Corp. v. Commissioner, 98 T.C. 518">98 T.C. 518, 520 (1992), affd. 17 F.3d 965">17 F.3d 965 (7th Cir. 1994). We conclude that there is no genuine issue as to any material fact and that a decision may be rendered as a matter of law.II. In GeneralSection 61(a) provides that gross income means all income from whatever source derived. Accordingly, citizens of the United States generally are taxed on income earned outside the geographical boundaries of the United States unless the income is specifically excluded from gross income. Specking v. Commissioner, 117 T.C. 95">117 T.C. 95, 101-102 (2001), affd. sub nom. Haessly v. Commissioner, 68 Fed. Appx. 44">68 Fed. Appx. 44 (9th Cir. 2003), affd. sub nom. Umbach v. Commissioner, 357 F.3d 1108">357 F.3d 1108 (10th Cir. 2003). Exclusions from income 175 are construed narrowly, and taxpayers must bring themselves within the clear scope of the exclusion. Id.III. Section 911 In Arnett v. Commissioner, 126 T.C. 89">126 T.C. 89, 91-96 (2006) (Arnett I), affd. 473 F.3d 790">473 F.3d 790 (7th Cir. 2007) (Arnett II), we addressed the arguments made by the parties herein regarding section 911. The U.S. Court of Appeals for the Seventh Circuit agreed with our analysis of section 911 and affirmed our conclusion that Antarctica is not a "foreign country" pursuant to section 911 and the regulations thereunder. Arnett v. Commissioner, 473 F.3d at 799">473 F.3d at 799. We shall not repeat our analysis from Arnett I herein. We follow our analysis and holding in Arnett I and the analysis and holding of the Court of Appeals in Arnett II. 3176 IV. Conclusion Accordingly, for the reasons stated in Arnett I, Arnett II, and herein, we conclude *177 that petitioners cannot exclude from gross income wages earned during 2000 from working in Antarctica.To reflect the foregoing,An appropriate order and decision will be entered.Footnotes1. Unless otherwise indicated, all Rule references are to the Tax Court Rules of Practice and Procedure, and all section references are to the Internal Revenue Code in effect for the year in issue.↩2. Respondent concedes that no penalty pursuant to sec. 6662↩ is due from petitioners for 2000.3. In Arnett v. Commissioner, 126 T.C. 89">126 T.C. 89 (2006), affd. 473 F.3d 790">473 F.3d 790 (7th Cir. 2007), we concluded our Opinion with a citation of sec. 863(d) suggesting that sec. 863(d) provided an additional reason to rule against the taxpayer. Id. at 96 ("See also sec. 863(d) (providing that income earned in Antarctica by a U.S. person is sourced in the United States)."). In Arnett v. Commissioner, 473 F.3d at 797">473 F.3d at 797, the U.S. Court of Appeals for the Seventh Circuit addressed sec. 863(d) in greater detail, stating:At the outset, we think that it is important to note that considering Antarctica not to be a "foreign country" is compatible with the general statutory scheme. Notably, section 911 is found under subtitle A, chapter 1, subchapter N of the IRC, which is designated "Tax Based on Income from Sources Within or Without the United States." Part I of this subchapter, entitled "Source Rules and Other General Rules Relating to Foreign Income," deems any activity in Antarctica to be "space or ocean activity." In turn, the United States is designated the source country of income from such activity when earned by a citizen of the United States. 26 U.S.C. section 863(d). Although this provision does not provide a definitive answer as to whether Antarctica is a "foreign country," it supports the conclusion that section 911 is not intended to apply to income earned for services provided in Antarctica.We take this opportunity to state our agreement with the Court of Appeals' conclusion set forth above. See also HCSC-Laundry v. United States, 450 U.S. 1">450 U.S. 1, 6↩ (1981).	01-04-2023	11-14-2018
https://www.courtlistener.com/api/rest/v3/opinions/4621876/	James H. Knox Trust, Percival G. Bixby, George E. Merrill and Manufacturers & Traders Trust Company, Co-Trustees, Petitioners, v. Commissioner of Internal Revenue, Respondent. Alice B. Knox Trust, Percival G. Bixby, George E. Merrill and Manufacturers & Traders Trust Company, Co-Trustees, Petitioners, v. Commissioner of Internal Revenue, Respondent. Alice K. Scobie Trust, Percival G. Bixby, George E. Merrill and Manufacturers & Traders Trust Company, Co-Trustees, Petitioners, v. Commissioner of Internal Revenue, RespondentKnox Trust v. CommissionerDocket Nos. 108700, 108701, 108702United States Tax Court4 T.C. 258; 1944 U.S. Tax Ct. LEXIS 30; October 31, 1944, Promulgated 30 Decisions will be entered under Rule 50. Commissions paid to testamentary trustees, out of the corpora of the testamentary trusts, based on a percentage of receipts and disbursements of trust assets in accordance with section 285 of the New York Surrogate's Court Act, held, deductible from the gross income of the trusts under section 23 (a) (2) of the Internal Revenue Code, added by section 121 of the Revenue Act of 1942. John W. Sanborn, C. P. A., for the petitioners.Clay C. Holmes, Esq., for the respondent. Smith, Judge. SMITH 258 OPINION.These proceedings, consolidated for hearing, involve deficiencies and claimed overpayments in income tax for the calendar year 1936 as follows:PetitionerDocket No.DeficiencyOverpaymentJames H. Knox Trust108700$ 1,079.71$ 4,382.24Alice B. Knox Trust1087013,627.9114,640.45Alice K. Scobie Trust1087021,079.714,382.24The only question in issue is the right of the petitioner trusts to the deduction of commissions paid to the trustees.The proceedings have been submitted on the following stipulation of facts:2. Each petitioner herein is a testamentary trust established May 15, 1935, 31 pursuant to provisions in the will of Henry D. Knox who died January 12, 1934, leaving a last will and testament which was duly probated in the Surrogate's Court of Erie County, New York, on February 13, 1934.3. All of the original corpus of each trust was received out of the residue of the estate of said Henry D. Knox. The amounts of the corpora of the trusts at the date of their establishment, May 15, 1935, are as follows: 259 James H.Alice B.Alice K.Knox TrustKnox TrustScobie TrustNo. 108700No. 108701No. 108702Amount of corpus, per inventory$ 761,290.31$ 1,522,580.62$ 761,290.31Subsequently discovered500.241,000.48500.23Total$ 761,790.55$ 1,523,581.10$ 761,790.54Less error in inventory15.0030.0015.00Net$ 761,775.55$ 1,523,551.10$ 761,775.544. Each of the trusts kept its books of account and reported items of income and expense on the basis of cash receipts and disbursements for calendar year periods. A portion of the taxable net income of each trust was not distributable nor actually distributed to beneficiaries of the trust during the calendar year 1936, the respective trust reporting income32 tax liability upon such undistributed portions. Each trust filed for the calendar year 1936 a fiduciary return of income and an individual income tax return with the Collector of Internal Revenue for the Twenty-Eighth District of New York, at Buffalo, New York. None of the trusts at any time engaged in carrying on a trade or business.5. Percival G. Bixby and the Manufacturers and Traders Trust Company of Buffalo, New York, and George E. Merrill, East Aurora, New York, were named in the will of Henry D. Knox, deceased, as executors of his estate, and as trustees of each of the petitioner trusts. Each of the three, and no others, served continuously as executors and since the establishment of the trusts, has served continuously as trustees of the trusts.6. During the calendar year 1936 each trust paid commissions to each of the trustees in equal amounts and each trust charged some of such commissions to its income account and the remainder to its principal account. The aggregate amounts paid and charged to the principal and income accounts of each trust were as follows:James H.Alice B.Alice K.Knox TrustKnox TrustScobie TrustNo. 108700No. 108701No. 108702Charged to Income$ 3,548.79$ 6,036.30$ 3,548.85Charged to Principal23,239.9246,374.8723,239.9233 7. The amounts charged to the income account were based upon and measured by the receipt and disbursement from May 15, 1935 to October 28, 1936, of amounts constituting income to the trusts. In the income tax returns filed by the three trusts, deductions were claimed for the amounts charged to the income account and these deductions were disallowed by respondent in the deficiency notices issued to the trusts on June 21, 1941. Portions of such amounts are allocable to nontaxable income. The amounts allocable to taxable and nontaxable income are as follows:James H.Alice B.Alice K.Knox TrustKnox TrustScobie TrustNo. 108700No. 108701No. 108702Allocable to Taxable Income$ 3,510.69$ 5,959.68$ 3,510.75Allocable to Nontaxable Income38.1076.6238.10Total$ 3,548.79$ 6,036.30$ 3,548.85260 Respondent concedes that deductions are allowable with respect to the amounts allocable to taxable income and petitioners concede that deductions are not allowable with respect to amounts allocable to nontaxable income.8. Each of the petitioner trusts on September 19, 1939, filed refund claim with the Collector of Internal Revenue for the34 Twenty-Eighth Collection District, at Buffalo, New York, in the following respective amounts:James H. Knox Trust$ 4,382.24Alice B. Knox Trust14,640.45Alice K. Scobie Trust4,382.24Each refund claim stated that the respective trust was entitled to a further deduction in an amount which equals the commissions charged to principal as previously set forth herein.9. The amounts set forth previously as charged to the principal account, were based upon and measured by the receipt and disbursement of principal monies or their equivalent for the period from May 15, 1935 to October 28, 1936, segregated as follows:James H.Alice B.Alice K.Knox TrustKnox TrustScobie TrustNo. 108700No. 108701No. 108702Commissions on receipt of principal$ 23,044.17$ 46,058.34$ 23,044.17Commissions on disbursement of principal195.75316.53195.75Total$ 23,239.92$ 46,374.87$ 23,239.9210. The receipts of principal were of two types: (1) the receipt of the original corpora adjusted for subsequently discovered assets and corrections of values and (2) gains or profits on the sale or exchange, subsequent to May 15, 1935, of capital assets. The35 amounts of such gains on the sale of assets do not correspond with those reported for income taxes because the former were computed on the basis of values at May 15, 1935, while taxable gains were computed on the basis of values at the date of the death of the aforementioned decedent. The amounts of the two types of principal receipts are as follows:James H.Alice B.Alice K.Knox TrustKnox TrustScobie TrustNo. 108700No. 108701No. 108702Original Corpora$ 761,775.55$ 1,523,551.10$ 761,775.54Gain on Sale of Assets5,363.3110,726.635,363.31Total$ 767,138.86$ 1,534,277.73$ 767,138.8511. The commissions on receiving principal are allocable as follows:James H.Alice B.Alice K.Knox TrustKnox TrustScobie TrustNo. 108700No. 108701No. 108702Original Corpora$ 22,883.27$ 45,736.54$ 22,883.27Gain on Sale of Assets160.90321.80160.90Total$ 23,044.17$ 46,058.34$ 23,044.17Respondent concedes that the commissions allocable to gains on the sale of assets are allowable deductions from gross income.261 12. All of the aforementioned trustees' fees of any type were paid in accordance36 with section 285 of the New York Surrogate Court Act. In discharging their duties, trustees acted in accordance with the provisions of the will of the aforementioned Henry D. Knox, deceased, and the provisions of the New York Surrogate Court Act.13. On December 2, 1936, the trustees filed with the Surrogate's Court of Erie County, New York, a judicial accounting for each of the trusts covering the period from May 15, 1935 to October 28, 1936, for each trust, together with their petition, praying for a judicial settlement of the said accounts. The Surrogate's Court on said day approved the trustees' accountings, which included the payment of some trustees' commissions on May 16, 1936, and the Surrogate further ordered that the trustees should withhold from the funds of the respective trusts certain amounts as commissions. The commissions set forth in such accounting and order equaled the amounts previously stated herein.14. The petitioner trusts during the calendar year 1937 paid to the Collector of Internal Revenue at Buffalo, New York, income taxes for the calendar year 1936 in the following aggregate amounts:James H. Knox Trust, No. 108700$ 5,170.45Alice B. Knox Trust, No. 10870117,229.28Alice K. Scobie Trust, No. 1087025,170.4537 15. Any adjustments to the taxable net income of any of the petitioner trusts for the year 1936 do not affect the amount distributable to any beneficiary of any trusts or the income tax liability of any such beneficiary. Such adjustments affect in their entirety the income tax liability of the respective petitioner trust.In each of the deficiency notices herein the respondent has disallowed the deduction of the trustees' commissions which were charged to income and claimed as deductions in the returns filed by the trusts, on the ground that the trusts were not engaged in a trade or business. Also in the deficiency notices the respondent disallowed the claims for refund which were based upon the deduction of the trustees' fees charged to principal but not deducted in the returns, on the ground that they were capital expenditures.As shown in the stipulation above, respondent now concedes that the portions of the fees charged to income which are allocable to taxable income are deductible; and petitioners concede that the portions of such fees allocable to nontaxable income are not deductible. The respondent further concedes in his brief that the small amounts of commissions paid38 on the disbursement of principal, as shown in paragraph 9 of the above stipulation, are also deductible. The only remaining question for our determination is whether the trusts are entitled to deduct the commissions paid to the testamentary trustees on the receipt of the original corpora of the trusts.The commissions here in dispute were paid to the trustees pursuant to a decree of the surrogate dated December 2, 1936. By that decree the commissions were allowed to the trustees "in full of their services and commissions for receiving" the principal of the several trusts. They were allowed out of the balance of the principal and not out of 262 the income. The distributable income of the trusts which was to be paid to the beneficiaries quarterly was not affected thereby. However, we are concerned here with the tax liability of the trust entities and not the beneficiaries.The respondent contends that these commissions were paid not for the production or collection of income, or for the management, conservation, or maintenance of income-producing property, but rather "for the mere act of receiving the trust corpus"; and that they were therefore capital expenditures and not39 ordinary and necessary business expenses or nontrade or nonbusiness expenses within the meaning of section 23 (a) of the Internal Revenue Code, as amended. It is stipulated that the trusts were not engaged in carrying on a trade or business, precluding the deduction of such fees as ordinary and necessary business expenses.Section 162 of the Internal Revenue Code provides, with exceptions not here material, that "The net income of the estate or trust shall be computed in the same manner and on the same basis as in the case of an individual." As to individuals the computation is governed by section 23, Internal Revenue Code. Section 23 (a) (2), added by section 121 of the Revenue Act of 1942, provides that:SEC. 121. NON-TRADE OR NON-BUSINESS DEDUCTIONS.(a) Deduction for Expenses. -- Section 23 (a) (relating to deduction for expenses) is amended to read as follows:(a) Expenses. -- * * (2) Non-trade or non-business expenses. -- In the case of an individual, all the ordinary and necessary expenses paid or incurred during the taxable year for the production or collection of income, or for the management, conservation, or maintenance of property held for the production of40 income.Section 29.23 (a)-15 of Regulations 111 provides in part as follows:Reasonable amounts paid or incurred by a trustee on account of trustees' fees and other expenses which are ordinary and necessary in connection with the production or collection of trust income or with the management, conservation, or maintenance of trust property held for the production of income are deductible, notwithstanding that the trust is not engaged in a trade or business.* * * It is immaterial whether the expenses of fiduciaries are paid from the corpus of the estate or from income. Expenses derive their character not from the fund from which they are paid, but from the purposes for which they are incurred.The commissions paid to trustees of an inter vivos trust were held deductible under the above statute in Frederick B. Rentschler, 1 T.C. 814">1 T. C. 814. Ordinarily there would be no ground for questioning the deduction of such commissions, whether paid to trustees of inter vivos trusts or of testamentary trusts. The respondent's disallowance of the deductions claimed by these petitioners seems to be based principally upon the effect of section 285 of the New 41 York Surrogate's Court Act, 263 which he construes as establishing that the commissions in dispute were paid solely for "receiving" the trust assets and not for any of the purposes specified in section 23 (a) (2).Section 285 of the New York Surrogate's Court Act, so far as material, provides:Section 285. Commissions of executor, administrator, guardian or testamentary trustee. On the settlement of the account of an executor, administrator, guardian or testamentary trustee, the surrogate must allow to him his just, reasonable and necessary expenses actually paid by him, and if he be an attorney and counselor-at-law of this state, and shall have rendered legal services in connection with his official duties, such compensation for such legal services as shall appear to the surrogate to be just and reasonable; and in addition the surrogate must allow to such executor, administrator, guardian or testamentary trustee for his services in such official capacity, and if there be more than one, apportion among them according to the services rendered by them respectively.1. For receiving and paying out all sums of money not exceeding two thousand dollars, at the rate of five per42 centum.2. For receiving and paying out any additional sums not amounting to more than twenty thousand dollars, at the rate of two and one-half per centum.3. For receiving and paying out any additional sums not exceeding twenty-eight thousand dollars at the rate of one and one-half per centum.4. For all sums above fifty thousand dollars, at the rate of two per centum.5. The value of any real or personal property, to be determined in such manner as the surrogate may direct, and the increment thereof, received, distributed or delivered, shall be considered as money in making computation of commissions. But this shall not apply in case of a specific legacy or devise.6. * * 7. If an executor acting as trustee, or if a trustee or guardian, is required to receive income and pay over the same, and such executor, trustee or guardian pays over said income and such executor or trustee renders an annual account to the beneficiary, and such guardian files an annual inventory as required by section one hundred ninety of this act, of all his receipts and disbursements on account thereof, he shall be allowed, and may retain, the same commission on account of income, so accounted for as he43 would be allowed upon principal on a judicial settlement. * * 8 * * Where the will provides a specific compensation to an executor, administrator, guardian or testamentary trustee, he is not entitled to any allowance for his services, unless by a written instrument filed with the surrogate, * * * he renounces the specific compensation. * * 9. Where an executor, administrator, guardian or testamentary trustee is, for any reason or cause whatsoever, entitled or required to collect the rents of and manage the real property, he shall be allowed and may retain five per centum of the rents collected therefrom in addition to the commissions herein provided.In support of his construction of the New York statute, respondent cites a number of cases decided by the courts of that state, including In re Kirkman's Estate, 143 Misc. Rep. 342; 256 N. Y. S. 495; In re Hurley's Estate, 149 Misc. 68">149 Misc. 68; 266 N. Y. S. 722; In re Packard's Estate, 146 Misc. 65">146 Misc. 65; 261 N. Y. S. 580; and In re Willets' Estate, 112 N. Y. 289;44 19 N.E. 690">19 N. E. 690. Petitioners oppose respondent's construction of the New York statute, as well as his interpretation of the cases which he 264 cites, and refer us to other cases which they claim demonstrate that such commissions are paid for the care and management of the estate, not for the simple acts of receiving and paying out the assets.The statutory commissions authorized by section 285 above are the only compensation to which fiduciaries are entitled under the laws of the State of New York. In re Hurley's Estate, supra;Matter of Sharp's Estate, 140 Misc. Rep. 427; 251 N. Y. S. 15. The courts of that state have taken the view that the object of the statute was to allow the fiduciary a reasonable compensation for the services performed in administering the trust estate and that it is within the discretion of the Surrogate's Court to determine, within the limits fixed by the statute, what is a reasonable compensation for the services actually performed by the fiduciary. "The reasoning to sustain this view," the Court of Appeals of New York said in In re Bushe, 227 N. Y. 85;45 124 N.E. 154">124 N. E. 154, "is that the testator in selecting a trustee intended to pay him, and that he is entitled to compensation, and that commissions are allowed for the care and management of the estate and not for the simple act of receiving and paying out. Wagstaff v. Lowerre, 23 Barb. 209">23 Barb. 209." The court observed that "this view has been the general practice adopted by the courts, and finds support in the decisions." In re Barker, 230 N. Y. 364; 130 N. E. 579, involved the right to statutory commissions of executors and trutees who had died after having received, but before having paid out, the assets of the estate. The court there said:We think that the Appellate Division was clearly right in holding that these deceased executors and trustees, having died before completion of their duties, did not become entitled as matter of right to statutory commissions. We regard this question as so conclusively settled by our decision in Matter of Bushe, 227 N. Y. 85, 88, 7 A. L. R. 1590, that nothing would be gained by here repeating46 the discussion of it.Also, in In re Wolfe's Estate, 165 Misc. 83">165 Misc. 83; 300 N. Y. S. 312, it was said:Commissions are intended as compensation for service. While commissions are currently catalogued as receiving and as paying out commissions, the actual fact is that the whole body of commissions is designed to be compensation for the whole body of administration of the trust estate. * We think that the more reasonable view, and the one best supported in the cases examined, is that commissions such as the ones here in dispute are paid to the trustees for services rendered or to be rendered to the trust and, in the meaning of section 23 (a) (2), Internal Revenue Code, are "for the management, conservation, or maintenance of property held for the production of income." Such was our holding in Harry Civiletti, 3 T.C. 1274">3 T. C. 1274.The respondent makes the argument in his brief that the trustees' commissions were capital expenditures "because they were in essence 265 the cost of placing property in trust"; and that as such they were "in effect a charge upon the properties arising through the act of47 the settlor or testator in placing the properties in trust and as such constitute a capital expenditure."This argument is disposed of by our finding that the trustees' commissions were paid not for the mere act of receiving the trust corpus, but rather for the services performed or to be performed by the trustees in the maintenance and conservation of the trust assets.In the concluding paragraph of his brief respondent takes the position that: * * In any event, since these commissions were paid out of and chargeable against the corpora of the trusts in the nature of or similar to capital expenditures, they are not deductible under Section 23 (a) (2) of the Code.This contention is directly contrary to the Commissioner's own regulations, section 29.23 (a)-15 above, which provide that it is immaterial whether the expenses of fiduciaries are paid from corpus or from income.In accordance with the views expressed above and the stipulation of the parties, we hold that the entire amounts of commissions paid to the trustees of the several trusts for receiving and paying out trust assets are deductible from the gross incomes of the trusts under section 23 (a) (2).Decisions will be*48 entered under Rule 50.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621877/	CASSIUS C. LOWERS, JR. AND MARY J. LOWERS, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, RespondentLowers v. CommissionerDocket No. 1694-90United States Tax CourtT.C. Memo 1991-75; 1991 Tax Ct. Memo LEXIS 90; 61 T.C.M. (CCH) 1971; T.C.M. (RIA) 91075; February 27, 1991, Filed 90 Decision will be entered for the respondent. Wylie Joseph Neal, for the petitioners. C. Glenn McLoughlin, for the respondent. COUVILLION, Special Trial Judge. COUVILLIONMEMORANDUM OPINION This case was heard pursuant to section 7443A(b)(3) 1 and Rule 180 et seq. Respondent determined deficiencies of $ 4,981 and $ 2,936 in Federal income taxes, respectively, for petitioners' 1985 and 1986 tax years. The only issue for decision is whether certain payments received by Cassius C. Lowers, Jr. (petitioner) during 1985 and 1986 constituted capital gains within the meaning of section 1221. Petitioners have not challenged the other adjustments in the notice of deficiency. The parties stipulated to some of the facts, and these facts, with the annexed exhibits, are so found and incorporated91 herein by reference. At the time the petition was filed, petitioners were residents of Tulsa, Oklahoma. Petitioner initially was an agent for Farmers Insurance Company, Inc., and several of its related companies (hereafter referred to as the "insurance company" or the "company"). The company wrote home and commercial casualty and life insurance. In 1980, petitioner was invited by the company to become a district manager. After considering three districts, petitioner selected District 08-60 at Tulsa, Oklahoma. The district consisted of a certain geographical area which was not indicated at trial; however, it presumably included all or parts of the State of Oklahoma. Petitioner's position as district manager was evidenced by a written contract or agreement executed in December 1980. According to the terms of the agreement, petitioner was required to recruit for appointment and train as many agents as was necessary to produce insurance sales in accordance with the goals and objectives of the company; to maintain required records of his operations; and to service the policyholders of the company, including their claims. The agreement prohibited petitioner as district manager 92 from representing any other insurance company. Although not set out in the agreement, petitioner testified that he was not allowed to sell insurance himself. All expenses in connection with the district office, including costs of maintaining the office and recruiting and training agents, were petitioner's responsibility. For his services, the agreement provided that petitioner would be paid a percentage or "overwrite" of all business produced by his agents "in accordance with schedules and rules adopted from time to time by the respective companies." The agreement also provided for termination, cancellation, or transfer of the contract to a successor district manager. In such situations, the option rested with the company to either pay a "contract value" to the district manager, in which event the agreement was terminated or canceled, or the company could allow a transfer of the agreement or contract to an acceptable "nominee" proposed by the outgoing manager. If an agreement was canceled or terminated, the company was obligated to pay the district manager a "contract value," the amount of which was determined by a formula set out in the agreement based upon the district manager's93 commissions for the six months preceding the termination multiplied by a number based upon the manager's years of service. The longer a district manager served, the more he would be paid. If the company elected not to cancel or terminate the agreement in this manner, but instead allowed a transfer to an acceptable nominee, the outgoing district manager was allowed to negotiate with the nominee for compensation in an amount which could not exceed the contract value set out in the agreement. Upon cancellation, termination, or transfer, the outgoing district manager was no longer entitled to receive commissions or "overwrites." In addition, the outgoing manager could not compete against the company within the district for three years. The agreement provided that all records maintained by the district manager, including expiration lists, were the property of the company to be surrendered upon termination or cancellation of the agreement. 294 Petitioner and the company mutually agreed to a cancellation or termination of the agreement on May 1, 1985. It was agreed that petitioner's contract value was $ 42,375.65. The company paid petitioner $ 21,125 during 1985 and $ 21,251 during 1986 in discharge of its obligation. Following termination of the agreement, petitioner was appointed an agent for the company. On their 1985 and 1986 income tax returns, petitioners reported the $ 21,125 and $ 21,251 payments on Schedule D of their returns as long term capital gains. Respondent determined that these payments were not capital gains but instead were ordinary income. Section 1221 provides: 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 * * ; (2) property, used in his trade or business, of a character * * * subject to * * * depreciation * * * ; (3) a copyright * * * ; (4) accounts or notes receivable acquired in the ordinary course of * * * business * * * ; (5) a publication of the United States Government * * * ; Section 1222(3) provides: "The term 'long-term95 capital gain' means gain from the sale or exchange of a capital asset." (Emphasis added.) In United States v. Eidson, 310 F.2d 111">310 F.2d 111, 113-114 (5th Cir. 1962), a case involving facts very similar to this case, the Court stated: As we approach a consideration of the basic questions in this case, it is helpful to remember what has many times been made clear by the Supreme Court -- it is not every transfer for a consideration of property that gives rise to a capital gain. In Commissioner of Internal Revenue v. Gillette Motor Co., 364 U.S. 130">364 U.S. 130, 4 L. Ed. 2d 1617">4 L. Ed. 2d 1617, 80 S. Ct. 1497">80 S. Ct. 1497, the Court said at page 134, 364 U.S. 130">364 U.S. 130, 80 S. Ct. 1497">80 S. Ct. 1497 at page 1500, 4 L. Ed. 2d 1617">4 L. Ed. 2d 1617: "While a capital asset is defined in section 117(a)(1) [of the Internal Revenue Code of 1939, the precursor of Section 1221] as 'property held by the taxpayer,' it is evident that not everything which can be called property in the ordinary sense and which is outside the statutory exclusions qualifies as a capital asset. This Court has long held that the term 'capital asset' is to be construed narrowly * ." The Court held in Eidson that amounts received by the taxpayers for the transfer of their96 rights in an insurance management contract represented the present value of income which the recipients would otherwise obtain in the future, quoting Commissioner v. P.G. Lake, Inc., 356 U.S. 260">356 U.S. 260, 266, 2 L. Ed. 2d 743">2 L. Ed. 2d 743, 78 S. Ct. 691">78 S. Ct. 691 (1958): "In short, consideration was paid for the right to receive future income, not for an increase in the value of the income-producing property." The payments at issue were held to be ordinary income and not capital gain. In Vaaler v. United States, 454 F.2d 1120 (8th Cir. 1972), a case involving the cancellation of a general insurance agency contract, the Court held that payments to the agent for termination of the contract were ordinary income. The Court pointed out, at page 1122, "it has long been settled that a taxpayer does not bring himself within the capital gains provision merely by fulfilling the simple syllogism that a contract normally constitutes 'property,' that he held a contract, and that his contract does not fall within a specified exclusion." The Court found that no "property" was sold or exchanged by the agent, concluding, at page 1123: As we view it, what [the agent] relinquished in return for the $ 13,861.20 was the 97 right to render personal services as general agent of [the insurance company] and to earn a five percent override on all policies sold in the territory. His right under the contract to future commissions (earnings) thereby came to an end. Such commissions had they been earned would have constituted ordinary income. Thus, we hold that the lump sum paid for the extinguishment of the right to render such services and to earn such commissions constituted ordinary income. In Brown v. Commissioner, 40 T.C. 861 (1963), the taxpayer was "director of agencies" for an insurance company in which he recruited agents for the company and received percentages of the first-year and renewal premiums paid by the policyholders. The taxpayer assigned his contract for a cash consideration of $ 43,564.15. This Court, stating that the facts before it were substantially like the facts in United States v. Eidson, supra, held that the payments received by the taxpayer were ordinary income. In Hodges v. Commissioner, 50 T.C. 428 (1968), where the taxpayer sold an insurance agency, this Court held that the portion of the consideration for commissions98 from renewal premiums constituted ordinary income. Finally, in Elliott v. United States, 431 F.2d 1149">431 F.2d 1149 (10th Cir. 1970), the Court held that payments to a general insurance agent for cancellation of an agency contract constituted ordinary income. In that case, after the cancellation, the taxpayer retained the right to collect commissions on premiums with respect to insurance policies written during the time the taxpayer had been the agent. In this case, petitioners point to this difference. The Court sees no significance to that difference because the character of the future commissions to be received by the agent in Elliott was not at issue and, even if the future commissions had been at issue, there appears little doubt that such payments would have been ordinary income, since compensation for services rendered is taxable in the year in which the compensation is received. Sivley v. Commissioner, 75 F.2d 916">75 F.2d 916 (9th Cir. 1935), affg. a Memorandum Opinion of this Court. Since payments received by the taxpayer in Elliott in succeeding years related precisely to the character of the payments received at the time the contract was terminated, 99 it is evident that future commissions would likewise have been ordinary income. The factual difference, therefore, between Elliott and this case is immaterial. The basic and fundamental fact in this case, as well as in all other cases cited, is that petitioners gave up a right to future income, and the courts have consistently held that payments received in consideration for future income constitute ordinary income. Petitioners argued, citing Rev. Rul. 65-180, 2 C.B. 279">1965-2 C.B. 279, and cases cited therein, that they had a basis in their manager's contract evidenced by the expenses petitioners incurred over the years in operating the office and in the recruitment and training of agents, all of which petitioners were required to bear. Additionally, the expiration lists and other records of petitioner's office which were surrendered to the insurance company constituted goodwill. Ostensibly, the argument purports to establish that the expenses incurred over the years established a basis in petitioner's contract, thus giving credence to their contention that they owned "property" within the meaning of section 1221, and that in canceling the contract there100 was a "sale or exchange" for purposes of section 1222 by virtue of the records' being surrendered to the company. Additionally, that portion of the contract which constituted goodwill would, without doubt, be characterized as a capital gain asset. Petitioners' argument is not persuasive. To begin with, the records petitioners compiled and surrendered, while very valuable, were not petitioners' records. The manager's agreement expressly provided that all records of the district manager were the exclusive property of the company. Secondly, although petitioners incurred expenses over the years as district manager, there was no evidence presented to establish that these expenses were capitalized and not deducted on their income tax returns for each of the years in which petitioner was district manager. Petitioners, therefore, had no basis. This argument was made in Elliott, and the Court found the taxpayer had no basis because all prior years' expenses had been claimed as deductions on the taxpayer's tax returns. Finally, the Court notes that, since petitioner was obligated upon cancellation of the contract not to compete against the company for three years, to the extent *101 that any portion of the payments represented payments for a covenant not to compete, such payments constitute ordinary income. Major v. Commissioner, 76 T.C. 239">76 T.C. 239, 245 (1981). Respondent, therefore, is sustained in the determination that the payments at issue constituted ordinary income. Decision will be entered for the respondent.Footnotes1. Unless otherwise indicated, all section references are to the Internal Revenue Code of 1954 as amended and in effect for the years at issue. All Rule references are to the Tax Court Rules of Practice and Procedure.↩2. In Blaine v. United States, 441 F.2d 917">441 F.2d 917, 919↩ n.1 (5th Cir. 1971), the Fifth Circuit noted that the District Court in its instruction to the jury defined insurance expirations as "records of an insurance agency by which the agent has available a copy of the policy issued to the insured or records containing the date of the insurance policy, the name of the insured, the date of its expiration, the amount of insurance, premiums, property covered, and terms of insurance. This information enables the agent to contact the insured before the existing contract expires and arms him with the information essential to secure another policy and to present to the insured a solution for his insurance requirements. This expiration list is an asset that is characterized as intangible personal property."	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621878/	Arkansas Motor Coaches, Limited, Inc., Petitioner, v. Commissioner of Internal Revenue, RespondentArkansas Motor Coaches, Ltd. v. CommissionerDocket No. 32534United States Tax Court28 T.C. 282; 1957 U.S. Tax Ct. LEXIS 202; April 30, 1957, Filed 202 Decision will be entered under Rule 50. Respondent allowed petitioner's claim in part for relief under section 722 (b) (4), I. R. C. 1939. Throughout the base period it was involved in litigation regarding the granting of a certificate of convenience and necessity by the Interstate Commerce Commission, which it needed to operate. Although it was allowed to operate and those operations were not interfered with during the base period, it did not receive the certificate until 1940. It contends that the lack of a certificate was one of the prime causes of low base period earnings and that it is entitled to a reconstruction much greater than the Commissioner has granted in his deficiency notice, based on the assumption that it did have a certificate. Petitioner contends that under such construction its CABPNI for 1942 would be $ 68,188.86. Held, that even if we assume that petitioner had been granted the certificate of convenience and necessity prior to December 31, 1939, it would not have reached the level of earnings by December 31, 1939, for which it contends. Held, further, petitioner is entitled to a CABPNI somewhat higher than the Commissioner has determined. Petitioner's203 CABPNI to be used for 1942 determined to be $ 22,000. Wentworth T. Durant, Esq., for the petitioner.Douglas M. Moore, Esq., and Allen T. Akin, Esq., for the respondent. Black, Judge. BLACK 282 This proceeding involves a redetermination of income tax and excess profits tax for the year 1942. The respondent has determined a deficiency in income tax of $ 10,107.57 and an overassessment in excess profits tax of $ 15,776.13. The statutory notice contained the following explanation:After careful consideration of your application for relief, Form 991, it has been determined that you established the existence of a qualifying factor under section 722 (b) (4) of the Internal Revenue Code, and therefore, were entitled to a constructive average base period net income in the amount of $ 15,472.00 for the taxable year ended204 December 31, 1942. Furthermore, it has been held that you were entitled to constructive average base period net incomes in the respective amounts of $ 13,997.33 and $ 14,964.32 for the taxable years ended December 31, 1940 and December 31, 1941, for the purpose of determining any unused excess profits credit carry-over from these years to the taxable year ended December 31, 1942. * * The Commissioner computed the constructive average base period net income (hereinafter referred to as CABPNI) of $ 15,472, which he has used for the taxable year 1942, as follows:Taxpayer's actual 1939 passenger revenue$ 121,127.00Increased 7.6 per cent for first year9,205.65130,332.65Increased 7.6 per cent for second year9,905.28Constructive passenger revenue for 1939$ 140,237.93Add: Taxpayer's 1939 "other revenue"12,053.00Constructive gross revenue for 1939152,290.93Constructive net profit for 1939 at 10 1/2per cent ($ 15,990.54 rounded)16,000.00Constructive average base period net income at 96.7per cent of 193915,472.00283 The petitioner, in its petition, alleges that the respondent's determination of taxes is based upon the following error:Failure205 to allow Constructive Average Base Period Net Income to Petitioner in the amount of $ 59,486.70 to be used in lieu of petitioner's average base period net income in determining petitioner's excess profits tax for the year 1942 and for the purpose of determining the excess profits tax carry-over from the years 1940 and 1941, pursuant to the provisions of Section 722 of the Internal Revenue Code in accordance with the claim for Refund for the year 1942, filed September 3, 1943 by petitioner on Form 991.In its brief the petitioner contends for a CABPNI of $ 68,188.86.The question involved, therefore, is, has the petitioner established that "a fair and just amount representing normal earnings to be used as a CABPNI for purposes of an excess profits tax" is in excess of the amount determined by the Commissioner.FINDINGS OF FACT.A stipulation of facts has been filed and is incorporated herein by reference.Arkansas Motor Coaches, Limited, Inc. (hereinafter called petitioner), is a corporation organized under the laws of the State of Arkansas, having its principal place of business at Little Rock. It filed its income and excess profits tax returns for the years 1940, 1941, and 1942 206 with the then collector of internal revenue at Little Rock, Arkansas. These returns were prepared upon the accrual basis of accounting.History of Operation and Operating Certificates.A partnership or joint venture known as Arkansas Motor Coaches, Ltd., which was the predecessor of petitioner, commenced operation as a passenger bus carrier between Memphis and Little Rock on or before September 16, 1935, and between Little Rock and Texarkana on or before September 17, 1935. Raymond Rebsamen (hereinafter referred to as Rebsamen), a wealthy and successful businessman of Little Rock, financed its operation. Its franchises, certificates, and permits were obtained in the name of Milton D. Leeper (hereinafter referred to as Leeper), doing business as Arkansas Motor Coaches, Ltd. Franchises, certificates, and permits obtained in the name of Leeper were as follows:284 1. Interstate permit from the State of Tennessee dated September 16, 1935, authorizing operations as an interstate carrier in and out of Memphis, Tennessee, from West Memphis, Arkansas.2. Letter from the Railroad Commission of the State of Texas dated October 3, 1935, advising that no Texas permit was required207 to operate out of a terminal located on the Texas side of Texarkana.3. Interstate permit from the State of Arkansas dated October 8, 1935, authorizing operations as an interstate carrier between Texarkana and Memphis over U. S. Highway 67 from Texarkana to Arkadelphia, thence over Arkansas Highway 7 to Hot Springs, thence over U. S. Highway 70 to Little Rock and Memphis, Tennessee, a total distance of 315 miles.4. Intrastate permit from State of Arkansas dated February 13, 1936, authorizing intrastate service between Texarkana and West Memphis, Arkansas, via Hot Springs and Little Rock, serving all intermediate points.These franchises, certificates, and permits enabled petitioner and/or its predecessor to operate along the 315-mile route between Memphis and Texarkana.Section 206 of the Motor Carrier Act of 1935, 1 required motor carriers operating in interstate commerce to secure a certificate of convenience and necessity from the Interstate Commerce Commission (hereinafter referred to as the I. C. C.) which enforced the Act. Carriers in operation on June 1, 1935, could obtain a certificate without further proof of convenience and necessity under the "grandfather" clause. 208 The Act also, in effect, provided that carriers which began operations after June 1, 1935, but prior to October 15, 1935, if they filed an application for a certificate in time, could continue to operate until the I. C. C. ordered otherwise. Petitioner's predecessor fell within this latter category.On January 17, 1936, Leeper filed an application with the I. C. C. for a certificate of public convenience and necessity as an interstate carrier over the route on which the partnership or joint venture was operating from Texarkana to Memphis. Leeper's application to the I. C. C. for a certificate of public convenience and necessity as an interstate carrier was opposed by the MissouriPacific Railroad Company, the MissouriPacific Transportation Company (hereinafter sometimes referred to as Missouri Pacific), Southwestern Greyhound Lines, Inc., and Dixie Greyhound Lines, Inc.The petitioner was209 organized for the purpose of operating passenger buses in intrastate and interstate commerce between Texarkana and Memphis. Its authorized capital stock was 100 shares. Rebsamen and his family subscribed to 51 shares. Leeper subscribed to 49 shares. 285 Petitioner's corporate charter was issued on November 15, 1935; however, it did not commence business until March 14, 1937. On that date, in fulfillment of an agreement of its subscribers entered into prior to October 15, 1935, petitioner took over all of the franchises, licenses, permits, applications for permits or licenses then pending, equipment, and other assets and assumed the liabilities of Arkansas Motor Coaches, Ltd.On March 30, 1937, the application of Leeper dated January 17, 1936, for a certificate of public convenience and necessity, was heard by Joint Board No. 34, and on January 4, 1938, the findings of that Board recommending the granting of a certificate were served on the protestants. Joint Board No. 34 of the I. C. C. was composed of a representative from Arkansas, a representative from Tennessee, and a representative from Texas. This Board granted a motion to substitute Arkansas Motor Coaches, Ltd., 210 Inc., as the successor of the applicant Leeper. After an extensive hearing, the Board found as facts (1) that since the applicant had received a certificate from the Arkansas Corporation Commission it could continue to operate in interstate or foreign commerce over the highways of Arkansas, which constituted over 99 per cent of its route, 2 without the need of the proceeding before that Board; (2) that the public convenience and necessity required the continuance of operations by petitioner as a common carrier, by motor vehicle, in interstate and foreign commerce, of passengers and their baggage, and of newspapers, express, and mail in the same vehicle with passengers, between Memphis and Texarkana via Little Rock and Hot Springs; and (3) that petitioner was fit, willing, and able properly to continue said service and to conform to the provisions of the Motor Carrier Act of 1935 and the requirements, rules, and regulations of the I. C. C. The board recommended that a certificate of public convenience and necessity be issued to petitioner.211 An order of Division 5 of the I. C. C. granting the certificate 3 applied for and recommended by the Joint Board No. 34, was published on November 14, 1938.On objection by the MissouriPacific Transportation Company, the case was reopened for oral argument on April 17, 1939. The earlier findings and order were upheld by the I. C. C. on March 5, 1940, but by inadvertence the order was not served on the petitioner until November 20, 1940. The I. C. C. denied the contention of Missouri Pacific that petitioner's operation merely diverted traffic from Missouri Pacific but indicated that new business had been developed and Missouri286 Pacific's operation had been expanded to meet the increased demand for service.Other Routes.On April 8, 1938, the petitioner purchased the McKee Bus Lines, including certificates covering routes between Jonesboro, Arkansas, and Cape Girardeau, Missouri, and between Paragould, 212 Arkansas, and Sikeston, Missouri, additional routes totaling 320 miles. On June 1, 1939, the petitioner acquired Jeff's Taxi Line and its certificate issued by the I. C. C. to operate interstate between Memphis and West Memphis. This acquisition insured the petitioner right to operate over its 315-mile route in the event its application for a certificate was denied by the I. C. C. On October 1, 1939, these franchises and some of petitioner's buses were transferred or sold to the Arkansas Motor Coaches of Tennessee, Inc., a separate corporation controlled by Rebsamen. After these transfers to Arkansas Motor Coaches of Tennessee and continuing throughout 1939, petitioner operated only the 315-mile route from Texarkana to Memphis, via Hot Springs and Little Rock.Management.M. E. Moore, a man with about 7 years' experience in various phases of the bus industry, was hired by petitioner's predecessor as traffic manager in 1936, and in 1937 he became manager of the petitioner. He remained with petitioner in that capacity until 1943, when he became president of Bowen Motor Coaches of Fort Worth, Texas, which through later affiliation became the Continental Bus System. Rebsamen213 was not active in petitioner's management other than in a financial capacity. Moore consulted with him with respect to the financial matters relative to the corporation and its operations.Equipment.The equipment used by petitioner's predecessor consisted of several elongated 11-passenger Ford sedans. Shortly after petitioner took over the active operation of its predecessor's business in March 1937, it began replacing the 11-passenger Ford sedans with buses having capacities for 16, 19, and 21 passengers. In 1938, petitioner acquired some large buses seating 25 passengers. In 1939, petitioner acquired more 25-passenger buses and also three 29-passenger buses. By 1939, only these new larger buses were used on the Memphis, Little Rock, Hot Springs, and Texarkana route. On August 31, 1939, 4 of its smaller buses were sold to Arroway Coaches, Inc., a carrier having its principal place of business at Jonesboro and operating between Jonesboro and Little Rock. On October 1, 1939, 10 of petitioner's buses 287 were transferred to Arkansas Motor Coaches of Tennessee, Inc. In 1940, 1941, and 1942, the buses that petitioner acquired were mostly 29-passenger buses.Listings214 .Russell's Official National Motor Coach Guide is an official publication of buslines in the United States, Alaska, Canada, and Mexico, and is known in the trade as the "Red Book." It is published monthly and contains indices indicating in alphabetical order the carriers serving each town, their terminal addresses in the major cities, schedules and timetables, individual advertisements, and, in some instances, the tariffs. Although only those carriers buying representation are listed, most of the carriers are represented in the Red Book. Commencing with the May 1936 issue and continuously thereafter, petitioner's schedules, tariffs, terminals in Texarkana, Hot Springs, Little Rock, and Memphis, and advertisements have been listed in the Red Book and petitioner has been fully represented in the Red Book indices. The schedules listed in the Red Book as operated by Arkansas Motor Coaches include both those of petitioner and Arkansas Motor Coaches of Tennessee, Inc.The Official National Bus Guide and Basing Tariff is an official publication of buslines in the southwestern region and is known in the trade as the "Green Book." Arkansas is a part of the southwestern region. The Green215 Book is published monthly and contains indices indicating in alphabetical order the carriers serving each town in the region, their schedules and timetables, their tariffs, and individual advertisements. Only those carriers buying representation are listed; however, all significant carriers in the region are represented in the Green Book. Commencing with the July 1936 issue and continuously thereafter, petitioner has been fully represented in the Green Book.The official publishing agent for the bus industry is the National Bus Traffic Association in Chicago. It publishes the official tariffs for the industry. The petitioner was not fully represented in that association's publications during the base period years.Terminal Arrangements.Through the base period, the principal bus lines operating into points served by Arkansas Motor Coaches were as follows:TexarkanaArkansas Motor CoachesMissouri Pacific Transportation Co.Southwestern Greyhound LinesDixie Motor CoachesTri-State Transit Company of LouisianaNance Bus LinesHot SpringsArkansas Motor CoachesMissouri Pacific Transportation Co.Santa Fe TrailwaysDixie Motor Coaches and its lesseesTri-State Transit Company of LouisianaLittle RockArkansas Motor CoachesMissouri Pacific Transportation Co.Southwestern Greyhound LinesCrown Coach Co.Interurban Transportation Co.Santa Fe TrailwaysArroway CoachesMemphisArkansas Motor CoachesMissouri Pacific Transportation Co.Southwestern Greyhound LinesDixie Greyhound LinesMissouriArkansas Coach LinesTri-State Transit Company of Louisiana216 288 All of the carriers listed as operating into Memphis, except Tri-State Transit Company of Louisiana, also operated into West Memphis, Arkansas.The terminal arrangements of petitioner, its connecting carriers, and competitors, during the base period are summarized as follows:Texarkana. Commencing prior to May 1936, petitioner operated out of a separate terminal at the Grimm Hotel in Texarkana. The Grimm Hotel had no facilities for colored passengers, who constituted a substantial portion of petitioner's passengers. Commencing approximately October 1936 and continuing until March 1938, petitioner operated out of the Greyhound terminal at 103 State Line, as well as out of its terminal at the Grimm Hotel. From March 1938 through the remainder of the base period and continuing thereafter, petitioner operated out of the Greyhound terminal in Texarkana. Petitioner did not have its own ticket agent at the Greyhound terminal; all tickets were sold by the Greyhound agents. Petitioner picked up passengers but did not discharge them at the Greyhound terminal. Throughout the base period and continuing thereafter, Southwestern Greyhound Lines, Tri-State Transit Company of217 Louisiana, and Nance Bus Lines, all operated out of the Greyhound terminal in Texarkana. Throughout the base period and continuing thereafter, MissouriPacific Transportation Company and Dixie Motor Coaches operated out of the Union Bus terminal (later known as the Trailways Union Bus terminal) at 102 State Line, Texarkana. From July 1937 throughout the remainder of the base period and continuing thereafter, MissouriPacific Transportation Company also picked up passengers at the Greyhound terminal in Texarkana before commencing scheduled runs from its own terminal.Hot Springs. Commencing prior to May 1936 and continuing until about October 1937, petitioner operated out of its separate terminal 289 at the Broadway Hotel in Hot Springs. The Broadway Hotel did not have facilities for colored passengers. After October 1937, petitioner operated out of the Tri-State Transit Company of Louisiana's terminal in Hot Springs. Throughout the base period and continuing thereafter, MissouriPacific Transportation Company operated a bus terminal at Bridge and Central in Hot Springs. Dixie Motor Coaches operated out of the Missouri Pacific terminal throughout that period. Commencing218 about April 1938, throughout the remainder of the base period and continuing thereafter, Santa Fe Trailways operated out of the Missouri Pacific terminal in Hot Springs. MissouriPacific Transportation Company also picked up and discharged passengers at the Missouri Pacific railroad station in Hot Springs.Little Rock. Commencing in May 1936 and continuing until January 1939, petitioner operated out of a terminal at 106 West Markham in Little Rock. This terminal had no facilities for colored passengers. Commencing in January 1939, throughout the remainder of the base period, and continuing thereafter, petitioner operated out of its new terminal at 100 East Markham in Little Rock. 4 Arroway Coaches shared petitioner's new terminal during 1939 and the period thereafter. Commencing in March 1937, throughout the remainder of the base period, and continuing thereafter, petitioner also picked up passengers at the Greyhound terminal in Little Rock before commencing scheduled runs from its own terminal. Greyhound agents sold all tickets at the Greyhound terminal. Throughout the base period and continuing thereafter, Southwestern Greyhound Lines, Crown Coach Company, and Interurban219 Transportation Company, all operated out of the Greyhound terminal at Sixth and Louisiana in Little Rock. During 1936, 1937, and 1938, these three companies also picked up and discharged passengers at the Greyhound terminal at 113 West Markham in Little Rock. Throughout the base period and continuing thereafter, MissouriPacific Transportation Company and Santa Fe Trailways operated out of a terminal at the corner of Markham and Louisiana in Little Rock.220 Memphis. Commencing prior to July 1936 and continuing until August 1937, petitioner operated out of its separate terminal at 122 South Third in Memphis. This terminal did not have adequate facilities. Commencing about September 1937, throughout the remainder of the base period, and continuing thereafter, petitioner and Tri-State Transit Company of Louisiana both operated out of, and 290 Missouri-Arkansas Coach Lines picked up passengers at, a terminal at 269 South Main in Memphis. During 1938 and 1939, petitioner and Tri-State Transit Company of Louisiana operated an additional station at 156 Monroe in Memphis at which they picked up and discharged passengers. Throughout the base period and continuing thereafter, Southwestern Greyhound Lines and Dixie Greyhound Lines operated out of the Union bus terminal at 161 Monroe in Memphis. During the base period neither petitioner nor Missouri Pacific Transportation Company picked up or discharged passengers at the Union bus terminal in Memphis. Throughout the base period and continuing thereafter, MissouriPacific Transportation Company and Missouri-Arkansas Coach Lines operated out of a terminal at 170 Monroe in Memphis. 221 MissouriPacific Transportation Company also picked up and discharged passengers at the Missouri Pacific railroad passenger station in Memphis.West Memphis. Throughout the base period and continuing thereafter, all of the bus carriers operating into West Memphis, Arkansas, operated out of a single, privately owned Union bus terminal.Interchange and Competition.Interchange agreements 5 between motor carriers of passengers are usually oral. Throughout the base period, the petitioner did carry on interchange at all of its terminal points with all the major connecting carriers except MissouriPacific Transportation Company. The MissouriPacific Transportation Company specifically refused to accept any tickets for passage over its lines if such tickets also contained a routing over petitioner's line.It is the usual custom and practice for 222 all motor carriers of passengers to route business on their own lines for the greatest mileage possible. Unless passengers make a request for specific routings, each carrier will attempt to haul them on its own line, even though such may not be the most direct route.Throughout the base period and continuing thereafter, petitioner had competition from the MissouriPacific Transportation Company which had long supplied its interconnecting carriers with substantial interchange revenue in exchange for which such interconnecting carriers routed their continuing passengers over the Missouri Pacific lines. Petitioner and its predecessor, throughout the base period and continuing thereafter, were faced with this competition for interchange. After the petitioner started in business, Missouri Pacific put all new equipment on its schedules between Memphis and Texarkana. During the base period, neither petitioner's equipment, schedules, nor 291 passenger terminals were as desirable as those of MissouriPacific Transportation Company.In January 1936, petitioner's predecessor had three schedules in each direction between Memphis and Little Rock, and one schedule in each direction between223 Little Rock and Texarkana. By the summer of 1936, it had added two schedules between Little Rock and Texarkana. Later in the year, it added another schedule between Memphis and Little Rock and between Little Rock and Texarkana.As of December 1939, petitioner was operating daily schedules as follows:Westbound:3 schedules Memphis to Texarkana1 schedule Memphis to Hot Springs1 schedule Little Rock to TexarkanaEastbound:3 schedules Texarkana to Memphis1 schedule Texarkana to Little Rock1 schedule Little Rock to Memphis1 schedule Hot Springs to Little RockU. S. Highway 70, Memphis to Little Rock, practically parallels the route between those points of the Chicago, Rock Island, and Pacific Railroad Company. U. S. Highway 67, Little Rock to Texarkana, practically parallels the route between those points of the MissouriPacific Railroad Company. Both of those railroads serve Hot Springs.Commencing in 1929 and continuing throughout the base period and thereafter, MissouriPacific Transportation Company operated buslines between Texarkana and Memphis over the most direct route via Malvern and Little Rock. It operated additional schedules between Texarkana and Memphis224 via Hot Springs and Little Rock over the exact route used by petitioner. It also operated additional shuttle service between Little Rock and Hot Springs.Since 1929, MissouriPacific Transportation Company had expanded its operations to 10 States.As of the summer of 1935, MissouriPacific Transportation Company was operating four schedules each way between Memphis and Little Rock, and three schedules each way between Little Rock and Texarkana, in addition to local schedules between Hot Springs and Little Rock. By January 1938, it had added an additional schedule each way between Memphis and Little Rock and an additional schedule each way between Little Rock and Texarkana. Certain local schedules were also added between Memphis and Brinkley, Arkansas.As of December 1939, MissouriPacific Transportation Company was operating daily schedules in competition with petitioner, as follows:292 Westbound:6 schedules Memphis to Little Rock4 schedules Little Rock to Texarkana, one of which was via Hot Springs and three via Malvern5 additional schedules Little Rock to Hot SpringsEastbound:5 schedules Little Rock to Memphis1 schedule Forrest City, Arkansas, To Memphis, 225 originating at Marianna, Arkansas4 schedules Texarkana to Little Rock, one of which was via Hot Springs and three via Malvern5 additional schedules Hot Springs to Little RockAs of December 1939, MissouriPacific Transportation Company was also operating daily schedules between Little Rock and St. Louis; Little Rock and Fort Smith; between Little Rock and Monroe, Louisiana; over U. S. Highway 65 from Little Rock southeast into Louisiana; as well as many additional routes between smaller cities in Arkansas and interstate lines extending to Brownsville, Texas; Topeka, Kansas; Omaha, Nebraska; Cairo, Illinois; and Natchez, Mississippi.Prior to, during, and continuing after the base period Southwestern Greyhound Lines operated between Texarkana and Memphis over a different route via Camden, Pine Bluff, Stuttgart, and Brinkley. It also operated between Memphis and Little Rock via Brinkley and Stuttgart.As of December 1939, Tri-State Transit Company of Louisiana was advertising in the Red Book bus connections between Shreveport and Memphis, via Tri-State Transit Company Shreveport to Camden, and via Southwestern Greyhound Lines Camden to Memphis, and between Hot Springs and Memphis226 via Tri-State Transit Company Hot Springs to Pine Bluff, and via Southwestern Greyhound Lines Pine Bluff to Memphis.Throughout the base period the petitioner and its predecessor were financially fit, willing, and able to provide such funds and equipment as were necessary to operate as an interstate carrier over its route, and so advised the I. C. C.CABPNI.The following schedules contain information 6 relating to the operation of the petitioner 7 and of 21 class I motor carrier passengers (including petitioner) in the southwest region for the years 1938 and 1939: 293 Petitioner's 315-mile Main Route YearPassengerBus milesRevenue perrevenuemile1938$ 109,503896,795$ 0.122101939121,127977,994.12385Revenues and ExpensesTotalTotalNetNetYearoperatingexpenseoperatingoperatingBus milesrevenuerevenuerevenuepercentPetitioner1938$ 148,194$ 149,267($ 1,073)(1.07)1,333,2501939183,395177,4575,938 3.2 1,375,94721 Carriers1938$ 14,540,290$ 12,157,912$ 2,382,378 16.4 75,600,361193914,978,46312,864,0582,114,405 14.1 77,677,715227 Revenue and Expenses Per MileYearRevenueExpensesNet operatingrevenuePetitioner1938$ 0.11115$ 0.11196($ 0.00081)1939.13329.12897.00432 21 Carriers1938$ 0.19233$ 0.16082$ 0.03151 1939.19283.16561.02722 Percentage of Increase in Passenger RevenuesPetitionerYear(315-mile21 carriersroute) 1938$ 109,503$ 13,611,2991939121,12714,058,365Percentage of increase11.063.28Percentage of Increase in PassengersYearPetitioner 21 carriers1938236,48413,722,6211939275,92214,304,543Percentage of increase 1938-3916.684.24228 294 Petitioner's excess profits net income or (loss) was as follows:1937 1($ 2,493.13)1938(16.21)1939690.51 The petitioner's average base period net income (hereinafter sometimes referred to as ABPNI) computed under section 713 (f), Internal Revenue Code of 1939, 8 is $ 19.88. The excess profits credits allowed by the Commissioner before the application of section 722 were based on invested capital and are $ 1,552.37, $ 1,552.37, and $ 2,718.66 for the years 1940, 1941, and 1942, respectively. The Commissioner determined that petitioner qualified for relief under section 722 (b) (4); that its reconstructed normal earnings for 1939 was $ 16,000; and that it was entitled to a CABPNI of $ 13,997.33, $ 14,964.32, and $ 15,472 for the years 1940, 1941, and 1942, respectively. The excess profits credit based on a CABPNI allowed by the Commissioner in his statutory notice of deficiency dated November 7, 1950, is as follows:1940 1$ 13,297.461941 114,216.10194214,698.40The unused excess profits credit for the years 1940 and 1941, carried over into 1942, allowed by the Commissioner229 in his statutory notice is $ 15,972.98 ($ 10,446.61 from 1940, plus $ 5,526.37 from 1941).A fair and just amount representing the petitioner's reconstructed net profit for 1939 is $ 22,765.15. Petitioner's CABPNI to be used for the taxable year 1942 is $ 22,000.Petitioner's CABPNI should be computed for its taxable years 1940 and 1941 in the same manner as the Commissioner used in his deficiency notice for the purpose of determining any unused excess profits credit carryover from those years to the taxable year 1942, except in making such computation the Commissioner shall use $ 22,000 as petitioner's CABPNI for the year 1942, instead of $ 15,472, which he used in the deficiency notice.OPINION.The respondent has recognized the existence of a qualifying factor under section 722 (b) (4) and has made a partial allowance of petitioner's claim for relief. He has used a CABPNI of $ 15,472 9 in determining the excess profits tax for the 230 year 1942, in lieu of petitioner's ABPNI of $ 19.88 computed under section 713 (f). 295 The petitioner contends in its petition that a CABPNI of $ 59,486.70 10 should be used. The question, therefore, is, has the petitioner established that "a fair and just amount representing normal earnings to be used as a CABPNI for purposes of an excess profits tax" is in excess of the amount determined by the Commissioner.The petitioner qualifies for relief under section 722 (b) (4) since it commenced business during the base period on March 14, 1937, and since the respondent has recognized that its ABPNI is an inadequate standard of normal earnings. Cf. Victory Glass, Inc., 17 T. C. 381 (1951).231 Throughout the base period, the petitioner and its predecessor, which commenced business on September 16, 1935, were engaged as intrastate and interstate carriers of passengers by bus between Memphis and Texarkana via Little Rock and Hot Springs, a distance of 315 miles. The petitioner's predecessor had certificates from the various State authorities that entitled it to operate over the route. These were all transferred to the petitioner when it commenced business. The Motor Carrier Act of 1935, was approved on August 9, 1935, and its provisions became effective October 1, 1935. It provided, inter alia, that carriers in interstate commerce were required to acquire a certificate of convenience and necessity from the I. C. C. Under the grandfather clause, carriers in operation on June 1, 1935, could acquire a certificate without further proof of convenience and necessity. It also, in effect, provided that carriers which commenced operations after June 1, 1935, but prior to October 15, 1935, could, if they filed an application for a certificate, continue to operate until the I. C. C. ordered otherwise. The petitioner's predecessor filed an application for a certificate, and232 since it commenced operations between June 1, 1935, and October 15, 1935, it was entitled to continue until the certificate was denied. The I. C. C. granted a motion substituting the petitioner for its predecessor. After an extensive hearing, an order granting the certificate was filed on November 14, 1938; however, Missouri Pacific, the principal protestant, objected to the granting of the certificate and the case was reopened. The I. C. C. finally granted the certificate in 1940.As stated previously, the petitioner and its predecessor were entitled to operate during the base period, and they did operate throughout the base period without any interference, except for the I. C. C.'s denying it the right to operate locally between West Memphis and Memphis. Petitioner's predecessor began operation with elongated Ford sedans that seated 11 passengers. These were replaced by 16-, 19-, and 21-passenger buses starting in 1937. In 1938 and 1939, it acquired 25- and 29-passenger buses. By the end of the base period it only used these new larger buses on its Memphis to Texarkana route.296 The petitioner was fully represented in the Red Book and the Green Book, which were official233 publications of the buslines for North America and the southwest region (the region where petitioner was located), respectively. These publications contain information relating to terminals, schedules, timetables, and, in some instances, tariffs. The petitioner, however, was not fully represented during the base period in the publication of the National Bus Traffic Association, which contained the official tariffs for the industry. These publications are used by ticket agents throughout the country in routing passengers on other carriers to places beyond where their own carriers travel.The petitioner's predecessor had meager terminal facilities when it commenced operations but by the end of the base period the petitioner acquired its own separate terminal in Little Rock on a 5-year lease and had improved the property at a cost of not less than $ 8,350, and had arrangements for operating out of the terminals of other major carriers at the other main stops on its route.The petitioner carried on interchange with all of the major connecting carriers, except Missouri Pacific which specifically refused to accept any tickets for passenger over its lines if such tickets also contained234 a routing over petitioner's line. Missouri Pacific, the petitioner's principal competitor, commencing in 1929, operated over the shortest and most direct route from Memphis to Texarkana and also over the exact route that petitioner used. In addition, Missouri Pacific had many other routes out of Little Rock and operated in 10 States. Missouri Pacific had long supplied its interconnecting carriers with substantial interchange revenue in exchange for which such interconnecting carriers routed their continuing passengers over the Missouri Pacific lines. After the petitioner's predecessor commenced operations Missouri Pacific, which up to that time had been rendering inadequate service and had been using old equipment, put all new equipment on its route between Memphis and Texarkana.The petitioner's ABPNI was only $ 19.88. The petitioner claims that its low base period earning was due to the lack of a certificate of convenience and necessity, i. e., if the certificate were denied it would have to cease interstate operation and its investment would be worthless; its financial backer, Rebsamen, would not invest in new equipment and terminals; it could not secure full representation235 in the publication which contained the official tariffs for the industry; and interconnecting carriers were reluctant to enter into interchange agreements. Petitioner argues that it is entitled to assume that it had a certificate in reconstructing its base period earnings since under the 2-year pushback rule it is deemed to have commenced business on March 14, 1935, rather than March 14, 1937; if it had commenced business on March 14, 1935, it would have been operating on June 1, 1935, thereby entitling it 297 to a certificate under the grandfather clause of the Motor Carrier Act of 1935, without the prolonged litigation to which it was subjected.On the basis of these contentions petitioner contended in its petition that it was entitled to a CABPNI of $ 59,486.70 as against the $ 15,472 allowed by the Commissioner in his deficiency notice. Petitioner now argues in its brief that we should allow a CABPNI of $ 68,188.86.We think that the petitioner has unduly emphasized the role that the lack of a certificate played in its base period difficulties. The record shows that by the end of the base period the petitioner was using only new large buses on its main route from Memphis236 to Texarkana and that its terminal facilities were comparable to those of other carriers, except for Missouri Pacific. The petitioner was continuously fit, willing, and able to provide such funds and equipment as were necessary properly to continue its services as an interstate carrier of passengers between Memphis and Texarkana. Also, the petitioner could operate over 99 per cent of its route without the need of a certificate from the I. C. C. This indicates that the lack of a certificate was not the sole or the principal cause of petitioner's base period difficulties. 11Conversely, it appears that competition of Missouri Pacific, in addition to that afforded by the other motor carriers and railroads, was a cause of petitioner's difficulties. 237 This competition is not a basis for relief. Cf. Lamar Creamery Co., 8 T.C. 928">8 T. C. 928, 939 (1947).Petitioner's contention for a CABPNI of $ 68,188.86 is largely based on the testimony of M. E. Moore, its former general manager, that if certain things had happened prior to the end of petitioner's taxable year 1939, it would have attained a net income by December 31, 1939, of $ 75,000. Moore testified that in March 1937, when he became general manager of petitioner, he estimated that petitioner would reach a net income of $ 75,000 for the year ending December 31, 1939, provided the following things happened: That the certificate of public convenience and necessity with the I. C. C. would be cleared up and that by December 31, 1939, petitioner would have its certificate; that it would obtain adequate terminals; that it would get adequate equipment and would be able, as a result of these things, to establish reasonable and permanent connecting carrier relations and get its tariffs properly set forth in the publication of the National Bus Traffic Association so that it could participate in through rates. As we have already said, the record shows that some 238 of the things upon which the witness Moore laid emphasis had already happened by December 31, 1939. Even if it be assumed that all of the things which the witness emphasized had happened prior to December 31, 1939, including the granting of the certificate of convenience and necessity, we are convinced 298 that there would have been no likelihood at all that petitioner would have attained a net income by that time of $ 75,000.We have carefully examined the record, including the stipulated facts, the numerous exhibits thereto, and the testimony of petitioner's witness Moore. After doing so, we have reached the conclusion that petitioner's CABPNI to be used for 1942 is somewhat in excess of the $ 15,472 allowed by the Commissioner in his deficiency notice. We have concluded that figure should be $ 22,000, and we have so found in our Findings of Fact. That amount should be used in a recomputation under Rule 50, instead of the $ 15,472 which the Commissioner has used in his deficiency notice. Adjustments to the CABPNI for 1942 of $ 22,000 should be made as indicated in our Findings of Fact in the determination of the carryover of unused excess profits credit which petitioner239 is entitled to bring over from its taxable years 1940 and 1941.Reviewed by the Special Division.Decision will be entered under Rule 50. Footnotes1. 49 Stat. 543, 551 (1935). This Act was approved on August 9, 1935, and its provisions became effective on October 1, 1935.↩2. Practically the entire route is within the State of Arkansas. Petitioner's terminal in Memphis is 2.6 miles from the Arkansas-Tennessee line and its terminal in Texarkana is a half block across the Arkansas-Texas line.↩3. The certificate did not cover local traffic between West Memphis, Arkansas, and Memphis, Tennessee.↩4. On November 5, 1938, petitioner leased for a term of 5 years commencing January 1, 1939 (with additional 5-year option at increased rental), the lower floor and basement of a building located at 100-102 East Markham, Little Rock. The lease rental was set at $ 100 per month for 1939, $ 150 per month for 1940, and $ 200 per month in 1941, 1942, 1943, and if the additional 5-year option should be exercised, $ 250 per month for such additional period. Petitioner was to bear all costs of alterations and improvements and agreed to keep the premises in good repair. In late 1938, petitioner altered and improved the leased premises for use as its Little Rock terminal at a cost of not less than $ 8,350.↩5. Agreements whereby a carrier which had a passenger, who wanted to travel beyond the point where such carrier traveled, would send such passenger on another carrier.↩6. All of the basic figures, except those with an asterisk (), are taken from Statement No. Q-750 (BRE) for the years 1938 and 1939 of the Bureau of Statistics, I. C. C. The figures with an asterisk are from Joint Exhibit 6-F filed as part of the stipulation of facts.↩7. The figures for petitioner, except where an asterisk appears (see footnote 6, supra) are for its total operation, including McKee Bus Lines and Jeff's Taxi Line which were transferred to Arkansas Motor Coaches of Tennessee, Inc., on October 1, 1939. See finding of fact, supra↩.. See footnote 6.↩. See footnote 6.↩*. See footnote 6.↩1. March 14 to December 31.↩8. All section references are to the Internal Revenue Code of 1939, as amended.↩1. For carryover purposes to 1942.↩9. The respondent has applied the variable credit rule and has used CABPNI's of $ 13,997.33 and $ 14,964.32 for 1940 and 1941, respectively, for the purpose of determining any unused excess profits credit carryover from these years to the year 1942.↩10. In its brief the petitioner contends for a CABPNI of $ 68,188.86.↩11. Also, the acquisition of Jeff's Taxi Line, which had an interstate certificate for operations between West Memphis, Arkansas, and Memphis, Tennessee, made it possible for petitioner to operate over its 315-mile route even if its application for a certificate was denied.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621880/	James H. Morrison and Marjorie A. Morrison, Petitioners v. Commissioner of Internal Revenue, RespondentMorrison v. CommissionerDocket No. 2491-74United States Tax Court71 T.C. 683; 1979 U.S. Tax Ct. LEXIS 183; January 29, 1979, Filed 183 Decision will be entered under Rule 155. Petitioner husband was a Member of Congress for 24 years. During this period of time, he acquired and collected documents, papers, correspondence, memoranda, pictures, mementos, and other memorabilia. On Sept. 21, 1970, petitioners donated the collection of congressional papers and documents to an educational organization described in sec. 170(c)(2)(B), I.R.C. 1954. The contributed collection was valued at $ 61,100. Petitioners claimed charitable contribution deductions for the donation of the property in their income tax return for the year 1970, with carryovers for the years 1971 and 1972. Held: The collection of items contributed by petitioners are fairly described in sec. 1221(3), I.R.C. 1954, and sec. 1.1221-1(c)(2), Income Tax Regs. Therefore, sec. 170(e)(1)(A), I.R.C. 1954, applies to the property contributed. Held, further: Petitioners failed to establish a basis in the property donated. Therefore, under sec. 170(e)(1)(A), I.R.C. 1954, they are not entitled to a charitable contribution deduction. Theodore L. Jones, Gregory A. Pletsch, and David Irvin Couvillion, for the petitioners.Robert E. Glanville, for the respondent. Wilbur, Judge. WILBUR683 Respondent determined deficiencies in petitioners' Federal income taxes for the years 1970, 1971, and 1972 in the amounts of $ 6,397.72, $ 32.84, and $ 2,010.51, respectively. Due to concessions made by the parties, the only issue remaining for decision is whether petitioners have established a basis for Federal income tax purposes in property donated to a university, thereby entitling them to a charitable contribution deduction under section 170(a). 1187 FINDINGS OF FACTSome of the facts have been stipulated and are found accordingly. The stipulation of facts, a supplemental stipulation of facts, and the attached exhibits are incorporated herein by this reference.Petitioners James H. Morrison and Marjorie A. Morrison are husband and wife who resided in Hammond, La., at the time 684 their petition in this case was filed. They timely filed joint Federal income tax returns on a cash basis for the calendar years 1970, 1971, and 1972 with the Internal Revenue Service Center at Austin, Tex. Since Marjorie A. Morrison is a party to this proceeding solely by virtue of having filed joint returns with her spouse, James H. Morrison will be referred to as the petitioner.Petitioner, an attorney by profession, represented the Sixth District of Louisiana in the United States House of Representatives continuously from January 3, 1943, to January 3, 1967. Petitioner participated in 13 election contests for the House of Representatives held every 2 years, the first one occurring in 1942, the last one in 1966. During this period he faced opposition in 10 first Democratic primary contests, 3 second Democratic primary contests, and 2 general188 elections. Petitioner paid a qualification fee for each nominating primary and general election in which he was a candidate. Petitioner collected campaign contributions through the years that were roughly equivalent to the campaign expenses he incurred.As is common for a Member of Congress, petitioner incurred many unreimbursed expenses as a direct result of his service in Congress. In 1943, Congress provided each member one round trip per session from his home district, and by 1966, the number of reimbursed round trips had been increased to four. Yet petitioner generally made one trip per week from Washington to his district, or to another location in Louisiana. Additionally, petitioner was required to maintain homes in both Washington and Louisiana, and incurred many other nonreimbursed expenses in meeting with his constituents both in Louisiana and Washington and in participating in various public events that were important for the goodwill and respect of his constituents. Petitioner deducted each year (to the extent allowed under the tax laws applicable at the time) all nonreimbursed expenses related to congressional activities for which he had receipts. For example, a189 deduction of $ 9,619.51 was taken on the 1966 return for congressionally related expenses, which included a portion of his living expenses while in Washington performing services as a Congressman. 2During his tenure in office, petitioner accumulated and saved 685 a large collection of documents, papers, correspondence, memoranda, pictures, mementos, and other memorabilia. At the conclusion of his 24 years in Congress, petitioner's collection of congressional files and assorted legal files were shipped from Washington, D.C., to Hammond, La. The shipping costs were paid, at least in part, by the United States Government. Petitioner also took a deduction on his 1967 income tax return in the amount of $ 437.60 for the costs he incurred in transporting these congressional190 and legal records to Hammond.On September 21, 1970, the petitioner donated his collection of congressional papers and documents to Southeastern Louisiana University, an educational organization described in section 170(c)(2)(B), and located in Hammond, La. This inter vivos transfer of items to the university was unconditional, irrevocable, and unrestricted. The collection of donated items measures approximately 178 cubic feet, most of which is stored on the campus of the donee university. The collection filled 104 large boxes and 34 file cabinet drawers. It also included approximately 10 medium-sized boxes of pictures. A number of the more valuable and cherished items donated, however, were retained by petitioner for display on the walls of his law office. The petitioner valued the contributed collection at $ 61,100, as of the date of contribution, and such value has been admitted by respondent for purposes of this case.The property donated by the petitioner consists primarily of items prepared by or for Congressman Morrison in connection with his congressional, political, and related activities, and items prepared by or for third parties, either at their own initiative or191 in response to congressional communications. Some photographs, mementos, and other memorabilia given to Congressman Morrison were also included in the property donated to the university.The major portions of items donated are letters (or copies of letters) to or from petitioner and third persons. The letters are generally between petitioner and his constituents or citizens interested in some aspects of governmental affairs. They also include many letters to Government officials in connection with constituent problems and public policy. Very substantial portions of the files concern what is commonly called "casework" -- problems constituents experienced with social security, veterans' 686 affairs, and the military, etc. The collection contains no newsletters, baby books, or high school certificates. 3192 The United States Government provided petitioner with an office in Washington, D.C., during his term of service in the Congress, and provided space for a congressional office in petitioner's home district from approxiamtely January 1948 through January 1967. The office and office space were provided at no expense to petitioner. In addition, the petitioner was provided without charge office equipment and supplies, franking privileges, telephone and telegraph, and air mail postage allowances.Petitioner was also provided a staff of employees out of the clerk-hire allowance of the United States House of Representatives. This staff was assigned to petitioner to assist him in the performance of his congressional responsibilities, and prepared or assisted in the preparation of the vast majority of the documents included in the contribution to the university.On his 1970 Federal income tax return, petitioner claimed a charitable contribution deduction for the donation of his congressional papers in the amount of $ 12,220. Petitioner arrived at this amount by determining that the fair market value of the property donated as of the date of contribution ($ 61,100), was to be deducted over193 a 5-year period. Accordingly, petitioner claimed one-fifth of $ 61,100, or $ 12,220, as the amount of the deduction for 1970. Petitioner subsequently claimed deductions for charitable contribution carryovers on his returns for 1971 and 1972 for the 1970 donation of his papers in the identical amounts of $ 12,220. However, because of the percentage limitations on deductions contained in section 170(b)(1)(A), the $ 12,220 deductions allegedly carried over to 1971 and 1972 were limited by petitioner on the return to $ 6,792.90 and $ 11,345.15, respectively.Respondent disallowed the claimed deductions in their entirety 687 on the ground that the contribution did not meet the requirements of section 170. 4OPINIONThe sole issue for our decision is whether petitioner is entitled to a charitable contribution deduction194 for the donation to a university, on September 21, 1970, of documents, papers, correspondence, memoranda, pictures, mementos, and other memorabilia, collected and acquired by petitioner during his 24 years as a member of the United States House of Representatives.Respondent disallowed the claimed deduction in its entirety on the ground that a gift of such property, after July 25, 1969, is a gift of ordinary income property and the amount so deductible is limited to the taxpayer's basis in the property donated. Respondent found that petitioner had no basis in the contributed property, and was consequently not entitled to a deduction. The allowance of the deduction depends, ultimately, upon whether section 170(e)(1)(A) applies to the property contributed, and if so, whether petitioner can establish a basis in the property donated.Section 170(a) allows a deduction for charitable contributions to organizations described in section 170(c)(2)(B). Where the 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, reduced as provided in section 170(e)(1). Sec. 1.170A-1(c)(1), 195 Income Tax Regs.Section 170(e)(1)(A) provides that the amount of any charitable contribution of property shall (for periods after December 31, 1969) be reduced by the amount of gain which would not have been long-term capital gain if the contributed property had been sold at its fair market value at the time of the contribution. 5 Consequently, 688 if a taxpayer donates property which would give rise to ordinary income or short-term capital gain, 6 the allowable deduction is limited to his cost or other basis in such property.196 A threshold question regarding the applicability of section 170(e)(1)(A), therefore, is whether the property contributed would occasion a long-term capital gain upon its sale. Since the term "long-term capital gain" is defined as gain from the sale or exchange of a capital asset (sec. 1222(3)), it is necessary to determine whether the property donated by petitioner constitutes a capital asset. A capital asset is defined by section 1221 to include all property held by the taxpayer subject, however, to certain statutory exclusions. Excluded from the definition of capital asset are:a copyright, a literary, musical, or artistic composition, a letter or memorandum, or similar property, held by -- (A) a taxpayer whose personal 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). [Sec. 1221(3).]In explaining the exclusion of 197 a letter or memorandum, or similar property, from the category of capital assets, the applicable regulations state:In the case of sales and other dispositions occurring after July 25, 1969, a letter, a memorandum, or similar property is excluded from the term "capital asset" if held by (i) a taxpayer whose personal efforts created such property, (ii) a taxpayer for whom such property was prepared or produced, or (iii) 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 in part by reference to the basis of such property in the hands of a taxpayer described in subdivision (i) or (ii) of this subparagraph. In the case of a collection of letters, memorandums, or similar property held by a person who is a taxpayer described in subdivision (i), (ii), or (iii) of this subparagraph as to some of such letters, memorandums, or similar property but not as to others, this subparagraph shall apply only to those letters, memorandums, or similar property as to which such person is a taxpayer described in such subdivision. For purposes of this subparagraph, the phrase "similar property" includes, for example, 198 such property as a draft of a speech, a manuscript, a research paper, an oral recording of any type, a transcript of an oral recording, a transcript of 689 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.]On the basis of a review of a representative sample of the donated items, and an examination of the catalogue of items donated, we conclude that the items contributed to the university are fairly described in section 1221(3) and the applicable regulation. Sec. 1.1221-1(c)(2), Income Tax Regs. The items contributed by petitioner consist essentially of correspondence, or copies of correspondence, memoranda, and files relating to his congressional activities and constituent matters.From the index and a sampling of materials submitted by the parties as representative, we conclude that the materials are those typically produced199 by the office of a Congressman diligently representing his constituents and participating actively in the legislative process. Such items are clearly within the statutory exclusion. We note that third party documents -- letters, memoranda, or similar property prepared by third parties (such as constituents, Government employees, or other Members of Congress) and delivered to petitioner -- are considered to have been prepared or produced for petitioner. See sec. 1.1221-1(c)(2), Income Tax Regs.; H. Rept. 91-413 (Part 1) (1969), 3 C.B. 200">1969-3 C.B. 200, 293. The record does not enable us to determine whether any mementos or other memorabilia falling outside the statutory exclusion of section 1221(3) were contributed.The collection of items is clearly the ordinary income property for which a charitable contribution deduction is expressly disallowed unless the taxpayer can demonstrate that he has incurred out of pocket costs in the creation of the material or acquired a basis in some other manner. 7200 The principal thrust of petitioner's efforts in this case have 690 been aimed at establishing a basis in the property donated to the university. As a consequence, petitioner has developed and presented an elaborate and novel basis theory. Petitioner maintains that as an elected official, he was engaged in the carrying on of a trade or business during the time he held public office. See sec. 7701(a)(26). As such, he contends, his business status was no different from that of any other taxpayer engaged in a trade or business providing services. Petitioner claims that since he was engaged in the trade or business of serving his constituents, he possessed no tangible work product other than the letters, documents, memoranda, and similar materials contained in his congressional files that he contributed to the university.Petitioner argues that the cost of this tangible work product is attributable in large part to expenditures from his personal resources, and from Government allowances (i.e., the clerk-hire and stationery allowances) disbursed within very broad discretion amounting in substance to a power of appointment. Petitioner asserts that for all the years of his congressional201 service, his available personal resources ($ 842,325.81) and Government allowances ($ 1,319,087.28) total $ 2,161,413.09. Petitioner claims that $ 485,800 of this total was used for personal expenses and that the remainder, $ 1,675,613.09, represents the cost of and his basis in the donated materials. 8202 691 Petitioner's first basis source for these materials is comprised of funds expended directly from his own personal resources. Petitioner claims that his direct expenditures for the costs attributable to holding public office constitute a cost of producing his congressional files. He specifically points to expenses for travel and lodging related to his congressional duties, expenses for constituent accommodation, expenses for his residence in the District of Columbia, and for other unreimbursed costs he incurred as a Member of Congress, which we concede to be substantial. 9Petitioner has failed to show that the claimed expenditures were directly related to the creation of the particular items donated. We fail to see a close nexus between the expenditures incurred and the assets created, a link between203 the two demonstrating that the expenditures flowed into the assets donated. Cf. Commissioner v. Idaho Power Co., 418 U.S. 1">418 U.S. 1, 15 (1974). In fact, it is difficult to see any but the most tenuous connection between the expenses of a residence in the District of Columbia and the cost of the specific items donated. Nor do we find the case significantly improved when we focus our attention on unreimbursed expenses for travel, for constituent accommodations, and for similar expenses of the office. A Congressman's business consists of performing services, of "representing" his constituents in Congress. He is not in the business of producing official records. These records, like those of other service businesses, chronicle the services provided. Moreover, such unreimbursed expenses would properly be deductible as trade or business expenses in the year incurred (cf. sec. 7701(a)(26); Rev. Rul. 71-470, 2 C.B. 121">1971-2 C.B. 121), and would therefore not be an ingredient of basis. See sec. 1.1016-2(a), Income Tax Regs. We believe the record demonstrates that petitioner followed the practice of deducting these items currently. 204 Accordingly, petitioner has failed to prove that any of 692 his expenditures for costs attributable to holding public office are properly included in the basis of the donated property.Petitioner's second basis source is comprised of the allowances provided Members of Congress. Petitioner argues that he disbursed the funds pursuant to discretion amounting to a general power of appointment, and accordingly these disbursements are a part of his basis. We flatly reject this argument. In generally denying a deduction for the gift of official papers, Congress intended to deny a deduction for papers produced on Government time by Government employees using Government equipment. 115 Cong. Rec. 20461, 20463 (1969); H. Rept. 91-413 (Part 1) (1969), 3 C.B. 200">1969-3 C.B. 200, 293. Petitioner's theory would not only completely emasculate the statute, but it is diametrically opposed to the view of the matter Congress adopted in enacting the statute in the first place.Finally, petitioner argues that many of the items, particularly those associated with his campaigns, were gifts to him from third parties and that he assumes a carryover or substituted basis from the 205 donor. We note in passing that the date, time, place, and nature of the gifts (cash or property) is not revealed by the record before us. Neither do we know anything about the "donors" or any basis they may have had in transferred property. However, the fatal impediment to petitioner's forward progress on this issue is his mischaracterization of campaign contributions as a gift. We have recently held that campaign contributions are not gifts and the rationale of that opinion clearly disposes of petitioner's theory. Carson v. Commissioner, 71 T.C. 252 (1978).Decision will be entered under Rule 155. Footnotes1. All section references are to the Internal Revenue Code of 1954, as amended and in effect for the years in issue, unless otherwise indicated.↩2. The Code provides an overall limit of $ 3,000 ($ 250 per month) on the amount deductible for expenses incurred by a Congressman while on business in Washington. See sec. 162(a). This was undoubtedly only a portion of the actual expenses involved.↩3. An index about two-thirds complete at the time of trial indicates that the materials are generally stored in numbered boxes by year and subject. The index has entries for "Selective Service"; "Veterans' Administration Claims"; "Servicemen's Requests"; "Coast Guard"; "Post Office Department" (route and years); "Railroad Retirement Board"; "Bureau of Roads"; "Peace Corps"; "Bureau of Public Roads"; "ROTC"; "National Science Foundation"; "G.S.A."; "Social Security"; "Tariff Commission." Another heading relates to "Departments" (FHA, Census, FDIC, etc.). Still other headings deal with subjects -- "Holidays," "Hospitals," "Unemployment Compensation," "Visitors to the Capitol," "House of Representatives purses," "Flags," "Scholarships," "State Information Material," "Letters to Committees," and similar entries.↩4. Respondent also disagrees with the methodology petitioner employed in allocating the deduction to various years. Since we conclude no amount is deductible in any event, we do not address this issue.↩5. Sec. 170(e)(1)(A) reads: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 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) * * *↩6. We may conveniently refer to such property, as do the regulations, although somewhat incompletely, as ordinary income property. See sec. 1.170A-4(b)(1), Income Tax Regs.↩7. The present statutory scheme described above is the result of amendments added by secs. 201(a) and 514 of the Tax Reform Act of 1969, 83 Stat. 549, 643. Senator Williams of Delaware, who was instrumental in developing this legislation, had expressed concern about provisions of the law allowing "special tax benefits through the gift of official papers." He stated that "to the extent that they [official papers] do have value, they were developed by Government officials on Government time with the aid of Government staff personnel, were typed by Government secretaries on Government paper, and were even stored in Government files." 115 Cong. Rec. 20461 (1969) (Remarks of Sen. Williams of Delaware).↩8. Petitioner's calculations (contested in part by respondent) for his years of service are:↩I. Personal Resources:(1) Congressional salary$ 429,999.98(2) Law practice income100,000.00(3) Income of wife175,000.00(4) Income from parent's estate46,000.00(5) Sale of estate property21,500.00(6) Loans (net of repayment)69,825.83Total personal resources$ 842,325.81Government Allowances(1) Stationery allowance36,100.00(2) Travel14,617.28(3) Postage4,770.00(4) District office9,000.00(5) Telephone and telegraph16,000.00(6) Clerk-hire allowance1,145,000.00(7) Use value of Washington office28,800.00(8) Use value of District office21,600.00(9) Use value of equipment28,800.00(10) Use value of franking privilege14,400.00Total Government resources1,319,087.28Total resources2,161,413.09The following allocation completes petitioner's basis theory:Allocation of Total Resources(1) Acquisition of personal assets100,000.00(2) Personal living expenses360,000.00(3) Retirement contributions25,800.00(4) Attributable to donated property1,675,613.09Total resources2,161,413.099. Petitioner also mentions campaign expenditures in this connection, but we believe this is incorrect as he testified that over the years he received campaign contributions approximating campaign expenses.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621881/	ESTATE OF J. SHIRLEY SWEENEY, Deceased, JANE A. SWEENEY, Independent Executrix, and JANE A. SWEENEY, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, Respondent ESTATE OF J. SHIRLEY SWEENEY, Deceased, JANE A. SWEENEY, Executrix, and JANE A. SWEENEY, Surviving Spouse, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, RespondentEstate of Sweeney v. CommissionerDocket Nos. 8293-76; 276-78.United States Tax CourtT.C. Memo 1979-387; 1979 Tax Ct. Memo LEXIS 141; 39 T.C.M. (CCH) 201; T.C.M. (RIA) 79387; September 19, 1979, Filed Donald J. Forman, for the petitioners. William P. Hardeman, for the respondent. SCOTT 142 MEMORANDUM FINDINGS OF FACT AND OPINION SCOTT, Judge: Respondent determined deficiencies in petitioners' income tax and additions to tax under section 6653(a), I.R.C. 1954, 1 for the years and in the amounts as follows: DeficienciesAddition to TaxinI.R.C. 1954YearIncome Tax(Sec. 6653(a))1972$2,353.12$117.6919732,800.33140.0219743,078.84153.9419752,640.850Some of the issues raised by the pleadings have been disposed of by agreement of the parties, leaving for our decision the following: (1) Whether the amount of $6,000 paid to J. Shirley Sweeney in each of the years 1972, 1973, 1974 and 1975 by the Southwestern Diabetic Foundation, Inc. was a gift or was compensation includable in his taxable income. (2) Should taxable income as reported by petitioner for each of the years 1968, 1969, 1970 and 1971 be increased by $6,000, representing additional compensation for the purposes of determining petitioners' base period income for income averaging purposes. FINDINGS OF FACT Some of the facts have been143 stipulated and are found accordingly. Petitioner Jane A. Sweeney resided in Dallas, Texas at the time she filed the petition in this case in her behalf and as executrix of the Estate of J. Shirley Sweeney, Deceased. J. Shirley Sweeney and Jane A. Sweeney during the years 1972 through 1975 were husband and wife. They filed a joint Federal income tax return for each of these years. J. Shirley Sweeney, Deceased (Dr. Sweeney) was a physician. He was born in 1896 and died on June 25, 1976, at the age of 80. On July 23, 1942, Dr. Sweeney entered active duty in the United States Medical Corps as a full Colonel. In 1945 he suffered a severe coronary occlusion and was retired from military service on October 10, 1945. Dr. Sweeney was outstanding in the field of treatment of diabetics. He was the author of articles on the subject of diabetes published in medical journals. Dr. Sweeney had lived during his childhood in Gainesville, Texas. Shortly after retiring from the military service, Dr. Sweeney and his family moved to Gainesville and Dr. Sweeney began the practice of medicine in Gainesville. On December 22, 1947, Dr. Sweeney organized the Sweeney Diabetic Foundation, Inc. 144 under the laws of Texas. The name of this foundation was changed on December 9, 1953, to the Southwestern Diabetic Foundation, Inc. On September 5 1951, in a letter addressed to the Sweeney Diabetic Foundation, Inc. respondent held that the foundation was exempt from Federal income tax under the provisions of section 101(6) of the Internal Revenue Code of 1939, now section 501(c)(3) of the 1954 Code. Southwestern Diabetic Foundation, Inc. (Foundation) was organized primarily to construct and operate a summer camp for diabetic children between the ages of 6 and 18. Dr. Sweeney was primarily responsible for raising the funds with which to construct the camp, known as Camp Sweeney, and was instrumental in its construction. The camp opened in the summer of 1950. When the camp was first opened, Dr. Sweeney took on most of the responsibility of recruiting and training the staff. A large part of the curriculum of the camp was classes for diabetic children to teach them how to care for their health problems, particularly proper diet, rest and giving themselves insulin shots. In the early years of the camp most of these classes were taught by Dr. Sweeney. Medical145 students who were compensated for their services were also trained and utilized in the camp program. Dr. Sweeney was medical director of the camp from its inception until his retirement on August 2, 1975. In the early years of the camp other physicians assisted Dr. Sweeney in the operation only on an occasional basis and he spent a substantial portion of his time during the summer months at the camp directing its medical program. He also, throughout the early years of the camp, raised funds for the camp in the Dallas area through contacts with foundations and various interested individuals. He was also responsible for donations of medicine and supplies given to the camp by the pharmaceutical industry. From approximately 1950 through 1953, Dr. Sweeney would work on a daily basis at the camp. In the morning he would review the results of tests performed on the children by the medical students or the student doctors, go over their dietary plans, hold conferences with the parents and the children and with the medical students and the camp staff. He continued to teach most of the classes for the children. In the afternoon he would again confer with the student doctors, going over146 the program for the children. In the evening, which was the most likely time for the children to suffer insulin shock, Dr. Sweeney was always available in case a child did suffer insulin shock. His medical duties at the camp during this period of time on most days of the summer would run from early morning until approximately 8 o'clock at night. In 1953 or 1954, Dr. Sweeney developed stomach ulcers and had surgery at the Mayo Clinic. Thereafter he spent less time at the camp, but continued to participate in the activities of the camp on a daily basis. Other doctors in the Gainesville area began to contribute free of charge some time to the camp and the camp always had medical students or recent medical graduates available who were paid for their services. Beginning about u958, Dr. Sweeney, though still participating in the camp program, spent less time in his work with the camp. After 1958, he also spent less time in his private practice of medicine although he remained in private practice and visited patients almost to the time of his death. He also continued to actively participate in the activities of Camp Sweeney until he retired as the medical director of the camp on August 2, 1975. 147 Up to mid-1964, Dr. Sweeney had received no monetary compensation of any kind for his work or in connection with his work at Camp Sweeney. In 1964, he was still in the active practice of medicine and in fact in 1974 was still driving to the hospital to see his patients. At a meeting of the board of directors of the Foundation on April 16, 1964, Dr. Sweeney, in giving his report as medical director of the camp, pointed out to the board that his medical practice had suffered through the years because of the time he devoted to Camp Sweeney and his activities as medical director of the camp. One of the directors, Mr. Leo Kuehn, after hearing this report was of the opinion that Dr. Sweeney was entitled in some way to be reimbursed for the time he had spent at the camp and for the practice he may have lost because of his activities connected with the camp. Mr. Kuehn made a motion that the Foundation "pay Dr. S. Sweeney $500.00 per semester for coming camp session for honorarium, as per medical director of camp." All members present at the meeting voted "yes" on this motion. At a meeting of the board of the Foundation on October 29,1964, a motion was made and carried to "continue to148 pay Dr. J. S. Sweeney $500.00 per month as long as the balance of the Foundation was at least $15,000.00: If balance got below $15,000.00 payment would stop till balance was brought back up to $15,000." At a meeting of the board of the Foundation on November 26, 1974, the chairman reported that he "had received a call from Doctor J. Shirley Sweeney, who requested that his 'IN HONORARIUM' be passed on to his wife, in the event of his passing." No action was taken at this meeting on Dr. Sweeney's request. This matter was again discussed at a board meeting on April 7, 1975, but no action was taken on it. At a meeting of the board held on July 23, 1975, a letter from Dr. Sweeney requesting that his status be changed from "Founder-Medical Director" to "Retired Founder-Medical Director" of Camp Sweeney was considered and Dr. Sweeney's request for retirement was approved by the board. The minutes show the following quotation from this letter: This is to request that the Honorarium which I have been receiving be continued, and increased to $750.00 monthly. This has become a taxable item. Cordially, J. Shirley Sweeney, M.D. The request of Dr. Sweeney for an increase in the "Honorarium"149 was rejected. The following appears in the minutes of a meeting of the board of directors on May 1, 1976: PROPOSAL #II: Doctor Sweeney asked if the Board would pay the SSTAX and WHTAX on his monthly check, which would allow him to receive the full amount of $500.00. Chairman Brown explained that if the Board voted to pay both parts of the SSTAX and the WHTAX on the $500.00 each month, the annual cost to the Foundation would amount to $7,099.20; and if Doctor Sweeney paid the taxes, the same as all other employees on the staff, the cost to the Foundation would be $6,351.00. Doctor Powell said the salary for Doctor Sweeney would be justified since he would remain on a consultant basis, A motion was made that Dr. Sweeney's proposal A motion was made that Dr. Seeney's proposal with respect to payment of social security tax and withholding tax by the Foundation be rejected and the motion was carried. The $500 monthly payment to Dr. Sweeney authorized by the board of directors of the Foundation in 1964 continued until Dr. Sweeney's death. On the records of the Foundation these payments were listed in an account designated in various years as "Gifts and Donations150 'In Honorarium'," "Figts & Donations Dr. Sweeney 'In Honorarium'," Gifts and Donations" or "Gifts and Donations (Gratuity) 'In Honorarium' for 15 years service without pay." Beginning in 1964 these payments by the Foundation to Dr. Sweeney were reported to him on Treasury Form 1099-DIV and underneath the yearly payment appeared the word "gift." Dr. Sweeney was held in high esteem by members of the board of the Foundation because of the work he had done through the years for Camp Sweeney. Dr. and Mrs. Sweeney did not report the yearly $6,000 payments as income on their returns for any of the calendar years 1968 through 1975.Respondent in his notices of deficiency increased petitioners' income as reported for each of the years here in issue by the $6,000 payment received by Dr. Sweeney from the Foundation with the explanation that the amount was taxable income under section 61 of the Internal Revenue Code. In his notice of deficiency to petitioner with respect to the year 1972, respondent computed petitioners' income tax for the year 1972 on the basis of income averaging and in making the computation increased petitioners' income as reported for each of the151 years 1968, 1969, 1970 and 1971 by the amount of $6,000. This adjustment was explained as being "unreported salary each year." OPINION Section 61 is very comprehensive in its definition of income. This section provides that, except as otherwise provided by statute, gross income means all income from whatever source derived. This broad definition includes the payments received by Dr. Sweeney unless these payments are excluded from taxable income under another provision of the statute. The only statutory provision which petitioners claim causes payments to be excludable from Dr. Sweeney's income is section 102(a) which provides that gross income does not include the value of property acquired by gift. The issue here, therefore, is whether the $6,000 payments received by Dr. Sweeney each year from the Foundation were gifts. In Commissioner v. Duberstein,363 U.S. 278">363 U.S. 278, 283, 285 (1960), the Court pointed out that "gift" as used in section 102 does not have the same meaning that the term has in common law and that a voluntary transfer of property to an individual without consideration which would be a common law gift is not necessarily a gift within the meaning152 of section 102. The Court stated that the mere absence of a legal or moral obligation to make such a payment does not establish a gift but that if the payment proceeds primarily from "the constraining force of any moral or legal duty" it is not a gift. The Court held that where the payment was in return for services rendered, it was irrelevant that the donor derived no economic benefit from the payment. Finally, in pointing out what is a gift under the Internal Revenue laws, the Court stated that to qualify as such a gift, the payment must proceed from a detached and disinterested generosity, out of affection, respect, admiration, charity or like impulses and that the most critical consideration is the transferor's intentions. We do not doubt in the instant case that the members of the board of the Foundation considered the $500 monthly payments to Dr. Sweeney as an "in honorarium" to be a gift in recognition of the valuable services he had rendered to Camp Sweeney to the detriment of his medical practice and in recognition of the services he was continuing to render. The fact that Dr. Sweeney had brought out the loss to his personal medical practice because of the time devoted153 to Camp Sweeney at the meeting at which the honorarium was approved is indicative of this intent. Also, statements in the minutes first approving the honorarium that the payment be "for honorarium, as per medical director of camp" indicates that the honorarium was for Dr. Sweeney's services. The fact that Dr. Sweeney requested that the "in honorarium" be continued to his wife indicates that Dr. Sweeney effectively viewed this as payment for services. Other minutes of the board indicate that the members of the board considered the "in honorarium" to Dr. Sweeney to be payment in small part for the 15 years of service he rendered to the Foundation without pay and the services he was continuing to render to the Foundation. The various directors of the board were asked by a letter to check which of the following the $6,000 annual payments to Dr. Sweeney represented "1. Made with the intention that services rendered in past shall be requital more completely or 2. Made to show good will, esteem or kindness without thought to made requital for services." Each of them checked No. 2. However, from the balance of the record we conclude that the esteem and good will which the board members154 had for Dr. Sweeney was due to the services he had rendered and was continuing to render free of charge to Camp Sweeney. In their view the $6,000 a year was not full compensation for these services. The mere fact that the directors may have viewed the "in honorarium" as a gift does not cause that payment to be a gift. As we pointed out in Hubert v. Commissioner,20 T.C. 201">20 T.C. 201 (1953), affd. 212 F.2d 516">212 F.2d 516 (5th Cir. 1954), a case somewhat similar to this, the fact that a sum paid was inadequate reward for the value of the services rendered does not negate the intention that the payment be compensation. Likewise in Walker v. Commissioner,25 T.C. 832">25 T.C. 832 (1956), we held that the fact that the payment was made without obligation and was denominated a gift is not controlling where the evidence shows that the reason for the payment was in recognition of past or present valuable services. In the instant case the one director of the Foundation who testified at the trial stated that the $6,000-a-year payments to Dr. Sweeney were in recognition of his services to the Foundation over many years and the continuing services he was rendering to the Foundation155 and Camp Sweeney. The record is clear that the payments to Dr. Sweeney were for past and present services, although he made no specific charge to Camp Sweeney for his services. We conclude from the record as a whole that the $6,000 yearly payments are not gifts within the meaning of section 102 but are includable in Dr. Sweeney's taxable income. Petitioner argues that since the years 1968, 1969 and 1970 are closed and a redetermination of tax for those years is barred by the statute of limitations, the $6,000 cannot properly be included in Dr. Sweeney's income for the years 1968, 1969, 1970 and 1971 in computing his income for those years for the purposes of income averaging for the year 1972. In Unser v. Commissioner,59 T.C. 528">59 T.C. 528 (1973), we held that in computing taxable income for a current year under the income averaging provisions of sections 1301 through 1305 a taxpayer is required to use the correct amount of taxable income in each base period year whether or not the correct income had been reported on his return for each base period year. We held that the correct income for each year must be determined even though assessment of a deficiency or allowance*156 of an overpayment for the base period years was barred by the statute of limitations. In the Unser case, we discussed the legislative history of sections 1301 through 1305. In reaching our conclusion we pointed out that section 1302(b)(2), in defining base period income for each base period year, uses the phrase "the taxable income for such year" and not the taxable income as reported or as previously determined for such year. In our view, it is clear that the proper income to be used for each base period is the correct taxable income for that year. We therefore conclude that respondent properly determined petitioners' base period income for the purposes of income averaging for the taxable year 1972 by including in the income received by Dr. Sweeney in each base period year the $6,000 he received from the Foundation. Because of other items placed in issue in this case and disposed of by agreement of the parties, Decision will be entered under Rule 155. Footnotes1. All statutory references are to the Internal Revenue Code of 1954, as amended, unless otherwise stated.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621882/	BURT L. DAVIS, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT. CLARA MAY DAVIS, KENNETH M. DAVIS AND ANITA M. MACDONALD, EXECUTORS OF THE ESTATE OF WINFIELD S. DAVIS, DECEASED, PETITIONERS, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Davis v. CommissionerDocket Nos. 30893, 30894, 39731.United States Board of Tax Appeals26 B.T.A. 218; 1932 BTA LEXIS 1343; June 2, 1932, Promulgated 1343 Petitioners acquired a one-third interest in a partnership for $90,000. Held, that such payment is not deductible from income, either as an ordinary and necessary business expense or as a loss. J. Paul Miller, Esq., and A. W. Helvern, Esq., for the petitioners. H. A. Cox, Esq., for the respondent. LANSDON 219 In the proceedings at Duckets 30893 and 39731, the respondent asserts deficiencies against Burt L. Davis for the years 1922, 1923, 1924 and 1925 in the respective amounts of $1,275.55, $1,493.57, $1,994.50 and $1,161.87. At Docket 30894 he asserts deficiencies against Winfield S. Davis for the years 1922 and 1923 in the respective amounts of $461.54 and $2,496.51. The three proceedings were consolidated for hearing. The sole issue involved is whether a certain amount paid to a retiring partner by the petitioners, in installments, shall be regarded as a capital expenditure, a loss, or a necessary business expense. FINDINGS OF FACT. Prior to September 30, 1923, Burt L. Davis, Winfield S. Davis and William F. Hougard were, and for some years had been partners, each with a one-third interest in the business of J. B. F. Davis1344 & Son, which, for many years, had been operated as a general insurance brokerage agency, in San Francisco, California, and was then the oldest concern of its kind on the Pacific Coast. In addition to its main office at San Francisco, where 80 people were employed, it had a branch at Seattle, Washington, which was conducted by 10 or 12 employees. This concern was founded by J. B. F. Davis long prior to 1886, at which date Winfield S. Davis was taken into the business as a partner. In 1895 the father died and some time thereafter Burt L. Davis became a partner. Hougard was first employed about 1890 and, without making any capital contribution, became a partner with a small interest in 1907. About 1920 he became an equal partner with the petitioner. He was an aggressive and effective insurance man, and, after his acquisition of a one-third interest, assumed an important position in the concern and endeavored to dominate, control and direct its affairs without much consideration for the wishes or the feelings of his partners. He brought in many new customers and was largely responsible for a substantial expansion of business during the years just preceding September 30, 1923. 1345 Early in 1923 considerable friction developed between the petitioners and Hougard, who demanded complete control of the business and threatened court action and a receivership, whereupon the petitioners decided to get him out and themselves continue the business as a new partnership under the old name. Hougard at first demanded $175,000 as consideration for his retirement. After long continued and acrimonious negotiations, he finally agreed to take $90,000. Thereupon the petitioners and Hougard executed an agreement on September 17, 1923, providing for the retirement of Hougard from the firm, which, so far as relevant here, is as follows: 220 1. That the partnership of J. B. F. Davis & Son owned by the parties hereto be and the same shall be terminated and dissolved by mutual consent as of September 30, 1923. 2. That a complete auditing and accounting of the business of J. B. F. Davis & Son be had showing the condition of said business on the 30th day of September, 1923, in the same manner as had prevailed in the past, and the results to be certified by George T. Klink, Public Accountant. That when said audit and accounting of the business of J. B. F. Davis & Son1346 be had that all debts owing and liabilities incurred by the firm of J. B. F. Davis & Son be deducted in figuring all profits that have accrued prior to the 30th day of September, 1923, and that the profits accrued and undivided be distributed as follows: One-third (1/3) to Winfield S. Davis, one of the parties of the first part, one-third (1/3) to Burt L. Davis, one of the parties of the first part, and one-third (1/3) to William F. Hougard, the party of the second part. 3. That the parties of the first part hereby purchase from the party of the second part, his undivided one-third (1/3) interest in and to the business of J. B. F. Davis & Son as the same exists on September 30, 1923, for the sum of NINETY THOUSAND ($90,000) Dollars, said Ninety Thousand ($90,000) Dollars to be paid as follows: Forty-five Thousand ($45,000) Dollars in cash, lawful money of the United States of America, to be paid by the parties of the first part to the party of the second part upon the signing of this agreement, receipt whereof is hereby acknowledged by said party of the second part; Forty-five Thousand ($45,000) Dollars of said purchase-price in two (2) promissory notes, each in the sum of Twenty-two1347 Thousand Five Hundred ($22,500) Dollars, payable one (1) year from date, without interest, one (1) of said promissory notes to be signed by Winfield S. Davis, one of the parties of the first part, to the order of the party of the second part, and endorsed or secured by collateral satisfactory to the party of the second part, and the other of said promissory notes, in the sum of Twenty-two Thousand Five Hundred ($22,500) Dollars to be signed by Burt L. Davis, one of the parties of the first part, to the order of the party of the second part, and endorsed or secured by collateral satisfactory to the party of the second part. 4. That in the sale by the party of the second part to the parties of the first part of his undivided one-third (1/3) interest in and to the business of J. B. F. Davis & Son, as of September 30th, 1923, said party of the second part sells all right, title and interest in and to the copartnership business of J. B. F. Davis & Son, and same includes all right, title, and interest in and to the the right to go into the general insurance business and solicit or receive orders partnership name, and in and to all furniture, fixtures, contracts, all books of record of1348 every kind and nature, and all other property and assets of every kind and description belonging to said partnership of J. B. F. Davis & Son, as the same exists on the said 30th day of September, 1923, and whether herein expressly enumerated or not. And said parties of the first part shall have the right to continue the said business of J. B. F. Davis & Son as the successors of all the parties hereto. 5. IT IS EXPRESSLY UNDERSTOOD that the party of the second part reserves the right to go into the general business and solicit or receive orders of business from customers or clients formerly doing business with J. B. F. Davis & Son, but in no way to advertise himself as the successor, or as a former partner of, or formerly connected with said J. B. F. Davis & Son. * * * 221 Winfield S. Davis paid one-half of the $90,000 consideration for the retirement of Hougard in 1923, subject to a discount, which left a net payment by him in that year in the amount of $43,425, and Burt L. Davis paid $16,250 in 1923 and $28,750 in 1925. The firm of J. B. F. Davis & Son, with the two petitioners as sole partners, continued in business throughout the taxable years and thereafter. 1349 In the year 1923 its net distributable income was $83,235.85. In 1925 it distributed to Burt L. Davis the amount of $27,174.22. Immediately after September 30, 1923, Hougard established an insurance brokerage business of his own in San Francisco. He solicited and retained a substantial number of accounts which he and others had previously secured for J. B. F. Davis & Sons. In 1924 and 1925 the business of the partnership decreased somewhat more than one-third in volume as compared with the two preceding years, and the income of each of the two remaining partners, therefore, was substantially less than in 1923 and the years just prior thereto. OPINION. LANSDON: At the hearing in these proceedings the petitioners abandoned their allegations of error as to the years 1922 and 1924, conceding that the deficiencies determined for those years were correct. Pursuant thereto the respondent's determination as to such years will be approved. Subsequent to the filing of the petition at Docket 30894, Winfield S. Davis died. His regularly appointed executors, Clara May Davis, Kenneth M. Davis and Anita MacDonald, have been substituted as parties petitioners. In their income-tax1350 returns for the taxable years and several others, the petitioners each deducted a pro rata part of the payment to Hougard, apparently as amortization of such amount. These deductions were disallowed by the Commissioner. Petitioners now seek to deduct the entire amount in the years in which the several installments were paid as losses sustained in such years, or, in the alternative, as ordinary and necessary business expenses. The respondent contends that the entire payment to Hougard was consideration for his interest in the business and was a capital expenditure. The petitioners' contention must be that nothing of value was acquired in consideration of the $90,000 payment to Hougard. They do not contend that a payment for which tangible or intangible assets were acquired would be deductible as a loss in the taxable year. We think it is clear from the evidence that both tangible and intangible assets were acquired in consideration of the payment to Hougard, namely, all right, title, and interest in and to the partnership name 222 of J. B. F. Davis & Son and to the use of such name; all right, title, and interest in and to all furniture, fixtures, contracts, books of1351 account, and all other property and assets of every kind and description belonging to the partnership; and the agreement by Hougard that he would not advertise himself as the successor, former partner, or as having been formerly connected with the J. B. F. Davis & Son partnership. Perhaps the assets were not worth the amount paid for them, but we think the Board is not concerned with that question. Even if the Davis brothers paid more than Hougard's interest was worth, no loss was sustained at the time of payment. In , we had a similar question presented. There the petitioners contended, as they do here, that the amounts were paid to avoid threatened legal action and its injurious effects to the business, as well as to assure retirement of the partner who threatened such legal action. We held that such payments were made to acquire the retiring partner's interest in the partnership good will and that such payments were capital expenditures. At the hearing in that case the petitioners testified, as they did in the instant proceeding, that in making the payments they did not consider that they were made to acquire any1352 interest in the good will of the business which the retiring partner might have had, but that the payments were made to prevent legal action. We think the partnership of J. B. F. Davis & Son had good will of substantial value. It had operated as a general insurance brokerage agency in San Francisco for more than 50 years and doubtless had many clients who purchased insurance through the firm because of its long standing good reputation and good service. The good will of a partnership is ordinarily considered part of the partnership assets and is to be accounted for upon termination of the partnership. Hougard had an interest in any good will of J. B. F. Davis & Son and was entitled to an accounting therefor upon termination of the partnership. We think such interest in the good will was acquired along with other partnership assets in consideration of the payment of $90,000. The facts of , are distinguished from the facts of the instant case. We there held that a payment of $5,000 to secure the withdrawal of a partner from the partnership was deductible in computing net income, since it resulted in the acquisition of no capital1353 asset. The benefit of the $5,000 payment did not extend beyond the taxable year, since by the terms of the partnership agreement it could have been terminated at the close of 1920. The payment was made to secure the partner's withdrawal from the firm four months before that time. The petitioners argue in their brief that the Board erroneously excluded certain testimony offered by them to show that the written 223 agreement from which we have quoted in our findings of fact was entered into under duress and that $90,000 payment was a "hold-up," paid only to prevent Hougard from carrying out his threat of legal proceedings to force a receivership which would wreck the business. Even if we concede their contention that the payment was a "hold-up" and that they were forced to sign the agreement to save their business, we are still of the opinion that the amount is not deductible. Regardless of their motive in making the payment, the fact remains that in exchange therefor they did acquire capital assets of considerable value. At the time they concluded to purchase Hougard's interest in the partnership for $90,000 the petitioners could only estimate the additional profits*1354 which each might expect from the additional one-sixth interest in subsequent partnership profits. We do not know the basis for their estimate or the value which they placed upon the tangible and intangible assets of the partnership. We do know, however, that they paid $90,000 for a one-third interest therein and in our opinion such payment was not an expense incurred to protect the business or a loss at the time it was made. Reviewed by the Board. Decisions will be entered for the respondent.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621883/	James R. Baer v. Commissioner. Vera I. Baer v. Commissioner.Baer v. CommissionerDocket Nos. 29094, 29095.United States Tax Court1952 Tax Ct. Memo LEXIS 207; 11 T.C.M. (CCH) 520; T.C.M. (RIA) 52155; May 26, 1952207 Herbert C. Hirschboeck, Esq., 735 N. Water St., Milwaukee, Wis., and Charles E. Prieve, Esq., for the petitioners. Julian L. Berman, Esq., for the respondent. MURDOCK Memorandum Findings of Fact and Opinion The Commissioner has determined deficiencies as follows: YearJames R. BaerVera I. Baer1943$ 481.9219447,723.78$ 1,855.71194517,134.859,836.99194614,981.8411,571.04 The issues for decision are (1) whether one-half of income from interest, rental and sales of jointly owned properties was taxable to Vera, and (2) whether properties which the petitioners had rented for more than six months were held by them for investment and rental and were not "property held by the taxpayer primarily for sale to customers in the ordinary course of his trade or business" so that gains from the sales thereof were gains from sales of capital assets held for more than six months. Findings of Fact The petitioners are husband and wife residing at Wauwatosa, Wisconsin. Their returns for the taxable years involved were filed with the collector of internal revenue for the District of Wisconsin. James was regularly and continuously engaged208 at all times material hereto in the business of building houses, including the building of houses for others and the building of houses on properties standing in the name of his wife or in their joint names. Many of the houses built on land in the name of one or both of the petitioners were built and, until actual sale, were held primarily for sale to customers in the ordinary course of the construction business. His intention, with regard to a number of the houses which he built, was from the very beginning to sell them as soon as possible even though he might rent a few of them for a short time before he sold them. Vera actively participated and helped James in several phases of his business. They had a joint bank account during the taxable years in which they deposited proceeds of sales and from which they withdrew money in order to purchase new lots, to build new houses, and for other purposes. Title to most of the lots purchased as building sites was taken in the joint names of the two petitioners, but the title to some tax delinquent lots bought with joint funds from the taxing authorities, was taken in the name of Vera so that James could receive a broker's commission on the209 sale. The petitioners retained as investments some of the properties owned by them on which James had constructed houses. They held as many properties for investment as their financial condition and the demands of their construction business permitted. Their primary purpose in retaining houses for investment was to receive the rents from those properties. They did not advertise those properties for sale, they placed longterm mortgages on them, and they rented them until the petitioners no longer deemed the properties desirable as investments, until they were replaced by more desirable properties, or until they had to be sold to provide additional funds for the business. All of the properties listed in Exhibit 1-A of the stipulation of facts were held primarily as investments in order to obtain rental income from those properties. They were not held primarily for sale to customers in the ordinary course of the construction business. Vera did not file any income tax returns for 1942 and 1943 but James reported the income of both in his returns for those years. The petitioners filed separate returns for the years 1944, 1945 and 1946. The Commissioner, in determining the deficiencies, 210 held as to each petitioner that the gains realized on all sales of improved real estate were ordinary income taxable in full because that real estate was property held primarily for sale to customers in the ordinary course of a trade or business and was not property used in a trade or business as defined in section 117(j) of the Internal Revenue Code. He also held in determining the deficiencies against James that income derived by him from sales and from rent with respect to houses constructed by him were taxable in their entirety to him and no part thereof was taxable to his wife on the basis of joint tenancies. He held in determining the deficiencies against Vera that income from sales and rent with respect to houses constructed on lots in her name were taxable in their entirety to her and one-half of the gains and rental income with respect to houses constructed on lots held in joint tenancy by Vera and her husband was taxable to Vera. The facts stipulated by the parties, together with all joint exhibits, are incorporated herein by this reference. Opinion MURDOCK, Judge: The Commissioner has taxed all of the income from interest, rental and sales of211 property in the joint names of the petitioners or in the separate name of Vera, to James for all years and has also taxed one-half of that income from jointly held property and all of that income from property in the separate name of Vera, to Vera for the years for which she filed returns. He concedes that there is duplication which will be corrected when this Court decides how much of the income for each of the last three years is taxable to each. The petitioners contend that all of that income is taxable one-half to each, including that from the rental or sale of property standing in Vera's name, since that property, like all the rest, had been bought with joint funds and belonged to them jointly. The Commissioner, in failing to tax only one-half of this income to each of the petitioners, has gone contrary to his own ruling in I.T. 3754, 1945 C.B. 143">1945 C.B. 143, and to a number of court decisions, including Paul G. Greene, 7 T.C. 142">7 T.C. 142, Edwin F. Sandberg, 8 T.C. 423">8 T.C. 423, as to both of which he acquiesced. He has not mentioned or distinguished those cases upon which the petitioners rely. It is held, upon authority of the two cases cited and others cited in those212 cases, that each petitioner is taxable with one-half of the income from rental and sales of properties and with one-half of the interest paid by debtors Barndt and Pahl for the years in which separate returns were filed. The record does not contain sufficient evidence in regard to other interest received or in regard to refunds to enable the Court to make any decision as to those items. James concedes that he was regularly and continuously engaged during the taxable years in the business of building and selling speculative houses and he held many such properties for sale to customers in the ordinary course of that business. His intention, with regard to some of the houses which he built, was, from the very beginning, to sell them even though he might rent them for a short time before he sold them. All parties agree that the profits from the sale of those houses represented ordinary income. The petitioners contend, however, that they retained other houses for investment purposes in order to obtain income from renting those properties, whereas the Commissioner contends that all of the houses built by James on land in the name of Vera or in their joint names were held primarily for213 sale to customers in the ordinary course of the construction business. It is possible for a taxpayer regularly engaged in the business of selling real estate owned by him to hold some of it for the benefits to be derived from renting it, so that while it is held as an investment, it is not held primarily for sale to customers in the ordinary course of business within the meaning of section 117 (j) of the Internal Revenue Code. Nelson A. Farry, 13 T.C. 8">13 T.C. 8. The only question to be decided under this issue is one of fact, whether the properties in question were held primarily as an investment or whether they were held primarily for sale to customers in the ordinary course of the construction business within the meaning of section 117 (j). There is at least a fair preponderance of the evidence in favor of the petitioners' contention on this point. It would make no difference whether the builder was not allowed to sell because of some government restriction, and had to rent, or whether he merely chose to rent, so long as his primary purpose in holding the property was not to sell it in the ordinary course of his construction business. The petitioners, during the taxpayer214 years, held and rented many properties, each for a substantial number of months, and derived a large amount of income by that method. James testified that the investment properties were distinguishable from the sale properties in that he refrained from putting "for sale" signs on the investment properties, he never advertised them for sale, and he put long-term mortgages on them. He did not distinguish the two types of properties in his accounts as well as he might have and thereby deprived himself of some helpful proof, but his method of accounting is not determinative of the issue. The evidence shows that there was a great demand during this period for unoccupied houses which could be occupied immediately by the purchaser, whereas there were few purchasers for occupied houses. James knew the situation thoroughly and would not have rented these houses had his primary purpose been to sell them as fast as he could. The periods during which they were rented were sometimes relatively short but long enough for present purposes. Cf. Isaac Emerson, 12 T.C. 875">12 T.C. 875. Eventually, he sold them and thus raised the present issue. His reasons for selling the houses are varied and leave215 room for some doubt as to his purpose in holding them but it is fair to conclude from all of the evidence that he did not sell them in the ordinary course of his construction business. Some, he said, were not well located so he sold them and invested the proceeds in constructing houses in a better neighborhood. Houses which were poorly planned he sold to enable him to build others better planned. The houses were cheaply constructed and maintenance costs increased sharply after they had been rented from three to five years and for that reason he sold the older properties and took new ones into his investment account. Some were furnished with poor war-time materials and he sold those after restrictions permitted construction with better materials. Single and two-family properties were sold and replaced in the investment account with multi-family buildings which produced better net rentals. Units, limited to low rentals were sold in order to replace them with others for which higher rentals were permitted. The investment in rental houses continued after restrictions were removed. A finding has been made that the gains upon the sales of properties rented for more than six months were gains216 from sales of properties used by the petitioners in their rental business which were held primarily for production of rental income and were not held primarily for sale in the ordinary course of the construction business. Decisions will be entered under Rule 50.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621884/	Mitchell Offset Plate Service, Inc., Petitioner v. Commissioner of Internal Revenue, Respondent; Sam Weiss and Beatrice Weiss, Petitioners v. Commissioner of Internal Revenue, RespondentMitchell Offset Plate Service, Inc. v. CommissionerDocket Nos. 5835-67, 5836-67United States Tax Court53 T.C. 235; 1969 U.S. Tax Ct. LEXIS 27; November 12, 1969, Filed 27 Decision will be entered for the petitioner in docket No. 5835-67.Decision will be entered under Rule 50 in docket No. 5836-67. Held, evidence of the timely mailing in a properly addressed envelope of petitioner's election under subch. S and consents of its shareholders created a presumption of delivery, thereby satisfying the filing requirements of secs. 1.1372-2(b) and 1.1372-3(a), Income Tax Regs.; evidence that employees of the Internal Revenue Service failed to find the documents in its files was not sufficient to rebut the presumption. Arthur Pelikow, for the petitioners.William F. Chapman, for the respondent. Featherston, Judge. FEATHERSTON235 Respondent determined deficiencies in petitioners' income tax and additions to tax as follows:Mitchell Offset Plate Service, Inc. -- Docket No. 5835-67Addition to tax,TYE Mar. 31 --Deficiencysec. 6653(a) 11963$ 13,460.28$ 673.01196414,204.48710.2229 Sam Weiss and Beatrice Weiss -- Docket No. 5836-67YearDeficiency1962$ 11,048.54196313,855.92The issues presented for decision are:(1) Whether Mitchell Offset Plate Service, Inc. (hereinafter referred to as Mitchell), was a subchapter S corporation during the taxable years ending March 31, 1963, and March 31, 1964. The resolution of this issue turns on the question whether Mitchell timely filed an election and consents of its shareholders to be treated as a small business corporation in accordance with the provisions of section 1372, and236 (2) Whether petitioners Sam and Beatrice Weiss received constructive dividend income from Mitchell in the amounts of $ 22,690.01 in 1962 and $ 29,818.80 in 1963.By stipulation the parties have agreed that the addition to tax under section 6653(a) shall apply to the total deficiency, if any, determined against Mitchell.FINDINGS OF FACTMitchell, a New York corporation, had its principal place of business at 120 East 13th Street, New York, N.Y., at the time its petition was filed. It filed its Form 1120-S income tax returns for the taxable years ending March 31, 1963, and March 31, 1964, with the district director30 of internal revenue, Manhattan District, New York, N.Y.Sam Weiss (sometimes hereinafter referred to as Weiss) and Beatrice Weiss, husband and wife, were legal residents of Forest Hills, N.Y., at the time of filing their petition. They filed joint income tax returns for 1962 with the district director of internal revenue, Brooklyn District, New York, N.Y., and for 1963 with the district director of internal revenue, Manhattan District, New York, N.Y.In early 1959 Weiss, who was then employed as a foreman in charge of offset plate making, decided to organize a corporation to engage in that business. He was advised by an accountant, Sidney Lieppe, that having the proposed corporation elect to be treated as a small business corporation under subchapter S would be to his advantage. Lieppe introduced Weiss to an attorney, Wallace Sturm, who also recommended the creation of a subchapter S corporation. Weiss retained both Lieppe and Sturm to assist him in organizing the corporation and in qualifying it under subchapter S.The corporation (Mitchell) was incorporated on April 13, 1959. The original stockholders were Weiss and Edward D. Flynn; each was issued 50 shares of stock in Mitchell. 31 Due to illness, however, Flynn withdrew from Mitchell shortly after it was created. Mitchell's stock transfer ledger shows that Flynn's shares of stock were canceled as of May 1, 1959, and transferred to Sturm, in escrow for Weiss. Thus Weiss was Mitchell's sole shareholder as of May 1, 1959.Sturm held a degree of master of laws in taxation and was engaged primarily in the practice of tax law. Subchapter S had been enacted on September 2, 1958, and during late 1958 and early 1959 he assisted some 30 corporations to qualify under its provisions. As part of his practice he maintained a calendar system to remind him of the filing dates of the several papers required to organize and qualify a corporation under subchapter S. In conjunction with his calendar system he also would "double check" with his clients or their representatives to see that all required papers had been prepared and filed on time.237 On May 1, 1959, Mitchell's shareholder formally resolved that Mitchell elect under sections 1371-1377 not to be subject to the income tax. With Sturm's assistance Lieppe prepared the election, Form 2553, and the letter of consent to be signed by Mitchell's shareholder. 32 Weiss signed the Form 2553 on behalf of the corporation and executed the requisite shareholder's consent to the election. Between May 1 and May 10, 1959, Lieppe placed the signed Form 2553 and the executed consent in a stamped envelope, addressed to the district director of internal revenue at 484 Lexington Avenue, New York, N.Y., and deposited the envelope in a mailbox in the vicinity of Mitchell's office.On July 27, 1959, 24 shares of Mitchell stock were issued each to Eugenie Weiss and Mitchell Weiss, the minor children of Sam and Beatrice. Letters consenting to the corporation's subchapter S election, to be signed by Beatrice as guardian for the children, were prepared by Lieppe following a telephone conversation with Sturm as to their contents. Lieppe placed the letters in a stamped envelope addressed to the district director of internal revenue, 484 Lexington Avenue, New York, N.Y., and gave the envelope to Weiss. Weiss took the consent letters home with him and had Beatrice sign them on behalf of the children. He then placed the signed consents in the envelope supplied to him by Lieppe and, on the same date, deposited the envelope in a mailbox near his home.Lieppe was33 unable to complete Mitchell's first income tax return (Form 1120-S for the period April 13, 1959, to March 31, 1960) by the date it was due to be filed. He therefore submitted an application for an extension of time within which to file the return, and the extension was granted. Subsequently, he filed a completed return, to which he attached the form granting the extension and a copy of Mitchell's subchapter S election together with its shareholders' consents.In 1965 and again in 1966, in connection with an audit of Mitchell's tax returns for the fiscal years ending March 31, 1963 and 1964, the files in the Manhattan District Director's Office were searched in efforts to locate Mitchell's subchapter S election and the consents of its shareholders. The documents were not found. Shortly before the trial, and after petitioners' counsel had made demand on respondent's counsel for production of these documents, employees of the Internal Revenue Service searched for them (and for Mitchell's Form 1120-S income tax return for its first fiscal year, ending March 31, 1960) in the files of the Federal Records Center for the Manhattan District, the audit section of the Manhattan District34 Director's Office, and the Internal Revenue Service Center at Andover, Mass. Again, these papers were not located.Prior to the latter part of 1959, what is presently the Manhattan District was divided into two segments. These two segments were 238 merged in late 1959, subsequent to the dates Mitchell's election and consents were filed. In September 1968 the records of the Manhattan District relating to filed subchapter S elections were transferred to the service center in Andover. These records are presently arranged on an alphabetical basis, without regard to the years in which the elections are filed.During the course of the various searches described above no effort was ever made to locate a regular corporation income tax return, Form 1120, for Mitchell for the fiscal years ending March 31, 1960, or March 31, 1961, and no such return was ever uncovered. Nor was any search ever made for the income tax returns of Mitchell's shareholders, Sam, Eugenie, and Mitchell Weiss, for the years prior to those in issue.In the notice of deficiency to Mitchell respondent determined that Mitchell had not qualified as a subchapter S corporation, and that it was therefore subject to35 corporate income tax for the fiscal years ending March 31, 1963, and March 31, 1964. In the deficiency notice to Sam and Beatrice Weiss respondent determined that "distributions which Sam Weiss received from Mitchell Offset Plate Service, Inc., in 1962 and 1963 are taxable as dividend income" and that portions of the deductions claimed by them as contributions for the years 1962 and 1963 were not allowable for lack of substantiation.ULTIMATE FINDINGS OF FACTMitchell filed an election to be treated as a small business corporation, Form 2553, during the first month of its first taxable year.The shareholder of Mitchell at the time of its election filed a timely consent thereto, and consents on behalf of Eugenie and Mitchell Weiss were filed within 30 days after July 27, 1959, the date they became shareholders in Mitchell.Mitchell filed a Form 1120-S, U.S. Small Business Corporation Return of Income, for the fiscal year ending March 31, 1960, to which copies of the election and consents of shareholders were attached.OPINIONAn election under subchapter S not to be subject to Federal income taxes "may be made by a small business corporation for any taxable year at any time during36 the first month of such taxable year." Sec. 1372(c)(1). The election will be effective only if the following requirements are met: (1) The election, Form 2553, must be "filed" with the Internal Revenue Service within the time period prescribed above, sec. 1.1372-2(a) and (b), Income Tax Regs.; (2) all shareholders in the corporation must consent to the election, sec. 1372(a)(1); and (3) 239 the consents must be filed "on or before the last day prescribed for making the election." Sec. 1.1372-3(a), Income Tax Regs. Furthermore, when there is a change in stock ownership, the election will terminate unless each new shareholder files a consent to the election "within the period of 30 days beginning with the day on which such person becomes a new shareholder." Sec. 1.1372-3(b), Income Tax Regs.In the case of the corporate petitioner Mitchell, two purely factual issues are presented: (1) Whether Mitchell, which was incorporated on April 13, 1959, filed with the Internal Revenue Service before May 13, 1959, a subchapter S election and the requisite shareholders' consents; and (2) whether the consents on behalf of Eugenie and Mitchell Weiss, the minor children of Sam and Beatrice, 37 to each of whom shares of Mitchell stock were transferred on July 27, 1959, were filed with the Internal Revenue Service on or before August 25, 1959. It is not denied that if the above documents were timely filed, Mitchell is taxable as a subchapter S corporation.No question was apparently ever raised with respect to Mitchell's status as a subchapter S corporation for its fiscal years ending March 31, 1960, March 31, 1961, or March 31, 1962, which immediately preceded the years in controversy. Nevertheless, in view of the determination in the notice of deficiency, 2 the burden of proof rested with Mitchell. Rule 32, Tax Court Rules of Practice. We hold that it has carried that burden.38 Prior to Mitchell's incorporation on April 13, 1959, an accountant and an attorney had advised Weiss that Mitchell should make an election to be taxed under subchapter S. The attorney, who had assisted many corporations to make such elections, testified that he maintained a calendar system to assure that each required step in electing subchapter S was performed on time. In addition to keeping such a timetable he conferred by telephone with the accountant on the wording of the election and consents to be filed by Mitchell and its shareholders.The accountant testified that he prepared the election and consent form, had them signed, placed them in a properly addressed, stamped envelope, and deposited them in the mails, before May 10, 1959. This testimony was corroborated by Weiss, who signed the forms. The 240 accountant also testified that he timely prepared the consent forms after the stock was transferred to the children in July 1959, and gave them to Weiss for signature and mailing. Sam and Beatrice both testified that she signed such consents, as guardian of the children, in the evening of the same day, and that Weiss immediately placed them in a properly addressed, 39 stamped envelope and deposited them in the mails. This testimony gives rise to a "strong presumption of delivery," Jones v. United States, 226 F.2d 24">226 F. 2d 24, 27 (C.A. 9, 1955); Rosengarten v. United States, 181 F. Supp. 275">181 F. Supp. 275, 277 (Ct. Cl. 1960), which calls for an ultimate finding that the documents were "filed" as required by the regulations above.Respondent's evidence -- negative, at best -- that a search of the various files maintained by the Internal Revenue Service failed to disclose any record of the election and consent forms is not, in our view, sufficient to overcome the presumption of delivery. Subchapter S was enacted on September 2, 1958, and the procedures for maintaining files on elections and consents under that enactment were still new in May 1959. Mitchell's election and the consents of its shareholders were mailed to the Office of the Director for the Lower Manhattan District. Within a year thereafter the files of that District were consolidated with those of the Upper Manhattan District. In September 1968 these files were transferred to the service center in Andover, Mass. Yet, from the testimony40 presented it appears that no effort was made by anyone to locate the consent and election forms -- except requests to a file-room employee who was not called as a witness -- until shortly before the trial, i.e., after the various transfers of the pertinent files. Furthermore, no search was ever made to locate the individual returns for 1959, 1960, or 1961 of Sam and Beatrice Weiss or of their children, Eugenie and Mitchell Weiss, to ascertain whether the forms had mistakenly become attached to one of those returns. Nor was any explanation given for the failure to question the timeliness of the subchapter S election and consents in one of the earlier years.We think the record, considered as a whole, supports our ultimate findings of fact that Mitchell's election and the consents of its shareholders were timely filed. It follows that Mitchell qualified as a subchapter S corporation during the taxable years ending March 31, 1963, and March 31, 1964.In the notice of deficiency to the individual petitioners respondent determined that they had received constructive dividend income and that certain deductions for contributions were not allowable. In their reply brief petitioners concede41 that if Mitchell is a valid subchapter S corporation for its taxable years ending March 31, 1963, and March 31, 1964, then the sums determined by respondent to be constructive *241 dividends are taxable to them. Petitioners offered no evidence to substantiate the claimed deductions for charitable contributions.Decision will be entered for the petitioner in docket No. 5835-67.Decision will be entered under Rule 50 in docket No. 5836-67. Footnotes1. All section references are to the Internal Revenue Code of 1954, as amended, unless otherwise noted.↩2. The notice of deficiency contained the following general statement:"It has been determined that you do not qualify as a Small Business Corporation as provided in Sections 1371 and 1372 of the Internal Revenue Code of 1954 and the regulations promulgated thereunder and are therefore subject to the tax imposed by Section 11 of the Internal Revenue Code of 1954."However, petitioner's counsel stated that "from the course of trial preparations and from various conferences, we know that it is Respondent's position that Mitchell Offset did not file an election under Section 1372A, and also that the various consents of the various shareholders were similarly not filed."↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621885/	James F. Waters, Inc. (a California corporation) formerly James F. Waters (a California corporation) v. Commissioner.James F. Waters, Inc. v. CommissionerDocket No. 3924.United States Tax Court1945 Tax Ct. Memo LEXIS 118; 4 T.C.M. (CCH) 791; T.C.M. (RIA) 45257; July 16, 1945118 In 1938 petitioner acquired through merger certain policies of insurance on the life of its president. Such policies had previously been transferred by him to the merging corporation for valuable consideration. During 1939 petitioner failed to pay the premiums on such policies and the respective companies automatically extended the insurance for the terms specified in the several policies. During the taxable year petitioner's president died and the proceeds of the policies were paid to the petitioner. Held, that no portion of the "net abnormal income" of petitioner is attributable to years other than the taxable year under section 721 (b), I.R.C.Premier Products Co., 2 T.C. 445">2 T.C. 445, followed. Everett S. Layman, Esq., 220 Bush St., San Francisco, Calif., for the petitioner. B. H. Neblett, Esq., for the respondent. VAN FOSSAN Memorandum Findings of Fact and Opinion The respondent determined deficiencies of $20,730.57, $3,609.26 and $35,325.83 in the petitioner's income tax, declared value excess profits tax and excess profits tax, respectively, for the year 1941. By his amended answer he seeks to increase such deficiencies in the amounts of $270.14, $123.16 and $871.42 in such respective 119 taxes. The primary issue is whether or not the net proceeds of certain insurance policies on the life of the petitioner's president are includible in its gross income. If they are so includible a collateral issue is whether or not they are considered abnormal income attributable to prior years, in determining the petitioner's excess profits tax liability. Findings of Fact Certain facts were stipulated. Those material to the issues are as follows: The petitioner is a California corporation organized on March 16, 1934, with its principal office in San Francisco. Its original corporate name was James F. Waters. On July 29, 1943, it changed its name to James F. Waters, Inc. It filed its individual income tax, declared value excess profits tax and excess profits tax returns for the year 1941 with the collector of internal revenue for the first district of California. James F. Waters, an individual, was the president and the principal stockholder of petitioner from the date of its organization on March 16, 1934, until his death on May 10, 1941, and was the president and the principal stockholder of the James F. Waters Securities Corp. (a California corporation), hereinafter called Securities, 120 from the date of its organization, July 29, 1932, until it was merged into the petitioner on or about October 31, 1938. James F. Waters procured certain policies of life insurance upon his life from the insurance companies on the dates and bearing the numbers set forth below: Name of CompanyNo. of PolicyDate of IssueMetropolitan Life Insurance Co.1236504July 28, 1927National Life Insurance Co510671June 16, 1927Prudential Insurance Co. of America5140061July 29, 1925Prudential Insurance Co. of America4798920July 29, 1924Occidental Life Insurance Co.870688July 26, 1931California-Western States Life Insurance Co.236195July 16, 1930Pacific Mutual Life Insurance Co.752344Mar. 22, 1930 On or about April 26, 1935, all of such insurance policies had an aggregate cash surrender value of $8,284.50 after payment of premiums due during 1935. The amount of premiums due on the policies during the calendar year 1935 and after April 26, 1935, was $2,062.18. On or about April 26, 1935, James F. Waters transferred and assigned all of the insurance policies to Securities for the sum of $6,222.32, being the aggregate cash surrender value of the policies after payment of all premiums becoming due in 1935, 121 minus the aggregate amount of the unpaid premiums due on all of the policies during 1935 and after April 26, 1935. On or about December 24, 1934, a Group Policy, G-7834, was issued by the Travelers Insurance Company effective from December 24, 1934, with respect to the employees of James F. Waters, an individual, and/or affiliated interests, James F. Waters (a corporation), and Securities. On or about December 24, 1934, there was issued to James Francis Waters, who is the same as James F. Waters, the individual, a certificate of insurance, numbered 49, pursuant to the Group Insurance Policy effective as of December 24, 1934. On or about March 6, 1933, James F. Waters procured from the Travelers Insurance Company a policy of life insurance in the amount of $10,000 and numbered 1749830. On or about July 27, 1929, James F. Waters procured from the Metropolitan Life Insurance Company a policy of life insurance in the amount of $2,500 and numbered 1299774. The proceeds of this policy are not involved in this litigation. On or about April 26, 1935, James F. Waters made, executed, and delivered to Securities an assignment of certain life insurance policies, being all of the policies hereinbefore 122 described, except that the group policy was only transferred in reference to the interests of James F. Waters. In addition to the assignment, James F. Waters executed separate instruments of transfer of each of the policies (except in the case of the group policy when it was a transfer of Certificate No. 49, and except with respect to the Prudential Insurance Company policies which were covered by riders changing the beneficiary to the petitioner and conferring all policy rights upon it. At the time of the delivery to Securities of the assignment the petitioner made and delivered to James F. Waters its check dated April 26, 1934, for $6,222.32. The voucher attached to the check bore the following notation: Actual cash value of policiesper our letter of 4/26/35$8,284.50Less premiums due after thisdate in 19352,062.18$6,222.32The letter of April 26, 1935, set forth the ten insurance policies with their several cash surrender values, having an aggregate cash surrender value of $8,284.50. No such value was assigned to policy No. 1299774 of the Metropolitan Life Insurance Company; Policy No. 1749830 of the Travelers Insurance Company, or policy No. G-7834 of the Travelers Insurance Company 123 (group insurance). The petitioner and Securities at all times since their respective dates of incorporation had an insurable interest in the life of James F. Waters. On or about October 31, 1938, Securities merged with the petitioner and there were then transferred to petitioner, by operation of law, all of the insurance policies heretofore described. Neither the petitioner nor Securities recognized any gain or loss upon the transfer of such insurance policies to petitioner. Prior to December 31, 1940, petitioner retransferred to James F. Waters, the individual, the aforementioned policy No. 1299774 issued by the Metropolitan Life Insurance Company and policy No. 236195 issued by the California-Western States Life Insurance Company for an aggregate sum of $3,570.50. That sum equalled the cost of the policies to the petitioner, including the premiums paid on the policies by the petitioner and Securities. Prior to December 31, 1939, Securities and the petitioner paid as premiums upon policy No. 1299774 issued by the Metropolitan Life Insurance Company the sum of $71.21 and as premiums upon policy No. 236195 issued by the California-Western States Life Insurance Company the sum of $2,852.50. 124 The petitioner and Securities paid $13,850.68 as premiums on the seven insurance policies hereinbefore described and also on the Travelers group policy. To this amount is added the sum of $6,222.32 paid to James F. Waters for the policies and from it is subtracted the sum of $3,570.50 paid to the petitioner for the retransfer of the Metropolitan Life Insurance policy No. 1299774 and the California-Western States Life Insurance Company policy No. 236195. The petitioner paid Lura B. Waters, former wife of James F. Waters, $15,000 to eliminate her claim to certain of such policies. The aggregate of the sums so paid, plus $300 previously reported in gross income, is $34,726.21. In the computation of the deficiency, if any, that sum should be deducted from the proceeds of the insurance policies received by the petitioner instead of the sum of $36,592.21 originally used by the Commissioner in his notice of deficiency. James F. Waters died May 10, 1941, and the petitioner received the following amounts on account of the following insurance policies: No. of PolicyAmountPacific Mutual Life Insurance Co.752344$10,110.00Occidental Life Insurance Co.87068893,544.08Metropolitan Life Insurance Co.12365042,039.69 125 National Life Insurance Co.51067110,000.00Prudential Insurance Company of America47989205,500.00Prudential Insurance Company of America51400615,500.00Travelers Insurance Co.G-78345,000.00Travelers Insurance Co.174983010,000.00$141,693.77Prior to the calendar year 1941 neither petitioner nor Securities had ever received as beneficiary, or as assignee of beneficiary's interest, the proceeds of any life insurance policies. During the entire existence of the petitioner it has engaged exclusively in the business of buying, selling and distributing new and used automobiles at wholesale and retail and matters incidental thereto. The petitioner's excess profits credit for the calendar year 1941 based on income was and is the sum of $176,527.46. The petitioner is entitled to a specific exemption of $5,000 for excess profits tax purposes. The petitioner is entitled to an unused excess profits tax carry-over from the calendar year 1940 to the calendar year 1941 in the amount of $31,547.04. The petitioner's value of capital stock as declared in its capital stock return for the year ended June 30, 1941, was and is the sum of $4,000,000. The petitioner is entitled to a dividends received credit in the amount of $41,711.17. The petitioner failed to pay the following premiums due as indicated: Policy No.CompanyDue Date510671National Life Insurance Co.June 16, 19395140061Prudential Insurance Co. of AmericaJuly 29, 19394798920Prudential Insurance Co. of AmericaJuly 29, 19391236504Metropolitan Life Insurance Co.July 28, 1939870688Occidental Life Insurance Co.July 26, 1939752344Pacific Mutual Life Insurance Co.Mar. 22, 19391749830Travelers Insurance Co.Apr. 3, 1939126 Upon the petitioner's failure to pay the premium, the cash value of the National Life Insurance Company policy No. 510671 was applied by it to the purchase of continued term insurance in the sum of $10,000, expiring December 17, 1953. By reason of the petitioner's failure to pay the premium due on the Prudential Insurance Company policy Nos. 5140061 and 4798920 and the failure to surrender the policies for their cash value or paid-up life insurance, the company put in force, in lieu of such policies, non-participating term policies for $5,000 each and for the terms of 12 years and 124 days, and 13 years, 48 days, respectively. Upon the petitioner's failure to pay the premiums thereon, the following actions were taken: (1) An endorsement on the Metropolitan Life Insurance Company policy No. 1236504 was made for paid-up insurance for $2,014 for a term of 14 years, 150 days. (2) Policy No. 870688 of the Occidental Life Insurance Company was continued in force under its automatic premium loan provision until the death of James F. Waters. (3) Insurance for the face amount of policy No. 752344 of the Pacific Mutual Life Insurance Company was continued in force for a term of 10 years, 236 127 days. (4) Policy No. 1749830 of the Travelers Insurance Company was automatically continued as term insurance under the terms of the policy. The record discloses the following additional facts: The petitioner owned the controlling interest in a Michigan corporation engaged in the assembly of taxicabs and in a New York corporation, the distributor thereof. The New York corporation also had a retail franchise for the sale of DeSoto and Plymouth automobiles in Long Island City. James F. Waters was the president and directing head of both corporations, as well as of the petitioner. After the death of James F. Waters on May 10, 1941, a controversy arose between the petitioner and Ronnie K. Waters, widow of James F. Waters. Negotiations for its settlement were in progress on December 7, 1941. The Pearl Harbor disaster made it apparent that automobile production would be restricted. Consequently, the proposed settlement was not made and Mrs. Waters commenced litigation against the petitioner in the Superior Court for the City and County of San Francisco. The litigation continued until March 1942. In January 1942 the manufacture of new automobiles was frozen by the Government. The manufacturer 128 of the cars sold by the petitioner offered about 1,000 of them to the petitioner but the latter was prevented from obtaining them because of Mrs. Waters' objection. In March 1942 the petitioner and Ronnie K. Waters executed a settlement agreement under which the petitioner paid the following amounts: 1. To Mrs. Ronnie K. Waters, $188,973 for 5,039.28 shares of petitioner's stock. 2. To Mrs. Ronnie K. Waters, $196,027 in cash and installment payments. 3. To Walter McGovern, attorney for Mrs. Waters, $22,500. 4. To Mrs. Lura B. Waters, a former wife of James F. Waters, $35,000. The petitioner also transferred to Ronnie K. Waters the title to the Woodside property, valued at $67,057.95. The petitioner also paid over $100,000 in order that the estate of James F. Waters might be closed. In his notice of deficiency, the respondent added to the petitioner's income the sum of $105,101.56 with the following explanation: As beneficiary of certain insurance policies on the life of James F. Waters you received an amount of $141,693.77, representing the proceeds of such policies, upon his death. It is held that the amount of $105,101.56 is includible in gross income for the year 1941, under the 129 provisions of section 22 (b) (2) (A) of the Internal Revenue Code, determined as follows: Proceeds of policies$141,693.77Less: Purchase price of policies paid to James F. Waters by JamesF. Waters Securities Co., your transferor$ 6,222.32Premiums paid by you and James F. Waters Securities Co.18,640.39$24,862.71Less: Premiums applicable to two policies disposed of priorto taxable year3,570.50$21,292.21BalancePlus: Amount paid Mrs. Laura Waters to settle her claim toproceeds15,000.00Miscellaneous credit previously reported in gross income300.0036,592.21Net Proceeds held taxable$105,101.56Opinion VAN FOSSAN, Judge: Petitioner argued at some length that the insurance proceeds are not includible in petitioner's gross income. We are wholly unimpressed by this contention. Clearly the proceeds of insurance on Waters' life are income under the specific provisions of section 22 (b) (2) (A)1130 , modifying section 22 (b) (1). Such proceeds fit exactly under the statute. See Premier Products Co., 2 T.C. 445">2 T.C. 445; E. T. Slider, 5 T.C. No. 29">5 T.C. No. 29 (June 18, 1945). Petitioner next argues that such insurance proceeds constitute "abnormal income" under section 721, Internal Revenue Code, as amended. This the respondent inferentially concedes (see also the above cited cases). The respondent held, however, that "life insurance proceeds do not constitute abnormal income attributable to prior years * * ." Here, petitioner argues, the respondent erred and that the proceeds were attributable to prior years. This phase of the matter, under the statute, is governed by the Commissioner's regulations. 2 These regulations, or their 131 counterparts, were fully analyzed and approved by the Court in Premier Products Co., supra. Petitioner is bound by our ruling in that case. The income was not attributable to prior years. Premier Products Co., supra; E. T. Slider, supra. Petitioner concedes that our holding in Premier Products Co., supra, is contrary to its position and urges that we should reverse that decision. It advances no argument that persuades us that we erred in our reasoning in the cited case. We adhere to that decision. Decision will be entered under Rule 50. Footnotes. Includes $25.69 interest.1. SEC. 22. GROSS INCOME. * * * (b) Exclusions From Gross Income. - * * (2) Annuities, etc. - (A) In General - * * * In the case of a transfer for a valuable consideration, by assignment or otherwise, of a life insurance, endowment, or annuity contract, or any interest therein, only the actual value of such consideration and the amount of the premiums and other sums subsequently paid by the transferee shall be exempt from taxation under paragraph (1) or this paragraph. The preceding sentence shall not apply in the case of such a transfer if such contract or interest therein has a basis for determining gain or loss in the hands of a transferee determined in whole or in part by reference to such basis of such contract or interest therein in the hands of the transferor.2. Sec. 35.721-3, Regulations 112.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621887/	STOUTS MOUNTAIN COAL CO., PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Stouts Mountain Coal Co. v. CommissionerDocket No. 6542.United States Board of Tax Appeals4 B.T.A. 1292; 1926 BTA LEXIS 2038; September 30, 1926, Decided 2038 A corporation owning and operating a mine and claiming a deduction from gross income of an amount for depletion based upon an estimated tonnage of coal in place, and the mine becoming completely exhausted during one of the taxable years under review, thereby proving that the number of tons of coal in place was substantially less than the estimated number of tons upon which the claim for depletion for earlier years was based, is entitled to have its claim for depletion for the year in which the mine was exhausted revised and to have the undepleted cost of the coal in place at the beginning of the taxable year taken as a deduction for depletion for such year. G. R. Harris, C.P.A., for the petitioner. Ward Loveless, Esq., for the respondent SMITH 1292 Proceeding for the redetermination of deficiencies in income and profits taxes for the years ended October 31, 1920, and October 31, 1921, in the respective amounts of $69.34 and $811.77. The question in issue is the proper amount of depletion which the petitioner is entitled to deduct from gross income in its tax returns for the fiscal years involved. 1293 FINDINGS OF FACT. The petitioner2039 is an Alabama corporation, incorporated November, 1917, with $2,000 capital stock. The stockholders were five brothers and a brother-in-law. It was organized to acquire an abandoned coal mine in which it was estimated there were still 400,000 tons of recoverable coal. The father of the five brothers agreed to advance money to the corporation to enable it to acquire the property and to build a spur line from the mine to the main tracks of the Louisville & Nashville R.R. Co. The exact amount paid by the petitioner corporation for the coal rights in the mine is not in evidence but is admitted by the petitioner and by the Commissioner to have been at least $14,500. In 1919 the petitioner acquired the surface rights of the mining lands, together with an adjoining tract covering several hundred acres of land, for $10,040. The number of tons of coal mined for the fiscal years ended October 31, 1920, and October 31, 1921, was 32,438 and 14,017, respectively. Prior to the close of the last named fiscal year the vein of coal "pinched out" and a wall of stone prevented any further mining operations. Exploratory drilling failed to reveal any other recoverable coal. The petitioner recovered2040 less than 75,000 tons of coal from the mine. The entire assets of the company were sold and disposed of at great loss to the petitioner in years subsequent to 1921. The income-tax return filed by the petitioner for the fiscal year ended October 31, 1920, showed a loss of $4,375.55. On this return the petitioner claimed a deduction for depletion of $8,244.80. The Commissioner allowed a deduction for depletion of only $1,175.88 and disallowed the deduction of $7,068.92, thereby determining a net income of $2,693.37 instead of a loss of $4,375.55 as shown by the return. The return filed for the succeeding fiscal year showed a loss of $477.25. On this return the petitioner claimed a depletion allowance of $6,527.40. In the audit of the return the Commissioner computed a depletion allowance of $508.12 and disallowed $6,019.28 of the amount claimed, thereby determining a net income for the fiscal year of $5,542.03 instead of a loss of $477.25. The depletion allowed by the Commissioner for both taxable years was based on a cost of $14,500 applicable to 400,000 tons of removable coal, resulting in a depletion unit rate of $.03625 per ton. OPINION. SMITH: The taxing statute2041 permits a taxpayer to deduct from gross income - In the case of mines, * * * a reasonable allowance for depletion and for depreciation of improvements, according to the peculiar conditions in each 1294 case, based upon cost including cost of development not otherwise deducted: * * Section 234(a)(9), Revenue Act of 1918. A reasonable allowance must be made for depletion in accordance with the facts in a given case. At the time the petitioner started operations, and during the year 1920, it believed that the recoverable tons of coal in its property were 400,000. It developed, however, prior to the close of its fiscal year ended October 31, 1921, that the recoverable tons were in all not in excess of 75,000. The depletion deduction for such year is the undepleted cost of the coal in place at the beginning of such year; in other words, the undepleted cost on November 1, 1920, should be spread over the number of tons of coal removed during the fiscal year ended October 31, 1921. Only in this way will the petitioner be allowed to recover from gross income, as a depletion deduction during the life of the mine, the undepleted cost of the coal in place at the beginning of*2042 the taxable year. Order of redetermination will be entered on 15 days' notice, under Rule 50.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621888/	Margaret Batts Tobin, Petitioner, v. Commissioner of Internal Revenue, Respondent. Edgar G. Tobin, Petitioner, v. Commissioner of Internal Revenue, RespondentTobin v. CommissionerDocket Nos. 13611, 13612United States Tax Court11 T.C. 928; 1948 U.S. Tax Ct. LEXIS 24; November 30, 1948, Promulgated 24 Decisions will be entered under Rule 50. 1. Petitioners are husband and wife, domiciled in Texas. On November 14, 1935, each petitioner created a trust having a corporate trustee and an advisory committee of three persons and provided that the net income of each trust was to be paid to the other as the advisory committee might direct for life, with remainder over to others. On June 14, 1935, each petitioner created a trust having a corporate trustee and an advisory committee of three persons and provided that the net income of each trust was to be paid to the other as the advisory committee might direct for life, and upon the death of the life beneficiary the corpus was to become a part of the life beneficiary's estate, distributable in accordance with his or her will or, in case of intestacy, under the Texas law of descent and distribution. Held, under the principles enunciated in Lehman v. Commissioner, 109 Fed. (2d) 99, these four trusts are reciprocal trusts and the net income therefrom is taxable to petitioners under section 167 (a) (2) of the Internal Revenue Code and as community income under the laws of Texas. Commissioner v. Porter, 148 Fed. (2d) 566.25 2. On June 14, 1935, petitioner Edgar Tobin created three trusts, each having a corporate trustee and an advisory committee of three persons. The net income was payable in the discretion of the advisory committee to the primary beneficiaries, consisting of his mother, daughter, and son, for life, with remainder over to others. On June 14, 1935, petitioner Margaret Batts Tobin created a trust having a corporate trustee and an advisory committee of three persons. The net income of this trust was payable in the discretion of the advisory committee to her son for life, with remainder over to others. All trusts were irrevocable and no part of the corpus or income could revert to the respective grantor. Each petitioner was a member of each advisory committee. Held, the net income of these four trusts is not taxable to petitioners under section 22 (a) of the Internal Revenue Code.3. Upon the evidence, held, petitioners have failed in their proof to show error on the part of the respondent in disallowing certain deductions claimed for farm expenses.4. Petitioners in 1943 deducted as a community business expense certain amounts paid to four trusts for storage of equipment used26 in petitioners' business. The respondent did not disturb the deduction taken, as such, but did include the income of the trusts, including the storage charges paid to the trusts, in petitioners' community income. Under issue 1 we held such inclusion was proper except for one trust. Petitioners have assigned as error the disallowance by respondent of the entire amount paid to the four trusts. Held, since under issue 1 three of the trusts are not recognized as valid trusts for income tax purposes, the respondent's determination as to such trusts, including the storage charges involved, is sustained; held. further, that the storage charges paid to the fourth trust are deductible by petitioners as an ordinary and necessary business expense.5. Held, petitioners are not entitled to a credit against the deficiencies for the tax paid for the years 1940 to 1943, inclusive, by the trustees of the trusts the income of which we held under issue 1 was taxable to petitioners. Leslie H. Green, 7 T. C. 263; affd., 168 Fed. (2d) 994, followed. Leroy G. Denman, Esq.,28 Leroy G. Denman, Jr., Esq., and B. F. Irby, C. P. A., for the petitioners.Allen T. Akin, Esq., and D. Louis Bergeron, Esq., for the respondent. Black, Judge. BLACK929 These consolidated proceedings involve deficiencies in income tax for the calendar years 1940 to 1943, inclusive, as follows:194019411943Margaret Batts Tobin$ 19,356.25$ 26,275.42$ 42,883.15Edgar G. Tobin19,356.2526,275.4242,879.62The deficiencies are due to numerous adjustments made by the respondent in the net community income as reported by petitioners in their returns, some of which were contested by appropriate assignments of error and some of which were not contested. The noncontested adjustments need not be considered.The principal adjustment contested by petitioners is a holding by the respondent that the income of three trusts created in 1935 by Margaret Batts Tobin and the income of five trusts created in 1935 by Edgar G. Tobin represented taxable community income to petitioners for the taxable years 1940 to 1943, inclusive, in the total amounts of $ 64,021.28, $ 79,751.86, $ 51,424.37, and $ 89,602.76 (consisting of net income of $ 73,575.37 and capital29 gain of $ 16,027.39), respectively. The other adjustments contested by petitioners consisted of holdings by the respondent that certain amounts claimed as net farm expenses by the community for the taxable years 1940 and 1941 and by four of the trusts to which the farm was transferred during 1943 for the taxable year 1943 did not represent allowable deductions for those years; that an amount of $ 1,840 claimed as storage and care of equipment on the Oakwell farm by the community for the taxable year 1943 did not represent an allowable deduction for that year; and that an amount of $ 8,225 claimed as a loss from storm and flood damage by the community for the taxable year 1942 did not represent an allowable deduction for that year. Petitioners, by appropriate assignments 930 of error, also allege that they are entitled to a deduction of $ 8,753.98 as net farm expenses by the community for the taxable year 1942 in addition to the amounts disallowed by the respondent for the years 1940, 1941, and 1943.By a first amendment to the original petitions, petitioners plead in the alternative that, if the income from trust property is held to be taxable to petitioners, then the tax 30 paid thereon by the trusts should be credited upon any deficiency assessed against petitioners as of the dates of payments thereof.The issues thus raised in both dockets may be summarized as follows:1. Is the income of the eight trusts for the taxable years 1940 to 1943, inclusive, taxable to petitioners as community income under the provisions of either section 22 (a) or section 167 of the Internal Revenue Code?2. Are petitioners entitled to deduct from their community income for the taxable years 1940, 1941, and 1942 certain amounts as farm expenses, and, if taxable on the trust income under issue 1, are they also entitled to deduct from their community income for the taxable year 1943 certain amounts as farm expenses paid by four of the trusts to whom the farm was transferred during 1943?3. Are petitioners entitled to deduct from their community income for the taxable year 1943 an amount of $ 1,840 claimed as storage and care of certain equipment during that year?4. If the income of the trusts is held to be taxable to petitioners, are they entitled to a credit against the deficiencies for the tax paid by the trustees for the years 1940 to 1943, inclusive?5. Are petitioners31 entitled to a loss on account of flood damage in 1942 to the Oakwell farm?Petitioners in their brief concede the fifth issue, and no further reference will be made to that issue.FINDINGS OF FACT.Petitioners are husband and wife and are domiciled in the State of Texas. During the taxable years 1940 to 1943, inclusive, they filed separate returns on the community property basis with the collector at Austin, Texas.Issue 1. -- Petitioner Edgar G. Tobin, hereinafter sometimes referred to as Tobin, was born and lives in San Antonio, Texas. During World War I he was a commissioned officer in the aviation section of the Signal Corps of the United States Army and flew as a pilot throughout the war. After the war he started selling automobiles in San Antonio. He built up this business to where, after a few years, he had an agency of his own and an income of about $ 500 a month. After 931 Lindbergh flew to Paris in 1927, Tobin purchased a few surplus airplanes that were left over from World War I. About this time he was approached by an individual with a camera who asked Tobin if he would take some aerial pictures of Devil's River for a certain power company which was considering32 building a dam on the river. Tobin consented to do this, and thereafter he conceived the idea of making aerial photographs for use in the petroleum industry. He interviewed the officials of several of the oil companies, who began to purchase photographs from him spasmodically. About 1929 or 1930, Tobin obtained a contract from the Humble Oil Co. to make an aerial map of the land between the Rio Grande and Sabine Rivers extending inland from the Gulf of Mexico approximately 100 miles, from which contract Tobin received about $ 1,200,000.As Tobin's business of aerial photography developed, he organized different corporations to perform different functions, so that in 1935 his business was conducted by himself as an individual and by the Edgar Tobin Aero Co., the Tobin Map Co., and Tobin Aerial Surveys, Inc.Petitioners were married in 1926. They have one son, Robert Batts Tobin, who was born March 12, 1934. Tobin had been married before and had a daughter, Katharine, by his previous marriage. His father had died sometime before 1935, but his mother, Ethel Murphy Tobin, was still living. His parents had always been people of small financial means. Petitioner Margaret Batts Tobin33 was the daughter of Judge Robert L. Batts of the United States Circuit Court of Appeals for the Fifth Circuit (1917-1919) and Harriet Fiquet Batts of Austin, Texas. Batts resigned from the bench in August 1919 and was thereafter the local attorney for the Gulf Oil Corporation and also represented other oil companies. He had been a man of financial means, but during the depression which began in 1929 he had lost his fortune and was left with heavy debts. In 1935 Tobin and his wife, having in mind his former poverty and her family's recent financial reverses, decided each to try to protect, as far as they were able to do so, the persons who were dear to them, respectively, against future financial want. As a result, Tobin and his wife in 1935 created from community property eight trusts, of which five were created by Tobin out of his one-half of the community estate and three by his wife out of her one-half of the community estate. Sawnie R. Aldredge, who was a lawyer and a brother-in-law of Margaret Batts Tobin, did most of the work in preparing the trusts. He submitted the rough drafts of the trusts to Batts, who also assisted in their preparation. Each trust had a corporate34 trustee and an advisory committee of three individuals. The corpus of the respective trusts as originally set up consisted of 932 stock in various companies and a promissory note, the fair market values of which were as follows:Ethel M.RobertRobertTobin andKatharineBattsBattsCorpusKatharineTobinTobinTobinTobinTrustTrustTrustTrustNo. 1No. 1No. 2Edgar Tobin Aero Co. stock$ 1 300$ 130$ 130$ 2,600Tobin Map Co. stock5001,0005004,000Pure Oil Co. stock8,0008,0008,00016,000Humble Oil & Refining Co. stock6,000Promissory note14,500Total9,8009,1308,63043,100MargaretEthelHarrietEdgarBattsMurphyFiquetCorpusTobinTobinTobinBattsTrustTrustTrustTrustEdgar Tobin Aero Co. stock$ 3,900$ 3,900Tobin Map Co. stock7,0007,000Pure Oil Co. stock8,0008,000Tobin Aerial Surveys, Inc., stock$ 4,000$ 4,000Total18,90018,9004,0004,000Tobin is the trustor of the Ethel M. Tobin and Katharine Tobin Trust, which was executed on June 14, 1935. The net income of the trust, as directed by the advisory committee, 35 is payable to Ethel M. Tobin (trustor's aged mother) during her lifetime, and in the event of emergency or necessity it is to be supplemented with payments out of the corpus if unanimously directed by the advisory committee. The undistributed income is to be reinvested and become a part of the corpus. Upon the death of Ethel M. Tobin the trust continues for the benefit of the trustor's daughter, Katharine Tobin, to be finally distributed in four installments when she arrives at the ages of 21, 25, 30, and 35 years. Ethel M. Tobin was born about 1872 and Katharine about 1922, so that with reasonable expectancy of life the greater portion of the trust will be distributed to Katharine. The trust, however, provides that if Katharine dies leaving a child or children before the date of distribution, the child or children shall receive the balance; but if she leaves no children, the trustor's son, Robert Batts Tobin, is to be substituted as beneficiary and shall receive the balance of the trust fund upon the final termination of the trust, which is to be 20 years after the death of Katharine or when she would have been 35 years old if she had lived, whichever period is shorter. The36 trust also provides that if Robert dies before Katharine or, having become the beneficiary, dies before receiving all the trust estate, then the trust is to continue for 10 years from the date of the death of the trustor's mother, daughter, or son (whichever may have last occurred) and the trustee shall deliver annually the income and 10 per cent of the corpus 933 to any child or children of Robert Batts Tobin; but that if Robert dies leaving no child, Margaret Batts Tobin shall be substituted as beneficiary and at the end of the 10-year period the trust estate shall be paid and delivered to her. The trust contains no provision for any distribution to the trustor.Tobin is the trustor of the Katharine Tobin Trust No. 1, which was executed on June 14, 1935. The net income of the trust is payable to the trustor's daughter, Katharine Tobin, as directed by the advisory committee, to be supplemented in case of emergency or necessity out of the corpus if unanimously directed by the advisory committee. Undistributed income is to be reinvested and become a part of the corpus. The corpus is distributable to Katharine in four equal installments at the ages of 21, 25, 30, and 35 years. 37 In the event Katharine dies before receiving all the trust estate, the trust is to continue for the benefit of her children, if any, and if no children, then the trust is to terminate and the remaining trust estate is to be delivered to the trustee of the Robert Batts Tobin Trust No. 1 as a part of the corpus of that trust. The trust contains no provision for any distribution to the trustor.Tobin is the trustor of the Robert Batts Tobin Trust No. 1, which was executed on June 14, 1935. Income of the trust is distributable in the discretion of the advisory committee to Robert Batts Tobin or for his benefit. The advisory committee may supplement by unanimous direction such income payment from the corpus in the case of emergency or necessity. Undistributed income is to be reinvested and become a part of the corpus. The corpus is to be distributed to Robert upon his reaching the ages of 21, 25, 30, and 35 years. In the event Robert dies before receiving all of the trust estate, the trust provides for contingent remainders to Robert's children, if any; or to the trustor's wife; or to the trustor's mother and his two sisters, or the survivor or survivors of them, share and share38 alike. The trust contains no provision for any distribution to the trustor.Margaret Batts Tobin is the trustor of Robert Batts Tobin Trust No. 2, which was executed on June 14, 1935. She was joined in the execution of the trust by her husband, Edgar G. Tobin, pro forma. Income of the trust is distributable in the discretion of the advisory committee to or for the benefit of the trustor's mother, Harriet Fiquet Boak Batts, during her life. The advisory committee may by unanimous direction supplement such income payments from corpus in the case of emergency or necessity. Undistributed income is to be reinvested and become a part of the corpus. In the event Robert Batts Tobin survives the trustor's mother, the trust continues for his benefit as successor beneficiary, with distribution of a proportionate part of the corpus to Robert upon his reaching 25, 31, 37, and 43 years of age. If Robert dies before receiving all of the trust estate, the trust provides 934 for contingent remainders to Robert's children, if any; or to the trustor's husband; or to the trustor's brother, sister, and sisters-in-law or to their children. The trustor's mother died in 1937. The trust39 contains no provision for any distribution to the trustor.Margaret Batts Tobin is the trustor of the Edgar Tobin Trust, which was executed on June 14, 1935. She was joined in the execution of the trust by her husband, Edgar G. Tobin, pro forma. Income of the trust is distributable to Tobin or for his benefit as the advisory committee may direct, supplemented in case of emergency and necessity by payments from corpus upon the unanimous direction of the advisory committee. Undistributed income is to be reinvested and become a part of the corpus. Upon the death of Tobin the corpus of the trust is to become a part of his estate, distributable in accordance with his will, or, if he dies intestate, under the Texas law of descent and distribution. The trust contains no provision for any distribution to the trustor.Tobin is the trustor of the Ethel Murphy Tobin Trust, which was executed on June 14, 1935. Income of the trust is to be paid to Margaret Batts Tobin or for her benefit as the advisory committee may direct, supplemented in case of emergency and necessity by payment from corpus upon the unanimous direction of the advisory committee. Undistributed income is to be reinvested40 and become a part of the corpus. Upon the death of Margaret Batts Tobin the corpus of the trust is to become a part of her estate, distributable in accordance with her will, or, if she dies intestate, under the Texas law of descent and distribution. The trust contains no provision for any distribution to the trustor.Tobin is the trustor of the Margaret Batts Tobin Trust, which was executed on November 14, 1935. The income of the trust is to be paid to Margaret Batts Tobin during her life as the advisory committee may direct. Undistributed income is to be added to the corpus. No distribution of the corpus is to be made during the life of Margaret Batts Tobin. If Ethel Murphy Tobin survives Margaret Batts Tobin, then the trust is to continue for 10 years and the trustee is to deliver annually to Ethel Murphy Tobin for a period of 10 years all of the income and 10 per cent of the corpus, computed upon the basis of the value thereof at the time of the death of Margaret Batts Tobin. If the trustor's mother does not survive the trustor's wife, or if she dies before receiving all of the trust estate, then the trust shall continue for the benefit of Robert Batts Tobin and payments41 are to be made to him, after his mother's death, under the conditions named in the trust instrument. If he dies before receiving all of the corpus, the trust estate passes to his children, if any, and if no children, then to Katharine Tobin, if living, and if not living, then to her children, and 935 if she leaves none, "then this trust shall terminate and the corpus and accumulated net income be paid or delivered in fee simple to my nieces, Anne and Jane Riley, share and share alike, or to the survivor of them." The trust contains no provision for any distribution to the trustor.Margaret Batts Tobin is the trustor of the Harriet Fiquet Batts Trust, which was executed on November 14, 1935. She was joined in the execution by her husband pro forma. The net income of the trust is distributable to the trustor's husband during his life as the advisory committee may direct. Undistributed income is to be added to the corpus. No distribution of the corpus is to be made during the lifetime of Tobin. If the mother of the trustor survives Tobin, then the trust income and 10 per cent of the corpus as it then exists is distributable annually for 10 years to the trustor's mother. 42 If (as was the fact) the trustor's mother does not survive the trustor's husband, or if she dies before receiving all of the trust estate, then the trust shall continue for the benefit of Robert Batts Tobin and payments are to be made to him, after his father's death, under the conditions named in the trust instrument. If Robert dies before receiving all of the corpus, the trust estate passes to his children, if any, and if no children, then to the trustor's sister, Mrs. Sawnie R. Aldredge, if living, and if not living, then "this trust shall terminate and the corpus and accumulated net income shall be paid or delivered in fee simple to the children of my said sister, share and share alike, or to the survivor or survivors of my sister's said children." The trust contains no provision for any distribution to the trustor.All of the trusts are declared to be irrevocable. Each trust contains substantially the following clauses:The trustee shall have the power under limitations hereinafter provided:(1) to receive, hold, manage, control, lease, sell, exchange, invest, reinvest, loan, convert, or in anywise dispose of any part of the trust estate;(2) to borrow for the benefit of such43 trust estate and to pledge the assets thereof as security for such loan;(3) to make such contracts with reference to the estate or any part thereof as the trustee may consider proper;(4) to incur such reasonable expenses as may be necessary;(5) to take out insurance on a life or lives insurable in behalf of beneficiary, or pay premiums on insurance taken out in her favor or both.In the exercise of the powers given, or in the discharge of any duty concerning the trust, the trustee is given (under limitations herein set forth) full discretion, and shall not be held responsible for any loss unless such loss is directly due to its negligence or bad faith. Without the consent of the Advisory Committee, no sale of any security or other property shall be made for reinvestment, nor any money borrowed.In all dealings with reference to the property comprising the trust estate, no person dealing with such trustee shall be required to look to the application of the proceeds of such sales, leases, or other dealings.936 As compensation for this service, the trustee shall be entitled to retain out of the income derived from such trust estate two hundred dollars ($ 200.00) per annum. 44 In the event of extraordinary services not usually connected with the administration of a trust, the trustee shall be entitled to extra compensation to be agreed upon between the trustee and the Advisory Committee hereinafter created.There is hereby created an Advisory Committee, consisting of * * . Members of the Advisory Committee shall receive ten dollars per month and expenses. Any member of the Advisory Committee may be employed by the other members and the trustee for professional or other services not included within the ordinary services of the Advisory Committee, and compensation therefor may be agreed upon between such member of the Advisory Committee and the other members and the trustee. The Committee may act by a majority except where by this instrument unanimous action is required. The trustee may consult with the Advisory Committee, or any member thereof, and is hereby authorized to comply with and follow any advice or instructions given to it by the Advisory Committee. In the event the Advisory Committee delivers written instructions to the trustee as to the management of said trust estate, either as to the distribution of a portion of the income or of the corpus45 of the estate or as to investment of any part of either, or with reference to the exercise of rights as a stockholder of stock belonging to the trust, or with reference to any other matter in connection with the corpus or the income, the trustee shall be required to follow instructions of said Advisory Committee unless such instructions may render the trustee liable to other parties. When the trustee has received such instructions of the Advisory Committee and has followed same, the trustee shall be free from all responsibility to any beneficiary hereunder for any action or omission pursuant to such instructions. The trustee may at its discretion follow the instructions of a majority of the Advisory Committee, but shall not be required to act unless given written instructions signed by all members.A member of the Advisory Committee shall have the right to resign by giving thirty days notice to the trustee and to the other members of the committee. In the event of the death, resignation, refusal, or inability to act, of any original or successor member or members of the Advisory Committee, the remaining member or members may appoint a successor or successors by an instrument filed46 with the trustee. Action by the remaining member or members of the Advisory Committee in accepting such resignation shall make such resignation effective immediately.The trustee shall have the right to resign by giving written notice to the trustor and the members of the Advisory Committee; the resignation shall become effective thirty days after notice, unless by action of the Advisory Committee within that period the resignation is made effective at an earlier date. Upon the resignation of the trustee or upon the arising of any circumstance making it impossible for the trustee to act, another trustee shall be elected by the Advisory Committee and thereupon all of the estates, duties, powers and privileges of the trustee, as provided by this instrument shall immediately devolve upon and become vested in said new trustee. * * The trustee shall retain and invest or reinvest any portion of the unexpended income upon instructions from the Advisory Committee and such unexpended income when so invested shall become a portion of the corpus of the trust estate.A majority of the Advisory Committee may at any time without assigning any reason therefor, appoint a successor trustee in47 place of the then acting trustee 937 by delivering written notice thereof to said acting trustee; thereupon all of the estates, duties, powers and privileges of the trustee so provided by this instrument shall immediately devolve upon and become vested in the said new trustee. Trustor may not be appointed. The compensation of such new trustee shall be fixed by the Advisory Committee.Each of the three trusts designated as the Ethel M. Tobin and Katharine Tobin Trust, the Katharine Tobin Trust No. 1, and the Robert Batts Tobin Trust No. 1 contained the following clauses:The Advisory Committee shall have the right to designate from time to time an attorney for the trust estate and shall notify the trustee in writing of such appointment; the trustee shall consult with such attorney in any matter connected with the trust estate in which the trustee or the Advisory Committee feels that it should have legal advice; the trustee is relieved from all responsibility for any action taken pursuant to the advice of such attorney. The compensation of such attorney shall be as agreed upon between the attorney, the Advisory Committee and the trustee.The trustee shall furnish to the Trustor48 and the members of the Advisory Committee, if they so request, at the end of each three (3) months period a statement of all receipts and disbursements of the trusteeship, covering such periods, together with an itemized list of all assets, investments, and the actions taken with reference to the administration of the trust estate.Members of the Advisory Committee shall not be responsible to any person for any action taken in that capacity, except for gross negligence, fraud or willfull bad faith.The advisory committee of each trust as originally appointed and as constituted during the taxable years was as follows:(1) Ethel M. Tobin and Katharine Tobin Trust: The original committee consisted of Tobin, Margaret Batts Tobin, and Sawnie R. Aldredge. On June 17, 1940, Aldredge resigned and he was succeeded by Edith W. Harrison, who was the maternal grandmother of Katharine Tobin.(2) Katharine Tobin Trust No. 1: The same as (1).(3) Robert Batts Tobin Trust No. 1: The original committee was the same as (1). On June 17, 1940, Aldredge resigned, and he was succeeded by Georgia C. McNemer who was a personal friend of Margaret Batts Tobin.(4) Robert Batts Tobin Trust No.49 2: The same as (3).(5) Edgar Tobin Trust: The original committee consisted of Ethel Murphy Tobin, Sawnie R. Aldredge, and Hilary C. Gross (later Hilary Cooper), who has been Tobin's employee for about 20 years. On November 15, 1936, Ethel Murphy Tobin and Aldredge resigned and were succeeded by Tobin and George S. Rice, Jr. On April 4, 1942, Rice resigned to accept a commission in the United States Air Forces and was succeeded by Ruth M. Harris, who is also one of Tobin's employees.(6) Margaret Batts Tobin Trust: The original committee was the same as (5). On December 15, 1936, Ethel Murphy Tobin and Hilary 938 C. Gross resigned and were succeeded by Margaret Batts Tobin and Mary Batts Aldredge, who was the sister of Margaret Batts Tobin and the wife of Sawnie R. Aldredge. On June 17, 1940, both the Aldredges resigned and were succeeded by Georgia C. McNemer and J. H. Frost, who was president of the Frost National Bank in San Antonio.(7) Ethel Murphy Tobin Trust: The original committee consisted of Sawnie R. Aldredge, Hilary C. Gross, and George S. Rice, Jr. On June 28, 1940, Aldredge resigned and was succeeded by Tobin. On April 4, 1942, Rice resigned50 and was succeeded by Ruth M. Harris.(8) Harriet Fiquet Batts Trust: The same as (7).The members of the respective advisory committees were all persons of integrity and were selected by the respective trustors because he or she believed these members of the advisory committees would act in the best interests of the beneficiary or beneficiaries of the respective trusts.One of the purposes of having an advisory committee for each trust was to free the trustee from responsibility in making more liberal investments, providing the trustee acted upon the recommendation of a majority of the committee.The Alamo National Bank of San Antonio, Texas, was the original trustee in each one of the eight trusts. On June 18, 1937, the advisory committee of four of the trusts (Robert Batts Tobin Trust No. 1, Edgar Tobin Trust, Margaret Batts Tobin Trust, and Harriet Fiquet Batts Trust) notified the Alamo National Bank that they had appointed the Frost National Bank of San Antonio as successor trustee and requested the Alamo National Bank to transfer immediately all of the estate of each of these four trusts to the new trustee. On February 21, 1944, which is subsequent to the taxable years 51 here involved, the advisory committee of each of the other four trusts notified the Alamo National Bank that they had appointed the San Antonio Loan & Trust Co. as successor trustee and requested the Alamo National Bank to transfer immediately all of the estate of each of these four trusts to the new trustee.On January 15, 1938, which is prior to the taxable years here involved, the advisory committee of the Edgar Tobin Trust, consisting of Tobin, Hilary Cooper, and George S. Rice, Jr., authorized and instructed the trustee (Frost National Bank) of the Edgar Tobin Trust to lend Tobin the sum of $ 10,000. This sum was repaid by Tobin on April 11, 1939, which was prior to the taxable years here involved.About 1934 the Tobin Map Co. acquired a building at 502 West Mistletoe in San Antonio for use as a telephone exchange. When the telephone company in San Antonio went on a dial system, this building became surplus. On May 27, 1937, the Edgar Tobin Trust acquired 939 this building, together with the office furniture and equipment therein, from the Tobin Map Co. for $ 34,168.33 in cash. The trust carried this property on its books as real estate, $ 26,699.73, and miscellaneous52 assets, $ 7,468.60. On August 1, 1942, the advisory committee of the Edgar Tobin Trust, consisting of Tobin, Hilary Cooper, and Ruth Harris, authorized and instructed the trustee (Frost National Bank) to lease the Mistletoe Building to Edgar Tobin Aerial Surveys from August 1, 1942, through July 31, 1943, at a monthly rental of $ 602.50.On May 1, 1942, the advisory committee of the Edgar Tobin Trust, consisting of Tobin, Hilary Cooper, and Ruth Harris, authorized and instructed the trustee (Frost National Bank) to purchase from Tobin as of June 1, 1942, certain real estate and improvements known as 114 Camp Street in San Antonio for the sum of $ 106,983.49 and to give Tobin a note therefor payable on or before five years from date, with interest payable semiannually at the rate of 4 per cent, and the committee further authorized the trustee to rent the said premises from June 1, 1942, to June 30, 1943, to the United States for a monthly rental of $ 3,625, with the privilege of renewal in one-year periods for not longer than June 30, 1945. The price of $ 106,983.49 was the same price at which Tobin had previously purchased the property. On the same day, May 1, 1942, the advisory53 committee of the Edgar Tobin Trust authorized the trustee of that trust to sell to the Margaret Batts Tobin Trust, Harriet Fiquet Batts Trust, and Ethel Murphy Tobin Trust each a one-fourth interest in the 114 Camp Street property in consideration for the assumption by each trust of a one-fourth obligation in the note given by the Edgar Tobin Trust to Tobin for $ 106,983.49.On January 18, 1943, the advisory committee of the Edgar Tobin Trust instructed the trustee of the trust not to carry insurance of any kind on the Mistletoe and Camp Street properties, except that it could at its discretion require public liability insurance or war risk insurance, or both. Tobin considered it a waste of money to insure these buildings for fire.At some time prior to the taxable years in question Tobin purchased, as community property, a farm of approximately 210 acres located in Bexar County beyond the edge of the city of San Antonio, which farm is hereinafter sometimes referred to as the Oakwell farm. On February 5, 1943, the Frost National Bank, as trustee for the Margaret Batts Tobin Trust, the Harriet Fiquet Batts Trust, the Robert Batts Tobin Trust No. 1, and the Edgar Tobin Trust, was 54 authorized and instructed by the respective advisory committees to purchase from Tobin as of February 15, 1943, each a one-fourth interest in the Oakwell farm, improvements, and stock. The consideration to be paid 940 by each trust for its respective one-fourth interest and the terms thereof were as follows:TrustConsiderationTermsMargaret Batts Tobin Trust$ 16,465.49CashHarriet Fiquet Batts Trust16,465.50CashRobert Batts Tobin Trust No. 116,465.505-year 4% noteEdgar Tobin Trust16,465.50CashAt the same time the trustee of these four trusts was authorized to set up monthly from each trust, in an account known as the "Oakwell Farm" account, the sum of $ 250, subsequently increased to $ 1,250 per quarter, from which all normal and regular pay roll and maintenance bills would be paid.The management and operation of the Oakwell farm were left to Hilary Cooper, who set up books to cover the farm operation. Hilary Cooper would make purchases for the farm at the request of the foreman and would deposit into the farm account all farm receipts. At the end of each three months Hilary Cooper would submit a statement to the trustee for its approval, showing55 the farm operations. The trustee never disapproved any expenditures made for the farm.The Oakwell farm was sold to the above mentioned four trusts at the price paid by Tobin, following his instructions that whatever he paid for a thing it went to the trusts at exactly the same price.During the taxable years here involved each petitioner filed separate returns and each petitioner reported net income as follows:YearNet incomeIncome taxVictory taxnet incomenet income1940$ 58,341.90194161,253.33194276,504.231943$ 73,988.28$ 79,708.21The respondent determined that the net income of each of the eight trusts was taxable to petitioners as community income and that such net income of each of the trusts was as follows:Trust194019411. Ethel M. Tobin and Katharine Tobin Trust$ 4,117.98$ 4,874.002. Katharine Tobin Trust No. 14,067.985,235.703. Robert Batts Tobin Trust No. 14,045.305,793.574. Robert Batts Tobin Trust No. 26,715.299,408.745. Edgar Tobin Trust13,005.1215,183.416. Margaret Batts Tobin Trust12,409.6116,052.657. Ethel Murphy Tobin Trust10,105.0012,327.508. Harriet Fiquet Batts Trust9,555.0010,876.29Total trust income held taxable to the community by the respondent64,021.2879,751.8656 Trust194219431. Ethel M. Tobin and Katharine Tobin Trust$ 1,930.00None 2. Katharine Tobin Trust No. 12,615.00$ 1,903.623. Robert Batts Tobin Trust No. 12,870.005,324.544. Robert Batts Tobin Trust No. 25,309.829,621.375. Edgar Tobin Trust12,371.5021,936.036. Margaret Batts Tobin Trust11,072.1620,436.667. Ethel Murphy Tobin Trust7,450.9015,336.678. Harriet Fiquet Batts Trust7,804.9915,043.87Total trust income held taxable to the community bythe respondent51,424.3789,602.76941 During the taxable years here involved the net income of all of the trusts, except two, was accumulated and added to corpus. The two exceptions were the Ethel M. Tobin and Katharine Tobin Trust and the Katharine Tobin Trust No. 1. In the former trust $ 1,220 of income was distributed to Ethel Tobin in 1943, and in the latter trust $ 1,120 of income was distributed to Katharine Tobin in 1943. Katharine received her support and education from her father's funds. The said $ 1,120 was distributed to Katharine, so that she would have some extra spending money. Katharine became 21 years of age in December 1943, at which time 25 per cent of the57 corpus of the Katharine Tobin Trust No. 1 was delivered to her.In addition to the above net income which was accumulated and added to corpus, there were other amounts of income and principal from 1935 to 1943, inclusive, that were added to the corpus of each of the trusts. Also during this period certain portions of the corpus of the respective trusts were sold and the proceeds reinvested in other assets, so that by the end of 1943 the net corpus of the respective trusts, as shown by the books of the respective trusts, was as follows:Ethel M.CorpusTobin andKatharineRobertRobertKatharineTobin TrustBatts TobinBatts TobinTobin TrustNo. 1Trust No. 1Trust No. 2Cash$ 18,970.54$ 9,581.15$ 6,015.22$ 23,065.17Stocks40,840.7040,174.9154,241.55104,412.89Bonds370.00370.00370.00370.00Real estate12,924.14Miscellaneous assets3,416.362,902.02Total60,181.2450,126.0676,967.27130,750.08Less liabilitiesNoneNone13,699.99NoneNet corpus60,181.2450,126.0663,267.28130,750.08MargaretEthelHarrietCorpusEdgar TobinBatts TobinMurphyFiquetTrustTrustTobin TrustBatts TrustCash$ 4,171.87$ 2,479.81$ 12,928.32$ 7,442.59Stocks114,898.40138,919.0983,382.4177,244.57Bonds370.00370.00370.002,070.00Real estate66,369.7539,670.0126,745.8739,670.01Miscellaneous assets12,933.635,465.022,048.675,465.04Total198,743.65186,903.93125,475.27131,892.21Less liabilities16,745.8718,745.878,745.8723,745.87Net corpus181,997.78168,158.06116,729.40108,146.3458 The above mentioned liability of the Robert Batts Tobin Trust No. 1 was the balance of the note payable to Tobin for the Oakwell farm. The above mentioned liabilities of the last four trusts were the balances of notes payable to Tobin for the 114 Camp Street property.Tobin, in his will, left his one-half of the community to his two children, share and share alike, and about $ 20,000 of separate property 942 to his two nieces. He named Margaret Batts Tobin as executrix of his will and, in the event of her death, Hilary Cooper.After the creation of the Ethel M. Tobin and Katharine Tobin Trust, the Katharine Tobin Trust No. 1, the Robert Batts Tobin Trust No. 1, and the Robert Batts Tobin Trust No. 2, the respective grantors of these trusts did not remain the owners of the assets transferred to the trusts for the purposes of section 22 (a) of the Internal Revenue Code.Issue 2. -- At the time Tobin purchased the Oakwell farm his son Roberts was in delicate health and petitioner thought it might benefit his son to live in the country. Tobin made a tentative plan to use a small acreage out of the original total of about 210 acres as a site for a house, but went only to 59 the extent of having the profile design made of a house he had seen and admired in another state. Before he had done more his son regained his health and Tobin abandoned all plans to build. The farm had been used for farming purposes for over 100 years. It was improved only by fences, a small foreman's house, and sheds for cattle, sheep, goats, and other livestock. About 85 per cent of the farm was in cultivation and it has been farmed each year since the original purchase. As stated under issue 1, the farm was sold to four of the trusts in 1943.On their returns for 1940 and 1941, petitioners reported as a part of their community income $ 305.24 and $ 618.83, respectively, as proceeds from the sale of sheep wool. They deducted as a part of their community deductions for farm expense the amounts of $ 10,614.75 and $ 10,276.80, respectively, which they itemized in their returns as follows:Item19401941Wages$ 7,257.97$ 6,164.84Repairs and maintenance1,040.62281.95Gas, oil and grease463.98656.34Food, seed, etc558.22322.60Utilities622.95589.26Miscellaneous66.40Insurance260.56895.65Hardware and small tools77.7462.19Supplies358.71Veterinary and medicine59.85180.49Hauling23.75Depreciation on tenant house, sheds, and stables120.66328.87Depreciation on farm equipment152.20345.75Total10,614.7510,276.8060 On their returns for 1942 and 1943 petitioners did not report any income or claim any deduction for expenses of the Oakwell farm.For the year 1943 the Margaret Batts Tobin Trust, the Harriet Fiquet Batts Trust, the Robert Batts Tobin Trust No. 1, and the Edgar Tobin Trust each claimed as a deduction one-fourth of $ 6,518.20 as a loss from the operation of the Oakwell farm.943 The respondent, in his determination of the deficiencies, eliminated from income the proceeds from the sale of wool and disallowed the deductions claimed for farm expenses, and, in a statement attached to each deficiency notice, he explained his holdings as follows:Farm expense is disallowed for the reason that the farming operation was not entered into for profit. but with the idea of establishing a country home.It is held that the amount of $ 10,309.51 claimed as net farm expense by the community for the taxable year 1940 does not represent an allowable deduction for that year.It is held that the amount of $ 9,657.97 claimed as net farm expense by the community for the taxable year 1941 does not represent an allowable deduction for that year.It is held that farm losses claimed by various trusts61 for the taxable year 1943 do not represent allowable deductions from the trust income, which income is held to represent taxable income to the community. Such farm losses are as follows:TrustFarm LossEdgar Tobin Trust$ 1,629.55Margaret Batts Tobin Trust1,629.55Robert Batts Tobin Trust No. 11,629.55Harriet Fiquet Batts Trust1,629.55Issue 3. -- During the year 1943, after the Government took over the building at 114 Camp Street, Tobin moved certain valuable original mosaics which he had been using in his aerial surveys proprietorship business from that building and stored them on the Oakwell farm, which farm was then owned by the four trusts mentioned under issue 2. During 1943 Tobin paid the four trusts a total of $ 1,840 as rental. Petitioners in their 1943 returns deducted the $ 1,840 as a community expense under the caption of "Oakwell Farm -- Storage & Care of Equipment." The respondent in a statement attached to each deficiency notice said:It is held that the amount of $ 1,840.00 claimed as storage and care of equipment on the Oakwell farm by the community for the taxable year 1943 does not represent an allowable deduction for that year. 62 Issue 4. -- During the years 1940 to 1943, inclusive, the eight trusts created by petitioners in 1935 filed income tax returns and paid taxes on the incomes reported, as follows:1940194119421943(1) Ethel M. Tobin and KatharineTobin Trust$ 201.73$ 591.58$ 347.70None(2) Katharine Tobin Trust No. 1197.31653.07493.30$ 371.23(3) Robert Batts Tobin Trust No. 1197.14747.90549.40798.68(4) Robert Batts Tobin Trust No. 2448.731,547.191,134.552,715.75(5) Edgar Tobin Trust1,363.663,350.033,494.037,870.70(6) Margaret Batts Tobin Trust1,250.453,662.962,989.427,042.77(7) Ethel Murphy Tobin Trust910.352,375.081,745.275,241.58(8) Harriet Fiquet Batts Trust827.131,945.121,851.484,298.25944 OPINION.We shall consider the issues in the order previously stated.Issue 1. -- This issue involves the taxability of the net income of the eight trusts created by either one or the other of the petitioners in 1935, and it is the principal issue in the case. The respondent determined that the net income of all the trusts was taxable to petitioners as their community income, and in a statement attached63 to each deficiency notice he explained his determination thus:It is held that the income of various trusts created by either Edgar G. Tobin or Margaret Batts Tobin, represents taxable income to the community as follows: (Then follows a schedule showing the net income of each of the eight trusts for each of the taxable years 1940 to 1943, inclusive.)The respondent, in his brief, contends (1) that the income of all eight trusts is taxable to petitioners as community income under section 22 (a) of the Internal Revenue Code (relying principally upon Helvering v. Clifford, 309 U.S. 331">309 U.S. 331), and (2) that, in addition to being taxable under section 22 (a), the income of four of the trusts (Edgar Tobin Trust, Margaret Batts Tobin Trust, Ethel Murphy Tobin Trust, and Harriet Fiquet Batts Trust) is also taxable to petitioners as community income under section 167 (a) (2) of the Internal Revenue Code.Petitioners contend that the income in question is taxable to the trusts, which returned it and paid the tax thereon as separate taxable entities, and that no part of such income is taxable to petitioners.We shall first consider whether the net income of the Ethel64 Murphy Tobin Trust and the Harriet Fiquet Batts Trust is taxable to petitioners as community income under section 167 (a) (2), supra. The material provisions of this section are set forth in the margin. 1 As far as the life beneficiaries of these two trusts are concerned, the trusts are reciprocal trusts. They were each created on November 14, 1935. Tobin was the trustor of the Ethel Murphy Tobin Trust and Margaret Batts Tobin was the trustor of the Harriet Fiquet Batts Trust. The Ethel Murphy Tobin Trust provided that "The Trustee shall pay to Margaret Batts Tobin or for her benefit during the balance of her life, at such time and in such manner, as the Advisory Committee may 945 direct, any portion of the net income derived from said trust estate," with remainders over to others. The Harriet Fiquet Batts Trust provided that "The Trustee shall pay to Edgar G. Tobin or for his benefit during the balance of his life, at such time and in such manner, as the Advisory Committee may direct, any portion of the net income derived from said trust estate," with remainders over to others. The original corpus of each trust was the same, namely, 160 class C shares of Tobin Aerial65 Surveys, Inc., of the fair value of $ 4,000. The advisory committee of each trust was the same.It seems clear that if Margaret Batts Tobin had been the trustor of the Ethel Murphy Tobin Trust and if Tobin had been the trustor of the Harriet Fiquet Batts Trust, the net income of these trusts would be taxable to the trustors under section 167 (a) (2), supra, for under66 the provisions of the trust instruments such income could be distributed to the trustor in the discretion of the trustor or of any person not having a substantial adverse interest in the disposition of the income. In substance, Margaret Batts Tobin was the trustor of the Ethel Murphy Tobin Trust and Tobin was the trustor of the Harriet Fiquet Batts Trust. Lehman v. Commissioner, 109 Fed. (2d) 99; certiorari denied, 310 U.S. 637">310 U.S. 637. Although the Lehman case was an estate tax case, we think the principles upon which that case rests are applicable here. See also Purdon Smith Whiteley, 42 B. T. A. 316; Werner A. Wieboldt, 5 T. C. 946. We hold, therefore, that for the taxable years in question Margaret Batts Tobin was in substance the grantor of the Ethel Murphy Tobin Trust and that the income of that trust could "in the discretion of the grantor or of any person not having a substantial adverse interest in the disposition of such * * * income" have been distributed to the grantor. We likewise hold that Tobin was in substance the grantor of the Harriet Fiquet67 Batts Trust and that the income of that trust could have been distributed to him in the manner specified in section 167 (a) (2) of the Internal Revenue Code. It follows that the net income of these two trusts shall be included in computing the net income of the respective grantor. Sec. 167 (a) (2), supra.It remains to be determined whether the income of these two trusts is community income. In view of our holdings above, the income of each trust must be regarded as having been received by the respective life beneficiary of each trust. Under the laws of Texas, such income when received falls into the community. Commissioner v. Porter, 148 Fed. (2d) 566; Commissioner v. Snowden, 148 Fed. (2d) 569; McFaddin v. Commissioner, 148 Fed. (2d) 570; and Estate of Ernest Hinds, 11 T. C. 314. We hold, therefore, that the net income of the Ethel Murphy Tobin Trust and the Harriet Fiquet Batts Trust is taxable to petitioners as community income.946 We next consider whether the net income of the Edgar Tobin Trust and the Margaret Batts Tobin Trust68 is taxable to petitioners as community income under section 167 (a) (2), supra. These trusts are also reciprocal trusts and were both created on June 14, 1935. One was created by the wife for the benefit of her husband and one was created by the husband for the benefit of his wife. The original corpus of each trust was made up of the same kind and quantity of property, namely, 300 shares of Edgar Tobin Aero Co. stock, 7,000 shares of Tobin Map Co. stock, and 1,000 shares of Pure Oil Co. stock. The trust indentures were identical, except for the names of the respective trustor and beneficiary and the provision in the Edgar Tobin Trust whereby Margaret Batts Tobin, the trustor, was joined in the execution of the trust by her husband pro forma. Any portion of the income of each trust was payable to the beneficiary or for his or her benefit "at such time and in such manner, as the Advisory Committee may direct" and could be supplemented in case of emergency or necessity with "payment out of the corpus of the estate as the Advisory Committee may unanimously direct." Each trust further provided that upon the death of the beneficiary the corpus became a part of his or her estate, 69 distributable in accordance with his or her will, and, in case of intestacy, under the Texas law of descent and distribution.It seems clear that, for the reasons given in our consideration of the Ethel Murphy Tobin Trust and the Harriet Fiquet Batts Trust, Tobin should be regarded as in substance the trustor of the Edgar Tobin Trust and Margaret Batts Tobin should in substance be regarded as the trustor of the Margaret Batts Tobin Trust, and that the same result as to the taxability of the net income of the two trusts now under consideration should be reached as was obtained under our consideration of the first two trusts. The income of these two trusts is taxable to petitioners under section 167 (a) (2) and is community income.We now consider whether the net income of the Ethel M. Tobin and Katharine Tobin Trust, the Katharine Tobin Trust No. 1, the Robert Batts Tobin Trust No. 1, and the Robert Batts Tobin Trust No. 2 is taxable to petitioners as community income under section 22 (a) of the Internal Revenue Code. The material provisions of this section are set forth in the margin. 2 These trusts were clearly not reciprocal trusts such as we have just discussed above. The 70 respondent does not contend that the income of these trusts is taxable under either section 947 166 or 167 of the Internal Revenue Code. Neither does he contend that section 29.22 (a)-21 of Regulations 111, as added by T. D. 5488 (1946-1 C. B. 19) and as amended by T. D. 5567 (1947-2 C. B. 9), is applicable, as these regulations are made applicable only to taxable years beginning after December 31, 1945. See Mim. 5968 (1946-1 C. B. 25). The respondent does contend that the taxability of the net income of these trusts is controlled by Helvering v. Clifford, supra, and the cases which have followed that decision. Petitioners, on the other hand, contend that these trusts do not come within the Clifford doctrine and that they should be recognized for income tax purposes as valid trusts and should be taxed accordingly.71 The issue under the Clifford doctrine is whether after the trust has been established the grantor may still be treated under section 22 (a) as the "owner of the corpus." In the language of the Supreme Court the answer "must depend on an analysis of the terms of the trust and all the circumstances attendant on its creation and operation." In holding that Clifford was taxable on the income of the trust the Supreme Court, among other things, said: * * 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).* * * The bundle of rights which he retained was so substantial that respondent cannot be heard to complain that he is the "victim of despotic power when for the purpose of taxation he is treated as owner altogether." * In the instant proceedings none of the four trusts now being considered were short term trusts. They were all for long terms and were irrevocable. Tobin was the grantor in three of the trusts and his wife, Margaret Batts Tobin, was the grantor in the Robert Batts Tobin72 Trust No. 2. In no case would any of the trust property ever revert to the grantor or be used for his benefit in any way. In each trust a bank was named as the trustee and a committee of three persons, which was called the advisory committee, was appointed to assist the trustee in the management of the trust property. In no case did the grantor retain for himself or herself alone any of the powers of management enjoyed by Clifford in the Clifford trust. These powers were vested in the advisory committees, of which Tobin and his wife were members, in all four trusts. Originally Aldredge, who was the brother-in-law of Margaret Batts Tobin, was the third member of the committee. He resigned on June 17, 1940, and was succeeded in the first two trusts by Edith W. Harrison, who was the maternal grandmother of Katharine Tobin, and in the second two trusts by Georgia C. McNemer, who was a personal friend of Margaret Batts Tobin.948 Although Tobin was the grantor in the first three trusts and Margaret Batts Tobin was the grantor in the fourth trust, the respondent has in his argument in effect treated each trust as if both petitioners were the grantors of each trust. From this73 he argues that, since both petitioners were members of each of the respective advisory committees, they, as grantors of each trust, retained a sufficient control over the trust property and its distribution among the beneficiaries as would make them continue to be the owners for purposes of section 22 (a). We know of no basis in fact or in law for such treatment. It is a fact that each trust had but one grantor, and we so hold. There would be no basis for holding otherwise.As we analyze the facts and circumstances attendant the creation and operation of the four trusts now under consideration, it seems to us that the analysis narrows down to whether the fact that the grantor of each trust was also one of the three members of the respective advisory committees is a sufficiently strong factor to compel us to find that the grantor continued to be the owner for the purposes of section 22 (a). We do not think such a finding would be a true finding of the ultimate fact, and so we do not so find. Any power that the grantor had as a member of the advisory committee was to be exercised in a fiduciary capacity. It was not a power expressly retained in the trust instrument to the 74 grantor as an individual. Cf. W. C. Cartinhour, 3 T. C. 482, 489; Herbert T. Cherry, 3 T.C. 1171">3 T. C. 1171, 1179. It would certainly be true also that the other two members of the advisory committee were acting in a fiduciary capacity. There would be no basis for holding otherwise. We, therefore, hold that the respective grantor of each of the four trusts now under consideration did not continue to be the owner of the trust property for the purposes of section 22 (a). It follows that the respondent erred in taxing the income of these trusts to petitioners as community income.We do not think it would serve any useful purpose to discuss the many cases cited by the parties in their briefs, for the Supreme Court in the Clifford case has left "to the triers of fact the initial determination of whether or not on the facts of each case the grantor remains the owner for purposes of section 22 (a), and we have found as an ultimate fact that the respective grantor of each of the four trusts now being considered did not remain the owner for such purposes. We have considered all the cases cited by both parties, together with several75 others involving the Clifford doctrine, and we believe that our holding herein as to the four trusts now being considered falls within the ambit of such cases as Commissioner v. Branch, 114 Fed. (2d) 985; Jones v. Norris, 122 Fed. (2d) 6; Frederick Ayer, 45 B. T. A. 146; J. M. Leonard, 4 T. C. 1271; Cushman v. Commissioner, 153 Fed. (2d) 510; 949 and Alma M. Myer, 6 T. C. 77. See also cases cited below. 376 Issue 2. -- Are petitioners entitled to deduct certain amounts as farm expenses? The evidence shows that petitioners deducted as net farm expenses the amounts of $ 10,309.51 and $ 9,657.97 for the years 1940 and 1941, respectively, and that each of the four trusts to whom the farm was transferred in 1943 deducted as farm losses in that year the amount of $ 1,629.55. Since we have held under issue 1 that the net income of one of these trusts to which the farm was transferred, namely, the Robert Batts Tobin Trust No. 1, is not taxable to petitioners, we are not here concerned with the farm losses of $ 1,629.55 deducted by that trust in 1943. In the pleadings petitioners have alleged error on the part of the respondent in also failing to allow a deduction for net farm expenses for 1942 of $ 8,753.98, but they offered no proof of any expenses for that year. Neither did they claim any deduction for farm expenses in their returns for 1942. The amounts that were deducted for the years 1940, 1941, and 1943 were disallowed by the respondent "for the reason that the farming operation was not entered into for profit, but with the idea of establishing a77 country home."Section 23 (a) (1) (A) of the Internal Revenue Code provides that in computing net income there shall be allowed as deductions "All the ordinary and necessary expenses paid or incurred during the taxable year in carrying on any trade or business * ." The applicable regulations (sec. 19.23 (a)-11, Regulations 103 and sec. 29.23 (a)-11, Regulations 111) provide in part:Expenses of farmers. -- A farmer who operates a farm for profit is entitled to deduct from gross income as necessary expenses all amounts actually expended in the carrying on of the business of farming. * * If a farm is operated for recreation or pleasure and not on a commercial basis, and if the expenses incurred in connection with the farm are in excess of the receipts therefrom, the entire receipts from the sale of products may be ignored in rendering a return of income, and the expenses incurred, being regarded as personal expenses, will not constitute allowable deductions. * * The same regulations (sec. 19.23 (e)-5, Regulations 103, and sec. 29.23 (e)-5, Regulations 111) also provide:Losses of farmers. -- Losses incurred in the operation of farms as business enterprises are deductible from gross income. 78 * If an individual owns 950 and operates a farm, in addition to being engaged in another trade, business, or calling, and sustains a loss from such operation of the farm, then the amount of loss sustained may be deducted from gross income received from all sources, provided the farm is not operated for recreation or pleasure. * Tobin on his returns stated "Aerial Maps" as his principal occupation or profession. A person may have, and frequently does have, more than one business. The evidence as to the operation of this farm during the taxable years which we have before us is very meager. If it was being operated as a livestock farm, we have no information as to how many head of livestock were there or what was being done with them. On their income tax returns for 1940 and 1941, petitioners reported as a part of their community income $ 305.24 and $ 618.83, respectively, as the proceeds from the sale of sheep wool. These amounts the Commissioner has taken out of income in his determination of the deficiencies. That is all the information we have as to the cash receipts from this farm during the taxable years. In the instant proceedings the evidence fails to convince79 us that Tobin or the trusts were operating the farm for profit or that they were carrying on the business of farming within the meaning of the Treasury regulations. In Union Trust Co. v. Commissioner, 54 Fed. (2d) 199, the court, in refusing to allow a taxpayer to deduct certain farm expenses, said:It is admitted that the expenditures for which petitioner sought deduction were incurred in the maintenance and operation of the Valley Ridge property, but petitioner's obstacle is that it failed to establish before the Board the essential facts: (1) That it carried on farming operations thereon for gain; and (2) that the expenses incurred were both ordinary and necessary in transacting a farming business. * * * We think it is fair to assume that, if plaintiff had devoted the land to agriculture for expected profit, it could and would have shown the fact by pertinent evidence. It failed in this vital particular.Cf. Deering v. Blair, 23 Fed. (2d) 975.Issue 3. -- Are petitioners entitled to deduct from their community income for the taxable year 1943 an amount of $ 1,840 claimed as storage and care of certain80 equipment during that year? Although in the statements attached to the deficiency notices the respondent says "It is held that the amount of $ 1,840.00 * * does not represent an allowable deduction," it is apparent from the itemized list of adjustments to net income for the year 1943 also appearing in the statements attached to the deficiency notices that the respondent did not specifically disallow, as such, the $ 1,840 deducted by petitioners on their returns in arriving at the community income tax net income and the community victory tax net income of $ 147,976.55 and $ 159,416.42, respectively. This $ 1,840 was paid by petitioners to the four trusts to which the Oakwell farm was transferred in 1943. Each trust returned its share of the $ 1,840 (apparently $ 460) as taxable income. The respondent, by adjustments (b) and (c), included the net income 951 of these four trusts to which the Oakwell farm was transferred in petitioners' community income, as follows:Net incomeCapital gainEdgar Tobin Trust$ 19,442.61$ 2,493.42Margaret Batts Tobin Trust17,055.323,381.34Robert Batts Tobin Trust No. 14,061.201,263.34Harriet Fiquet Batts Trust12,021.043,022.83Total52,580.1710,160.9381 By thus including the $ 52,580.17 in petitioners' community income, the respondent has, of course, added back to petitioners' community income the $ 1,840 which petitioners deducted on their returns and which the respondent did not disturb, as such. In his brief on this point the respondent argues as follows:The Commissioner has shown that the income of the respective trusts is taxable to the community under sections 22 (a) and 167 of the Internal Revenue Code. Consequently any payment made for storing photographic equipment on the farm would have the effect of petitioners transferring money from one pocket to another. If the incomes of these trusts are held to be taxable to the petitioners, then it follows that the amount paid by Tobin for the storing of this photographic equipment does not constitute a deduction, since it was paid to himself.Under issue 1 we have held that the income of Robert Batts Tobin Trust No. 1 was not taxable to petitioners, but that the income of the other three trusts was taxable to petitioners. In the recomputation under Rule 50 the present issue will adjust itself by excluding from petitioners' community income as determined by the respondent the82 net income and capital gain of the Robert Batts Tobin Trust No. 1 in the respective amounts of $ 4,061.20 and $ 1,263.34. The effect of this will be that petitioners will have the benefit as a community deduction of that part of $ 1,840 (apparently $ 460) which they paid to the Robert Batts Tobin Trust No. 1 for storage of the equipment, and this is all they are entitled to under our holding that the incomes of the other three trusts are taxable to them.We do not understand the respondent to contend that the $ 1,840 would not be allowable as an ordinary and necessary expense of Tobin's business if the respondent had recognized the trusts to which the amount was paid as valid trusts for income tax purposes. In order, however, that there be no doubt as to this point, we hold that the portion of the $ 1,840 (apparently $ 460) paid to the Robert Batts Tobin Trust No. 1 for storage of the equipment in question is allowable to petitioners as an ordinary and necessary business expense under section 23 (a) (1) (A) of the Internal Revenue Code.Issue 4. -- In view of our holding under issue 1, the fourth issue has been narrowed to whether petitioners are entitled to a credit against83 the deficiencies for the tax paid by the trustees of the Edgar Tobin, 952 Margaret Batts Tobin, Ethel Murphy Tobin, and Harriet Fiquet Batts Trusts for the years 1940 to 1943, inclusive. We decide this issue against petitioners upon the authority of Leslie H. Green, 7 T. C. 263, 277; affd. (C. C. A., 6th Cir.), 168 Fed. (2d) 994.Decisions will be entered under Rule 50. Footnotes1. SEC. 167. INCOME FOR BENEFIT OF GRANTOR.(a) Where any part of the income of a trust -- * * (2) may, in the discretion of the grantor or of any person not having a substantial adverse interest in the disposition of such part of the income, be distributed to the grantor; * ** * * then such part of the income of the trust shall be included in computing the net income of the grantor.(b) As used in this section the term "in the discretion of the grantor" means "in the discretion of the grantor, either alone or in conjunction with any person not having a substantial adverse interest in the disposition of the part of the income in question."↩2. SEC. 22. GROSS INCOME.(a) General Definition. -- "Gross income" includes gains, profits, and income derived from salaries, wages, or compensation for personal services * * 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. * * *↩3. Commissioner v. Betts, 123 Fed. (2d) 534; Helvering v. Bok, 132 Fed. (2d) 365; Lillian M. Newman, 1 T. C. 921; Commissioner v. Katz, 139 Fed. (2d) 107; W. C. Cartinhour, supra;Estate of Benjamin Lowenstein, 3 T. C. 1133; Herbert T. Cherry, supra;Alice Ogden Smith, 4 T. C. 573; Litta Matthaei, 4 T. C. 1132; Hall v. Commissioner, 150 Fed. (2d) 304; Donald S. Black, 5 T. C. 759; Hawkins v. Commissioner, 152 Fed. (2d) 221; W. L. Taylor, 6 T. C. 201; Ernst Huber, 6 T. C. 219; Estate of Standish Backus, 6 T. C. 1036; David L. Loew, 7 T. C. 363; Commissioner v. Greenspun, 156 Fed. (2d) 917; Arthur L. Blakeslee, 7 T. C. 1171; Thomas v. Feldman, 158 Fed. (2d) 488; United States v. Morss, 159 Fed. (2d) 142; Jane Cooper Hemphill, 8 T. C. 257; William P. Anderson, 8 T. C. 921; Lewis W. Welch, 8 T. C. 1139; and Carman v. United States, 75 Fed. Supp. 717↩.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621889/	J. C. SHEPHERD, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, RespondentShepherd v. CommissionerNo. 2574-97United States Tax Court115 T.C. 376; 2000 U.S. Tax Ct. LEXIS 77; 115 T.C. No. 30; October 26, 2000, Filed 77 FOLEY, J., dissenting: The majority relies on Kincaid v. United States, 682 F.2d 1220">682 F.2d 1220, 1226 (5th Cir. 1982), where the court held that Mrs. Kincaid made a gift through an "unequal exchange [that] served to enhance the value of her sons' voting stock". The opinion, however, states: "Nor do we agree with petitioner's contention that his transfers should be characterized as enhancements of his sons' existent partnership interests." Majority op. p. 16. The holding in this case is premised on Kincaid. The majority opinion, however, rejects petitioner's contention, which is the essence of the Kincaid holding, and fails to explain why the result in this case should be different from that in Kincaid. Accordingly, I respectfully dissent. P transferred to a newly formed family partnership, of which P is 50-percent owner and his two sons are each 25-percent owners, (1) P's fee interest in timberland subject to a long- term timber lease and (2) stocks in three banks. HELD: P's transfers represent separate indirect gifts to his sons of 25 percent undivided interests in the leased timberland and stocks. Held, further, 78 the fair market value of petitioner's gifts determined. David D. Aughtry, James M. Kane, and Howard W. Neiswender, forpetitioner.Robert W. West, for respondent. Thornton, Michael B., opinion;Whalen, Laurence J., concurring;Halpern, James S., concurring;Ruwe, Robert P., concurring in part;Beghe, Renato, concurring in part;Foley, Maurice B., dissenting THORNTON; WELLS; WHALEN; CHABOT; HALPERN; CHABOT; RUWE; BEGHE; FOLEY376 THORNTON, JUDGE: Respondent determined a $ 168,577 deficiency in petitioner's Federal gift tax for calendar year 1991. The issues for decision are: (1) The characterization, for gift tax purposes, of petitioner's transfers of certain real estate and stock into a family partnership of which petitioner is 50-percent 377 owner and his two sons are each 25-percent owners; (2) the fair market value of the transferred real estate interests; and (3) the amount, if any, of discounts for fractional or minority interests and lack of marketability that should be recognized in valuing the transferred interests in the real estate and stock.Section references are to the Internal Revenue Code as in effect on the date of the gifts. Rule references79 are to the Tax Court Rules of Practice and Procedure.FINDINGS OF FACTThe parties have stipulated some of the facts, which are so found.Petitioner is married to Mary Ruth Shepherd and has two adult sons, John Phillip Shepherd (John) and William David Shepherd (William). When he filed his petition, petitioner resided in Berry, Alabama.PETITIONER'S ACQUISITION OF INTERESTS IN LAND AND BANK STOCKBeginning in 1911, petitioner's grandfather -- at first singly and later with petitioner's father -- acquired a great deal of land in and around Fayette County, Alabama. In April 1949, petitioner's grandfather died and left petitioner, his only grandchild, a 25- percent interest in all that he owned. Among the grandfather's possessions was an interest in more than 9,000 acres spread over numerous parcels in and around Fayette County, Alabama (the land), and stock (the bank stock) in three rural Alabama banks -- the Bank of Parish, the Bank of Berry, and the Bank of Carbon Hill (the banks).Prior to 1957, petitioner's father gave petitioner an additional 25-percent interest in the land, thereby increasing petitioner's ownership interest to 50 percent. As described in more detail below, 80 on January 3, 1957, petitioner and his father leased the land to Hiwassee Land Co. (Hiwassee) under a 66-year timber lease. On June 2, 1965, petitioner's father died, leaving all his property -- including his 50-percent interest in the land and an undisclosed amount of stock in the banks -- to petitioner's mother. Petitioner's mother died shortly thereafter, devising to petitioner her 50-percent interest in the land and the bank stock. Petitioner then 378 owned the entire interest in the land, subject to Hiwassee's leasehold interest. Petitioner also owned more than 50 percent of the common stock of the banks, of which he was then president. 1LONG-TERM TIMBER LEASE OF FAMILY LANDAs described above, by 1957 petitioner and his father each owned a 50-percent interest in the family land. On January 3, 1957, petitioner and his father entered into a long-term timber lease with Hiwassee, granting Hiwassee the right to cut and remove81 timber on 9,091 acres (the leased land). 2 The term of the lease is for 66 years, expiring on January 1, 2023.Hiwassee agreed to pay annual rent of $ 1.75 per acre, payable for each calendar year by February 1 of that year. The annual rent is to be adjusted each year by the same percentage as the annual average of the Wholesale Price Index for all commodities (now the Producer Price Index) (PPI) increases or decreases relative to the Wholesale Price Index for 1955. The annual rents are adjusted "only for increments of increase or decrease equaling or exceeding five percent (5%) from the 1955 average or from the average resulting in the previous adjustment." 382 379 Under the lease, the lessors retain all mineral rights on the land but must obtain the lessee's consent ("which shall not be unreasonably withheld") to develop the minerals. 4The lease allows the lessors to sell the leased land, subject to Hiwassee's right of first refusal; if Hiwassee elects not to purchase, then the sale is to be made subject to the terms of the lease.The lease contains no requirement that Hiwassee reseed or reforest the leased land at the expiration of the lease.THE SHEPHERD CLIFFORD TRUSTOn or about December 22, 1980, petitioner and his wife established the J. C. Shepherd "Clifford" Trust Agreement (the trust), an inter vivos trust with a term of 10 years. Upon creation of the trust, petitioner and his wife conveyed an undivided 25- percent interest in the leased land to the trust. On January 5, 1981, they conveyed a second 25-percent undivided83 interest in the leased land to the trust. 5John and William were equal income beneficiaries of the trust. During the term of the trust, they each received one-half of the income from one-half of the Hiwassee lease (i.e., each received 25-percent of the Hiwassee lease income).On or about April 1, 1991, the trust terminated. The trustee reconveyed the two previously transferred 25-percent undivided interests in the leased land to petitioner and his wife.THE SHEPHERD FAMILY PARTNERSHIPOn August 1, 1991, petitioner84 executed the Shepherd Family Partnership Agreement (the partnership agreement). On August 2, 1991, John and William executed it. The Shepherd Family Partnership (the partnership) is a general partnership established pursuant to Alabama State law. The partnership 380 agreement designates petitioner as the managing partner, with power to "implement or cause to be implemented all decisions approved by the Partners, and shall conduct or cause to be conducted the ordinary and usual business and affairs of the Partnership". The partners' interests in the partnership's net income and loss, capital, and partnership property are as follows: Petitioner -- 50 percent; John -- 25 percent; and William -- 25 percent. The partnership agreement provides that these partnership interests will continue throughout the existence of the partnership unless the partners mutually agree to change their respective interests.The partnership agreement provides that each partner shall have three capital accounts -- a permanent capital account, an operating capital account, and a drawing capital account. The partnership agreement states that the initial permanent capital account for each partner, as of August 1, 1991, is85 $ 10 for petitioner and $ 5 each for William and John. In this same section, captioned "INITIAL CAPITAL CONTRIBUTIONS", the partnership agreement also states: "Each Partner shall be entitled to make voluntary additional permanent capital contributions. Each such contribution shall be allocated in the Partnership Interests to the Partners' permanent capital accounts."In a section captioned "DEBITS/CREDITS", the partnership agreement provides that the permanent capital account of each partner shall consist of each partner's initial capital contribution as described above increased by the "Partner's Partnership Interest in the adjusted basis for federal income tax purposes of any additional permanent capital contribution of property by a Partner (less any liabilities to which such property is subject)".The partnership agreement provides that "Any Partner shall have the right to receive a distribution of any part of his Partnership permanent capital account in reduction thereof with the prior consent of all the other Partners."The partnership agreement also provides that all property acquired by the partnership shall be owned by the partners as tenants in partnership in accordance86 with their partnership interests, with no partner individually having any ownership interest in the partnership property. Additionally, each partner waives any right to require partition of any partnership property. 381 Under the partnership agreement, any partner may withdraw from the partnership at any time, upon written notice to the other partners. The partnership agreement states that the effect of the withdrawal is to terminate the relationship of the withdrawing partner as a partner and thereby eliminate the withdrawing partner's right to liquidate the partnership. The withdrawing partner may transfer all or any part of his partnership interest with or without consideration, but only after providing the other partners the first option to purchase his interest at fair market value, generally as determined by an independent appraiser.Upon dissolution of the partnership, proceeds from the liquidation of partnership property, after satisfaction of partnership debts, are to be applied to payment of credit balances of the partners' capital accounts.TRANSFER OF THE LEASED LAND TO THE PARTNERSHIPOn August 1, 1991 -- one day before John and William had executed the partnership agreement87 -- petitioner and his wife executed two deeds purporting to transfer the leased land to the partnership. 6 Each deed purported to transfer to the partnership an undivided 50-percent interest in the leased land (for an aggregate transfer of the entire interest in the leased land). On August 30, 1991, the deeds conveying the leased land to the partnership were recorded.TRANSFER OF THE BANK STOCK TO THE PARTNERSHIPOn September 9, 1991, petitioner transferred to the partnership some of his stock in each of the three banks. 7 The parties have stipulated that the bank stock had a fair market value at the time of transfer (prior to any consideration of any partnership adjustment) as follows:88 Stock No. of Shares Fair Market Value _____ _____________ _________________Bank of Berry, AL 313 shares $ 186,633Bank of Carbon Hill, AL 136 shares 279,140Bank of Parrish, AL 262 shares 466,446 Total 932,219382 PETITIONER'S GIFT TAX RETURN AND RESPONDENT'S DETERMINATIONPetitioner filed Form 709, United States Gift (and Generation-Skipping Transfer) Tax Return, for calendar year 1991, reporting gifts to John and William of interests in the leased land and the bank stock. On the Form 709, petitioner valued the leased land at $ 400,000. Petitioner listed the total appraised value of the transferred bank stock as $ 932,219, less a 15-percent minority discount, for a gift value of $ 792,386. Petitioner reported a gift to John and William of $ 298,097 each (25 percent of the total reported $ 400,000 value of the leased land and $ 792,386 value of the transferred bank stock). Petitioner reported no gift tax due on these transfers, the gift tax computed ($ 187,966) 89 being more than offset by his claimed maximum unified credit ($ 192,800).In the notice of deficiency, respondent determined that the fair market value of the 50-percent interest in the leased land that petitioner gifted to his sons was $ 639,300 (implying a value of $ 1,278,600 for petitioner's entire interest in the leased land). Respondent made no adjustment to the gift value of the bank stock reported on the return. Respondent determined that petitioner had a gift tax deficiency of $ 168,577.OPINIONA. GENERAL LEGAL PRINCIPLESSection 2501 generally imposes an excise tax on the transfer of property by gift during the taxable year. The gift tax is imposed only upon a completed and irrevocable gift. SeeBurnet v. Guggenheim, 288 U.S. 280">288 U.S. 280, 77 L. Ed. 748">77 L. Ed. 748, 53 S. Ct. 369">53 S. Ct. 369 (1933). A gift is complete as to any property when "the donor has so parted with dominion and control as to leave in him no power to change its disposition, whether for his own benefit or for the benefit of another". Sec. 25.2511-2(b), Gift Tax Regs. 383 A gift of property is valued as of the date of the transfer. Seesec. 2512(a). If property is transferred for less than adequate and full consideration, then the excess of the value90 of the property transferred over the consideration received is generally deemed a gift. Seesec. 2512(b). The gift is measured by the value of the property passing from the donor, rather than by the property received by the donee or upon the measure of enrichment to the donee. Seesec. 25.2511-2(a), Gift Tax Regs.For gift tax purposes, the value of the transferred property is generally the "price at which the property would change hands between a willing buyer and a willing seller, neither being under any compulsion to buy or to sell and both having reasonable knowledge of relevant facts." United States v. Cartwright, 411 U.S. 546">411 U.S. 546, 551, 36 L. Ed. 2d 528">36 L. Ed. 2d 528, 93 S. Ct. 1713">93 S. Ct. 1713 (1973); see sec. 25.2512-1, Gift Tax Regs.The determination of property value for gift tax purposes is an issue of fact, and all relevant factors must be considered. SeeAnderson v. Commissioner, 250 F.2d 242">250 F.2d 242, 249 (5th Cir. 1957), affg. in part and remanding T.C. Memo 1956-178">T.C. Memo 1956-178; LeFrak v. Commissioner, T.C. Memo 1993-526">T.C. Memo 1993-526.B. THE PARTIES' CONTENTIONSThe parties disagree about the characterization, for gift tax purposes, of petitioner's transfers of the leased land and bank stock. The parties91 also disagree about the fair market value of the leased land at the time petitioner transferred it. In addition, the parties disagree as to what valuation discounts should apply to petitioner's transfer of the leased land and bank stock. The nub of the parties' disagreement in this last regard is whether petitioner's transfers to the partnership should reflect minority and marketability discounts attributable to the sons' minority-interest status in the partnership.In his petition, petitioner not only assigns error to respondent's determination in the statutory notice but also seeks a partial restoration of his unified credit. Petitioner contends that the gifts to his sons of interests in the leased land represent two separate gifts of partnership interests and that the gifts of bank stock represent two separate indirect gifts bestowed through enhancements of the previously gifted 384 partnership interests. Viewed thus, petitioner contends, these gifts should be valued giving effect to a 33.5-percent minority and marketability discount applicable to each son's 25-percent partnership interest. The bottom line, petitioner argues, is that the gifts of both the leased land and the bank stock,92 as reported on his 1991 gift tax return, were overvalued.Respondent does not dispute that the partnership exists or that it is a legitimate partnership. 8 Respondent also agrees that if the gifts of land were to be valued giving effect to minority and marketability discounts in recognition of the 25-percent partnership shares, then the appropriate discount would be 33.5 percent. Respondent contends, however, that this discount rate is inapplicable, because the gifts should not be measured by reference to the sons' partnership interests. In support of his position, respondent contends that petitioner did not give his sons partnership interests but rather gave them either: (1) Indirect gifts of real estate, accomplished by means of a transfer to the partnership, or alternatively (2) direct gifts of real estate, accomplished before the partnership ever came into existence.93 C. CHARACTERIZATION OF THE TRANSFERSThe parties agree that the partnership came into existence on August 2, 1991, when John and William executed the partnership agreement, rather than on the previous day, when only petitioner had executed it. The parties disagree, however, about the effect of petitioner's executing deeds on August 1, 1991, purporting to transfer the leased land to the then-nonexistent partnership. Respondent argues that on August 1, 1991, petitioner effectively gave an undivided 50-percent interest in the leased land to his sons, either directly or indirectly. Petitioner argues that the gift was not completed until August 2, 1991. We look to applicable State law, in this case Alabama law, to determine what property rights are conveyed. SeeUnited States v. National Bank of Commerce, 472 U.S. 713">472 U.S. 713, 722, 86 L. Ed. 2d 565">86 L. Ed. 2d 565, 105 S. Ct. 2919">105 S. Ct. 2919 (1985) ("'in the application of a federal revenue act, state law controls in determining the nature of the legal interest which the taxpayer had in the 385 property'" (quoting Aquilino v. United States, 363 U.S. 509">363 U.S. 509, 513, 4 L. Ed. 2d 1365">4 L. Ed. 2d 1365, 80 S. Ct. 1277">80 S. Ct. 1277 (1960)); LeFrak v. Commissioner, supra.We agree with petitioner that any gift to his sons was not completed before94 August 2, 1991. 9 On August 1, 1991, there was no completed gift, because there was no donee, and petitioner had not parted with dominion and control over the property. Petitioner could not make a gift to himself. SeeKincaid v. United States, 682 F.2d 1220">682 F.2d 1220, 1224 (5th Cir. 1982).95 We disagree with petitioner's contention, however, that his gifts to his sons of interests in the leased land represented gifts of minority partnership interests because, as just discussed, the creation of the partnership (and therefore the creation of the sons' partnership interests) preceded the completion of petitioner's gift to the partnership. To adopt petitioner's contention would require us to recognize the existence, however fleeting, of a one- person partnership, contrary to Alabama law, which defines a partnership as "An association of two or more persons to carry on as co-owners a business for profit." Ala. Code sec. 10-8-2 (1994); see LeFrak v. Commissioner, supra.Nor do we agree with petitioner's contention that his transfers should be characterized as enhancements of his sons' existent partnership interests. The gift tax is imposed on the transfer of property. Seesec. 2501. Here the property that petitioner possessed and transferred was his interests in the leased land and bank stock. How petitioner's transfers of the leased land and bank stock may have enhanced the sons' partnership interests is immaterial, for the gift tax is imposed on the value of96 what the donor transfers, not what the donee receives. SeeRobinette v. Helvering, 318 U.S. 184">318 U.S. 184, 186, 87 L. Ed. 700">87 L. Ed. 700, 63 S. Ct. 540">63 S. Ct. 540 (1943) (the gift tax is "measured by the value of the property passing from the donor"); Stinson Estate v. United States, 214 F.3d 846">214 F.3d 846, 849 (7th Cir. 2000); Citizens Bank & Trust Co. v. Commissioner, 839 F.2d 1249">839 F.2d 1249 (7th Cir. 1988) (for 386 gift and estate tax purposes, value of stock transferred to trusts was determined without regard to terms or existence of trust); Goodman v. Commissioner, 156 F.2d 218">156 F.2d 218, 219 (2d Cir. 1946), affg. 4 T.C. 191">4 T.C. 191 (1944); Ward v. Commissioner, 87 T.C. 78">87 T.C. 78, 100-101 (1986); LeFrak v. Commissioner, supra; sec. 25.2511-2(a), Gift Tax Regs.; cf. Estate of Bright v. United States, 658 F.2d 999">658 F.2d 999, 1001 (5th Cir. 1981) (for estate tax purposes, "the property to be valued is the property which is actually transferred, as contrasted with the interest held by the decedent before death or the interest held by the legatee after death").1. PETITIONER'S CONSTITUTIONAL CHALLENGEPetitioner argues that the gift tax must be measured not by reference to the value of the property97 in the hands of the donor but "by the value of the property in gratuitous transit." Otherwise, petitioner argues, the gift tax would be a direct tax on the transferred property, in contravention of the constitutional restraint on the imposition of direct taxes (the Direct Tax Clause). SeeU.S. Const. art. I, sec. 9, cl. 4 ("No capitation, or other direct, Tax shall be laid, unless in Proportion to the Census or Enumeration herein before directed to be taken.").Petitioner's argument is without merit. In upholding the Federal gift tax against a challenge based on the Direct Tax Clause, the Supreme Court stated in Bromley v. McCaughn, 280 U.S. 124">280 U.S. 124, 136- 138, 74 L. Ed. 226">74 L. Ed. 226, 50 S. Ct. 46">50 S. Ct. 46 (1929): While taxes levied upon or collected from persons because of their general ownership of property may be taken to be direct, * * * this Court has consistently held, almost from the foundation of the government, that a tax imposed upon a particular use of property or the exercise of a single power over property incidental to ownership, is an excise which need not be apportioned, and it is enough for present purposes that this tax is of the latter98 class * * * * * * * * * It is said that since property is the sum of all the rights and powers incident to ownership, if an unapportioned tax on the exercise of any of them is upheld, the distinction between direct and other classes of taxes may be wiped out, since the property itself may likewise be taxed by resort to the expedient of levying numerous taxes upon its uses; that one of the uses of property is to keep it, and that a tax upon the possession or keeping of property is no different from a tax on the property itself. Even if 387 we assume that a tax levied upon all the uses to which property may be put * * would be in effect a tax upon property, * * * and hence a direct tax requiring apportionment, that is not the case before us. * * * * * * * * * * [The gift tax] falls so far short of taxing generally the uses of property that it cannot be likened to the taxes on property itself which have been recognized as direct. It falls, rather, 99 into that category of imposts or excises which, since they apply only to a limited exercise of property rights, have been deemed to be indirect and so valid although not apportioned.In short, the gift tax is not a direct tax because it is not levied on the "general ownership" of property but rather applies only to "a limited exercise of property rights"; i.e., the exercise of the "power to give the property owned to another." Id. at 136. Here, petitioner's dispute is not with the fact that he made a donative transfer that is properly the subject of the Federal gift tax, but rather with the characterization of the property for purposes of measuring its value -- a consideration that is irrelevant for purposes of determining the constitutionality of the tax. 10100 2. DID PETITIONER MAKE DIRECT GIFTS TO HIS SONS?Petitioner deeded the leased land and bank stock to the partnership. Whatever interests his sons acquired in this property they obtained by virtue of their status as partners in the partnership. Clearly, then, contrary to one of respondent's alternative arguments, petitioner did not make direct gifts of these properties to his sons. Cf. LeFrak v. Commissioner, supra (transfer by donor-father of buildings to himself and his children as tenants in common, "d.b.a." (doing business as) one of various partnerships formed later the same day to hold the particular building conveyed, represented direct gifts to the children of the father's interest in the buildings). 388 3. DID PETITIONER MAKE INDIRECT GIFTS TO HIS SONS?A gift may be direct or indirect. Seesec. 25.2511-1(a), Gift Tax Regs. The regulations provide the following example of a transfer that results in an indirect taxable gift, assuming that the transfer is not made for adequate and full consideration: "A transfer of property by B to a corporation generally represents gifts by B to the other individual shareholders of the corporation to the extent of their proportionate101 interests in the corporation." Sec. 25.2511- 1(h)(1), Gift Tax Regs.Application of this general rule is well established in case law. For instance, in Kincaid v. United States, 682 F.2d at 1225, the taxpayer transferred her ranch to a newly formed corporation in which she and her two sons owned all the voting stock. In exchange for the ranch, the taxpayer received additional shares of the corporation's stock. The stock was determined to be less valuable than the ranch. The court concluded that the difference between what she gave and what she got represented a gift to the shareholders. Noting that the taxpayer could not make a gift to herself, the court held that she made a gift to each of her sons of one-third of the total gift amount. See also Heringer v. Commissioner, 235 F.2d 149">235 F.2d 149, 151 (9th Cir. 1956) (transfers of farm lands to a family corporation of which donors were 40-percent owners represented gifts to other shareholders of 60 percent of the fair market value of the farm lands), modifying and remanding 21 T.C. 607">21 T.C. 607 (1954); CTUW Georgia Ketteman Hollingsworth v. Commissioner, 86 T.C. 91">86 T.C. 91 (1986) (mother's transfer to closely102 held corporation of property in exchange for note of lesser value represented gifts to the other five shareholders of five-sixths the difference in values of the property transferred and the note the mother received); Estate of Hitchon v. Commissioner, 45 T.C. 96">45 T.C. 96 (1965) (father's transfer of stock to a family corporation for no consideration constituted gift by father of one-quarter interest to each of three shareholder-sons); Estate of Bosca v. Commissioner, T.C. Memo 1998-251">T.C. Memo 1998-251 (father's transfer to a family corporation of voting common stock in exchange for nonvoting common stock represented gifts to each of his two shareholder-sons of 50 percent of the difference in the values of the stock the father transferred and of the stock he received); cf. Chanin v. United States, 183 Ct. Cl. 840">183 Ct. Cl. 840, 393 F.2d 972">393 F.2d 972 (1968) (two 389 brothers' transfers of stock in their wholly owned corporation to the subsidiary of another family corporation constituted gifts to the other shareholders of the family corporation, reduced by the portion attributable to the brothers' own ownership interests in the family corporation).Likewise, a transfer to a partnership for less103 than full and adequate consideration may represent an indirect gift to the other partners. SeeGross v. Commissioner, 7 T.C. 837">7 T.C. 837 (1946) (taxpayer's and spouse's transfer of business assets into a newly formed partnership among themselves, their daughter, and son-in-law resulted in taxable gifts to the daughter and son-in-law). Obviously, not every capital contribution to a partnership results in a gift to the other partners, particularly where the contributing partner's capital account is increased by the amount of his contribution, thus entitling him to recoup the same amount upon liquidation of the partnership. In the instant case, however, petitioner's contributions of the leased land and bank stock were allocated to his and his sons' capital accounts according to their respective partnership shares. Under the partnership agreement, each son was entitled to receive distribution of any part of his capital account with prior consent of the other partners (i.e., his father and brother), and was entitled to sell his partnership interest after granting his father and brother the first option to purchase his interest at fair market value. Upon dissolution of the partnership,104 each son was entitled to receive payment of the balance in his capital account.In these circumstances, we conclude and hold that petitioner's transfers to the partnership represent indirect gifts to each of his sons, John and William, of undivided 25-percent interests in the leased land and in the bank stock. 11 In reaching this conclusion, we have effectively aggregated petitioner's two separate, same-day transfers to the partnership of undivided 50-percent interests in the leased land to reflect the economic substance of petitioner's conveyance to 390 the partnership of his entire interest in the leased land. We have not, however, aggregated the separate, indirect gifts to his sons, John and William. SeeEstate of Bosca v. Commissioner, T.C. Memo 1998-251">T.C. Memo 1998-251 (for purposes of the gift tax, each separate gift must be valued separately), and cases cited therein; cf. Estate of Bright v. United States, 658 F.2d 999">658 F.2d 999 (5th Cir. 1981) (rejecting family attribution in valuing stock for estate tax purposes).105 D. VALUATION OF THE LEASED LANDThe parties rely on expert testimony to value petitioner's interest in the leased land at the time he transferred it to the partnership. We evaluate expert opinions in light of all the evidence in the record and may accept or reject the expert testimony, in whole or in part, according to our own judgment. SeeHelvering v. National Grocery Co., 304 U.S. 282">304 U.S. 282, 295, 82 L. Ed. 1346">82 L. Ed. 1346, 58 S. Ct. 932">58 S. Ct. 932 (1938); Estate of Mellinger v. Commissioner, 112 T.C. 26">112 T.C. 26, 39 (1999). "The persuasiveness of an expert's opinion depends largely upon the disclosed facts on which it is based." Estate of Davis v. Commissioner, 110 T.C. 530">110 T.C. 530, 538 (1998). We may be selective in our use of any part of an expert's opinion. See id.Petitioner presented testimony of three expert witnesses: Mr. Norman W. Lipscomb (Lipscomb), Mr. Gene Dilmore (Dilmore), and Mr. Harry L. Haney, Jr. (Haney).Lipscomb valued petitioner's 100-percent interest in the leased land under both a sales comparison approach 12 and an income capitalization approach, 13 and then reconciled the two results. Under his sales comparison approach, Lipscomb valued the leased land at $ 958,473. In arriving at this106 value, Lipscomb determined an indicated value of the leased land on the basis of each of four comparable sales, then discounted each indicated value by 45 percent on the theory that buyers would demand a significant discount for property encumbered by a lease for 32 years. Under his income capitalization approach, Lipscomb valued the leased land at $ 795,364. Treating the values determined under the sales comparison approach and the income capitalization approach 391 as establishing upper and lower boundaries, respectively, of a range of possible values, and weighing the income capitalization approach most heavily, Lipscomb determined that the value of a 100-percent interest in the leased land, as of the date of the gifts, was $ 850,000. Lipscomb then determined that a 50-percent undivided interest should be subject to a 27-percent discount for a fractional ownership interest, as determined by a range of adjustments suggested by his analysis of what he deemed to be three comparable sales of fractional real estate interests. The net result was that Lipscomb valued a 50-percent undivided interest in the leased land as of March 31, 1991, at $ 310,250.107 Dilmore used an income capitalization approach to arrive at a $ 210,000 value for an undivided one-half fee interest in the leased land as of March 31, 1991, after applying a 15-percent discount for an undivided interest in the property.Haney's report is limited to identifying various factors that could negatively affect the value of the reversionary interest in the leased land at the expiration of the long-term timber lease on January 1, 2023 (the reversion); he provided no specific dollar estimate of the reversion's value.Respondent's expert, Mr. Richard A. Maloy (Maloy), also used an income capitalization approach, valuing petitioner's entire fee interest in the leased land, as of March 31, 1991, at $ 1,547,000, calculated as the present value of the income stream (contract rents) plus the present value of the reversion. Maloy's determination of present value reflects no discounts for fractional interests or limited marketability.On brief, petitioner argues that the proper and most realistic way to value land subject to a long-term timber lease is to use an income capitalization methodology such as was employed in Saunders v. United States, 1981 U.S. Dist. LEXIS 13701">1981 U.S. Dist. LEXIS 13701, 48 A.F.T.R.2d (RIA) 6279, 81-2 U.S. Tax Cas. (CCH) P13,419 (M.D. Ga. 1981).108 Accordingly, the parties are in substantial agreement that the leased land should be valued as of the time the subject gift was made as the sum of: (a) The present value of the projected annual rental income from the lease, plus (b) the present value of the reversion. The parties disagree, however, about numerous assumptions made by the experts at each step of the valuation methodology. We address these disagreements below. 392 1. PRESENT VALUE OF PROJECTED LEASE RENTSThe value of the lease income stream may be estimated by determining the rental payments petitioner was receiving at the time of the gifts, then projecting those rents into the future based upon an anticipated growth rate, and finally discounting the future rents payments to a 1991 present value using an appropriate discount rate. SeeSaunders v. United States, supra; see also Estate of Barge v. Commissioner, T.C. Memo 1997-188">T.C. Memo 1997-188 (using an income capitalization approach to value gift of 25-percent undivided interest in timberland); cf. Estate of Proctor v. Commissioner, T.C. Memo 1994-208">T.C. Memo 1994-208. We estimate the present value of the projected income stream from the lease based upon events, 109 expectations, and market conditions as they existed at the time of the gifts in August 1991.a. PROJECTED ANNUAL INCOME FROM THE LEASEIt is undisputed that when petitioner made the gifts, the remaining term of the lease was approximately 32 years. The parties have also stipulated the actual rental amounts received by petitioner from 1957 through 1995. The parties disagree, however, about the anticipated growth rate of the annual rent payments over the remaining life of the lease.Under the lease, rents are adjusted to reflect changes relative to the average 1955 Wholesale Price Index but only after there has been a cumulative adjustment of at least 5 percent from the last change. In projecting future rents, Maloy, Lipscomb, and Dilmore each rely on historical changes in the PPI. Maloy and Lipscomb agree that historical changes in the PPI averaged 1.87 percent for the 10 years before 1991. 14Maloy ends his analysis there, projecting rental increases of 5.6 percent (1.87 times 3) every 3 years for the duration of the lease.110 Lipscomb and Dilmore also take into account historical data showing that the rate of actual rent increases has lagged behind the rate of changes in the PPI, ostensibly as a result of inconstant annual rates of increase in the PPI in combination with the requirement that rents adjust only after there has been a 5-percent cumulative change in the 393 average price index. On the basis of this analysis, Lipscomb projects lease rent increases of 5.2 percent every 3 years, and Dilmore estimates an average long-term growth rate of approximately 1.5 percent per year.Because rent increases under the lease historically have lagged behind increases in the PPI, and in light of the uncertainty about the magnitude and direction of changes in PPI annual averages over a period as long as the 32 years remaining on the lease term at the time of petitioner's gifts, we conclude that it is appropriate to take into account historical patterns of actual rents under the lease. On the basis of our review of all the expert reports and testimony, we conclude that Lipscomb's projection of a 5.2-percent rent increase every 3 years for the duration of the lease is fair and reasonable.b. PRESENT VALUE OF PROJECTED111 RENTAL PAYMENTSIn determining the 1991 present value of the projected rental payments, a critical factor is the discount rate applied to the projected lease income stream.Lipscomb selected a discount rate of 8 percent, as representing "what a typical investor would have expected for investments of this type of land." His report indicates that although the investment was "low-risk", a higher discount rate was warranted owing to the limited marketability of the investment. Lipscomb applied the 8-percent discount rate to the after-tax lease income stream (assuming a 35-percent tax rate).Dilmore selected a discount rate of 13.5 percent, consisting of a 12.5-percent "basic discount rate" and an additional 1 percent to reflect the lack of a reforestation clause in the lease. Dilmore's report states that he selected the 12.5-percent basic rate as being 3.5 percent over the prime lending rate of 9 percent and approximately 1.5 times the 30-year bond rate. His report indicates that this basic discount rate is consistent with the somewhat lower yields on a land lease at a Birmingham shopping center and with a national survey of 1991 real estate yields for all real estate types. His report112 states that a higher discount is appropriate for the leased land than for these other real estate comparables because the lease income "is dependent upon the stability or lack thereof 394 in the timber business." His report indicates that an additional 1-percent discount should be added to his 12.5-percent basic rate to reflect the absence of any lease term requiring the lessee to reseed or reforest the land upon termination of the lease. Dilmore applied the 13.5-percent discount rate to the pretax lease income stream.Maloy selected a discount rate of 8 percent on the basis of interviews with Federal Land Bank appraisers and forestry economics professors. Unlike Lipscomb, but like Dilmore, Maloy applied his selected discount rate to the pretax lease income stream.i. PRETAX VERSUS AFTER-TAX PRESENT VALUE ANALYSISRespondent argues that Lipscomb's use of an after-tax analysis is inappropriate for determining fair market value. Respondent argues that an after-tax analysis is "used only to determine the internal rate of return of a particular investor." Respondent cites Estate of Proctor v. Commissioner, T.C. Memo 1994-208">T.C. Memo 1994-208, for the proposition that "investment" analysis113 does not equate to fair market value analysis.In Estate of Proctor, we held that in determining the fair market value of a ranch subject to a lifetime lease option, a "conventional lease analysis method" was preferable to an "investment differential method", 15 because the latter method "attempts to measure 'investment value' rather than market value. Investment value is more subjective because it is predicated on the investment preferences of the individual investor." Id. We did not hold, however, as a matter of law that income capitalization under the conventional lease analysis method must be done on a pretax basis, or that particular factors that are relevant for investment purposes are irrelevant in determining fair market value. Rather, we determined the applicable discount rate based on our conclusion that it was "a better reflection of risks associated with investing in ranch property, and is a more accurate estimate of the rate of return investors expect to earn when investing in ranch property." Id.114 There is no fixed formula for applying the factors that are considered in determining fair market value of an asset. See395 Estate of Davis v. Commissioner, 110 T.C. at 536 (in determining the fair market value of minority blocks of stock in a corporation, it was appropriate to take into consideration built-in capital gains tax on the stock). The weight given to each factor depends upon the facts of each case. Seeid. at 536-537. Here, the relevant inquiry is whether a hypothetical willing seller and a hypothetical willing buyer, as of the date of petitioner's gifts, would have agreed to a price for the lease income stream that took no account of tax consequences. Seeid. at 550-554; see also Eisenberg v. Commissioner, 155 F.3d 50">155 F.3d 50 (2d Cir. 1998); Estate of Borgatello v. Commissioner, T.C. Memo 2000-264">T.C. Memo 2000-264; Estate of Jameson v. Commissioner, T.C. Memo 1999-43">T.C. Memo 1999-43.A treatise relied upon by both parties states: Present value can be calculated with or without considering the impact of * * * income taxes as long as the specific rights being appraised are clearly identified. The techniques115 and procedures selected are determined by the purpose of the analysis, the availability of data, and the market practices. [Appraisal Institute, The Appraisal of Real Estate 462 (11th ed. 1996). 16]Lipscomb testified convincingly that in his experience it was customary practice in the timber industry to apply an after-tax analysis. 17 In his rebuttal report, Maloy includes as an appendix portions of a treatise (Bullard, Basic Concepts in Forest Valuation and Investment Analysis, sec. 6.2 (1998)) that describe the use of an after-tax analysis for forestry investments, whereby one converts all costs and revenues to an after-tax basis and calculates all present values116 using an after-tax discount rate. Accordingly, authorities relied upon by respondent's own expert appear to acknowledge that an after-tax analysis, consistently utilizing after-tax income and after-tax discount rates, may be appropriate. 18It is true, as Maloy indicates in his rebuttal report, that an after-tax analysis requires an assumption as to whether 396 the hypothetical buyer is taxable and at what rate. It appears, however, that in selecting his discount rate, Maloy himself has117 assumed that the hypothetical buyer is taxable at rates consistent with those used in Lipscomb's after-tax analysis. 19Accordingly, we reject respondent's suggestion that in determining the present value of a projected income stream for gift tax purposes, the determination must as a matter of law be made on a pretax basis.Given Lipscomb's assumed 35-percent tax rate, his 8- percent after-tax discount rate may be converted to a pretax discount rate of approximately118 12.3 percent (8 divided by (1.0-.35)), which is very close to the 12.5-percent pretax "basic rate" selected by Dilmore for use in his pretax analysis. In the instant circumstances, the critical question, we believe, is not whether to use a pretax or after-tax analysis, but whether it is more appropriate to apply the pretax discount rate selected by Maloy (8 percent), or by Dilmore (13.5 percent), or the equivalent pretax discount rate selected by Lipscomb (12.3 percent).ii. NOMINAL VERSUS REAL DISCOUNT RATESThe lease terms adjust the annual rent payments for inflation. The parties disagree over whether, in light of this inflation-adjustment feature, it is appropriate to use a "real" discount rate (i.e., a discount rate that eliminates the effects of inflation) or a higher "nominal" discount rate (i.e., the real rate plus the inflation rate). Maloy's expert report states that the appropriate discount rate to apply here is a real rate. On brief, respondent argues that the discount rates used by petitioner's experts are too high because they are nominal rates. Petitioner and his experts counter that in the instant circumstances only nominal discount rates and not real rates are appropriate. 119 The differences between the parties appear rooted at least partly in semantics. Acknowledging that these matters are not self- evident to those unbaptized in the murky waters of 397 actuarial science, we agree with petitioner and his experts, whose views align with the aforementioned learned treatise, Appraisal Institute, supra at 460-461, relied upon for different purposes by both parties, which states as follows: Because lease terms often allow for inflation with * * adjustments based on the Consumer Price Index (CPI), it is convenient and customary to project income and expenses in dollars as they are expected to occur, and not to convert the amounts into constant dollars. Unadjusted discount rates, rather than real rates of return, are used so that these rates can be compared with other rates quoted in the open market -- e.g., mortgage interest rates and bond yield rates. * * * * * * * * * * Projecting the income from real estate in nominal terms allows an analyst to consider whether or not the income potential of the120 property and the resale price will increase with inflation. The appraiser must be consistent and not discount inflated dollars at real, uninflated rates. WHEN INFLATED NOMINAL DOLLARS ARE PROJECTED, THE DISCOUNT RATE MUST ALSO BE A NOMINAL DISCOUNT RATE THAT REFLECTS THE ANTICIPATED INFLATION. [Emphasis added.]We conclude that Maloy's 8-percent discount rate is understated as a result of his inappropriate use of a real discount rate rather than a higher nominal discount rate. iii. ADJUSTMENT OF DISCOUNT RATE FOR LACK OF MARKETABILITYIt also appears that the differences between respondent's and petitioner's experts are partly attributable to the fact that they are valuing different things. Maloy's report states that he has determined the market value of petitioner's leased fee interest. Dilmore and Lipscomb, on the other hand, have each valued an undivided one-half interest in the leased fee interest. Lipscomb, like Maloy but unlike Dilmore, acknowledges that the leased land is a "low-risk" investment, which would suggest a relatively low discount rate. Lipscomb's recommended discount121 rate reflects an upward adjustment to reflect the limited marketability of an undivided one- half interest.As previously discussed, we have determined that petitioner's transfer of the leased land to the partnership should be characterized as two separate undivided 25-percent interests in the leased land. We agree with Lipscomb that an undivided fractional interest in the leased land will make it a less favorable investment than the entire interest, by making it 398 less marketable and more illiquid, and that these factors may be appropriately considered in selecting the discount rate. 20SeeSaunders v. United States, 1981 U.S. Dist. LEXIS 13701">1981 U.S. Dist. LEXIS 13701, 48 A.F.T.R.2d (RIA) 6279, 81-2 U.S. Tax Cas. (CCH) P13,419 (M.D. Ga. 1981). Accordingly, we conclude that Lipscomb's selected discount rate is fair and reasonable. Our conclusion is bolstered by the fact that, when converted to a pretax rate, Lipscomb's discount rate nearly coincides with the "basic rate" determined by Dilmore using a different methodology based on comparisons with various other types of investments. 21122 We hold and conclude, therefore, that Lipscomb has fairly and reasonably determined the net present value of the lease income stream to be $ 566,773.2. PRESENT VALUE OF THE REVERSIONLipscomb's income capitalization approach assumes that the leased land will have a January 1, 2023, pretax reversion value of $ 4,127,687. Lipscomb then purports to arrive at a January 1, 2023, after-tax value of the reversion by assuming a 35-percent tax on $ 4,127,687, and then discounting this after-tax amount to 1991 present value using an 8-percent discount rate. Nothing in the record explains Lipscomb's derivation of his estimated January 1, 2023, pretax conversion value. 22 Furthermore, we disagree with Lipscomb's 399 implicit premise, otherwise unsupported by the record or common sense, that in determining the fair market value of the reversion -- either in 2023 or in 1991 -- a hypothetical willing buyer and seller would have adjusted the price downward to account for the seller's income tax liability on the sale. Cf. Estate of Davis v. Commissioner, 110 T.C. 530">110 T.C. 530 (1998).123 Dilmore calculates the January 1, 2023, value of the reversion by projecting lease rental income to be $ 95,052 in 2023, and then capitalizing it at a rate of 12.6 percent, to yield an estimated January 1, 2023, value of $ 754,381. He then discounts the January 1, 2023, value to 1991 present value. Dilmore's method improperly seeks to determine the January 1, 2023, value of the reversion on the basis of the final year's lease payments. We are unconvinced that the fair market value of the land in 2023, when the lease expires, is properly computed on the basis of the last year's rent payments under the lease. Accordingly, we reject Dilmore's conclusions in this regard.Respondent's expert Maloy calculates the value of the reversion by first establishing a $ 238 per acre "baseline" estimate of the value of a 100-percent fee simple interest in the leased land in 1991. Maloy determines this baseline estimate on the basis of comparisons with numerous property sales in the same counties as the leased land. Maloy then applies a growth rate of 5 percent to project a future value for the reversion in 2023 of $ 10,245,020. 23 From this amount, Maloy subtracts $ 2,454,315 for estimated replanting124 costs in 2023, to yield net future value in 2023 of $ 7,790,706. 24Maloy then 400 applies a discount rate of 8 percent to yield a present value of the reversion of $ 663,768.As previously discussed, we disagree with Maloy's selected discount rate as being understated. We conclude, however, that Maloy's valuation of the reversion is in all other respects reasonable and is based on sound assumptions and methodology, taking into consideration, among other things, reasonable costs of reforesting the land at the end of the lease. 25 Accordingly, employing Maloy's methodology but substituting the pretax125 equivalent of Lipscomb's selected discount rate (12.3 percent), we hold that at the time of petitioner's gifts, the present value of the reversion in the leased land was $ 190,291. 26126 E. DISCOUNTS FOR FRACTIONAL INTERESTSThe parties have stipulated that if we were to measure petitioner's gifts by reference to the sons' interests in the partnership, the correct minority and marketability discount would be 33.5 percent. We have determined, however, that petitioner's transfers represented separate, indirect gifts to his sons of interests in the leased land and bank stock, rather than gifts of partnership interests or enhancements thereto. As previously discussed, the gift tax is imposed on the value of what the donor transfers, not what the donee receives. SeeRobinette v. Helvering, 318 U.S. at 186 (the gift tax is "measured by the value of the property passing from the donor"); Stinson Estate v. United States, 214 F.3d at 849; Citizens Bank & Trust Co. v. Commissioner, 839 F.2d 1249">839 F.2d 1249 (7th Cir. 1988) (for gift and estate tax purposes, value of stock transferred to trusts was determined without regard to 401 terms or existence of trust); Goodman v. Commissioner, 156 F.2d at 219; Ward v. Commissioner, 87 T.C. at 100-101; LeFrak v. Commissioner, T.C. Memo 1993-526">T.C. Memo 1993-526; sec. 25.2511-2(a), Gift Tax127 Regs. Accordingly, the subject gifts are not measured by reference to the sons' partnership interests. Because the conditions of the stipulation are not met, we must consider what valuation discounts, if any, are applicable.1. THE LEASED LANDLipscomb opined that a 27-percent discount was appropriate in recognition of the fractionalized ownership of the leased land because of the resulting reduction in marketability and control. 27 As previously discussed, however, in performing his analysis of the 1991 present value of the lease income, Lipscomb had previously taken lack of marketability into account in adjusting his discount rate upward. Consequently, his 27-percent valuation discount is redundant insofar as it reflects lack of marketability and to that extent is excessive. Lipscomb's analysis is insufficiently detailed to permit us to isolate the redundant elements. Accordingly, we reject his recommended 27-percent valuation discount.128 Dilmore testified that an undivided interest in the leased land should be subject to a discount of 15 percent, comprising these three elements:(1) Operation -- a 3-percent discount for lack of complete control of the management of the property and of decisions made about it;(2) Disposition of the property -- a 10-percent discount to reflect the possibility of disagreement between the co-owners and the necessity of getting them to agree on the sale; and(3) Partitioning -- a 2-percent discount in recognition of the eventuality that partitioning of the physical property might become necessary. Dilmore indicated that "This would appear to be a fairly minor factor" for the leased land.On brief, respondent argues that no valuation discount for fractional interests is warranted with respect to the leased land, but, if it were, it should be measured solely by the cost of partitioning the land, which Maloy opined would probably 402 be about $ 25,000. We reject respondent's argument as failing to give adequate weight to other reasons for discounting a fractional interest in the leased land, such as lack of control in managing and disposing of the property. SeeEstate of Stevens v. Commissioner, T.C. Memo 2000-53">T.C. Memo 2000-53;129 Estate of Williams v. Commissioner, T.C. Memo 1998-59">T.C. Memo 1998-59.Accordingly, on the basis of our review of all the expert testimony and reports, we conclude and hold that Dilmore's 15-percent valuation discount for an undivided fractional interest in the leased land is fair and reasonable. 28130 2. THE BANK STOCKWith regard to the bank stock, respondent has not contested the 15-percent minority interest discount as claimed on petitioner's gift tax return. Accordingly, we hold that the stipulated value of the bank stock on the date of petitioner's gifts ($ 932,219) is subject to a 15-percent minority interest discount for the gifts to his sons of undivided interests.F. SUMMARY AND CONCLUSIONOn the basis of all the evidence in the record, we conclude and hold that petitioner made separate gifts to each of his two sons of 25-percent undivided interests in the leased land and the bank stock. The value of the total separate gifts to each son is $ 358,973, and the value of petitioner's aggregate gifts is $ 717,946, calculated as follows:LEASED LAND 1991 present value of lease income $ 566,773 1991 present value of 2023 reversion 190,291 ________ Combined present value 757,064 Pro rata interest 25% 131 ________ Undiscounted pro rata value 189,266 Valuation discount adjustment (1-.15) .85 ________ Value of separate indirect gifts 160,876BANK STOCK Stipulated value 932,219 Pro rata interest 25% ________ Undiscounted pro rata interest 233,055 Valuation discount adjustment(1-.15) .85 Value of separate indirect gifts 198,097 ________COMBINED VALUE OF SEPARATE INDIRECT GIFTS Leased land 160,876 Bank stock 198,097 132 ________ Total 358,973Total Indirect Gifts John 358,973 William 358,973 ________ 717,946403 We have considered all other arguments the parties have advanced for different results. Arguments not expressly addressed herein we conclude are irrelevant, moot, or without merit.To reflect the foregoing,Decision will be entered under Rule 155.Reviewed by the Court.WELLS, CHABOT, COHEN, PARR, WHALEN, COLVIN, HALPERN, CHIECHI, LARO, and GALE, JJ., agree with this majority opinion. * * * WHALEN, J., concurring: I agree with both the reasoning and result of the majority opinion, but I write separately to make the point that this case does not present the same issues concerning the valuation of the indirect gifts as were presented in Estate of Bosca v. Commissioner, T.C. Memo 1998-251">T.C. Memo 1998-251,133 and to comment on the position of Judges Beghe and Ruwe, who make interesting and worthwhile points, especially in light of the increasing use of family partnerships.404 In this case, the majority opinion decides two principal issues. First, it rejects petitioner's contention that the transfers of leased land and bank stock made by petitioner should be characterized as gifts to petitioner's two sons of minority interests in a family partnership, or as enhancements of his sons' existing partnership interests. Petitioner sought that characterization of the transfers to justify the application of substantial discounts in valuing the property. Contrary to petitioner's position, the majority characterizes the transfers as indirect gifts to the sons of the leased land and bank stock. The majority relies on section 25.2511- 1(h)(1), Gift Tax Regs., which provides: A transfer of property by B to a corporation generally represents gifts by B to the other individual shareholders of the corporation to the extent of their proportionate interests in the corporation.Based thereon, the majority holds that the transfers represent an indirect gift to each of petitioner's134 two sons of an undivided 25- percent interest in the leased land and bank stock. To my knowledge, there is no disagreement as to this aspect of the majority opinion.Second, the majority opinion values the two gifts made by petitioner. In the case of the bank stock, the parties stipulated that before the transfer to the partnership the aggregate value of the stock of the three banks that was included in the transfer was $ 932,219. In view of the fact that the stock of each of the three banks represented a minority interest in the bank, the majority reduced or discounted the value of the stock by 15 percent. This discount was claimed on petitioner's gift tax return, and respondent did not contest it in these proceedings. There is nothing to suggest that the amount of this discount would vary depending on whether the gifts were valued in the aggregate or separately. The majority then, in effect, treats 50 percent of the remaining value as having been retained by petitioner through his interest in the family partnership and treats 25 percent of the remaining value, $ 198,097, as a gift to each son in accordance with section 25.2511-1(h)(1).In the case of the leased land, after resolving135 various factual disputes between and among the parties' expert witnesses, the majority opinion concludes that the present value of the leased land, before the transfer to the partnership, was 405 $ 757,064. In view of the fact that the gifts made by petitioner were gifts of undivided interests in the leased land, the majority agrees that the value of the leased land should be reduced or discounted by 15 percent due to the fact that the donees did not have complete control over the property. In footnote 28 of the opinion, the majority notes that the 15-percent discount is based upon "a 50-percent undivided interest in the leased land, as opposed to a 25-percent undivided interest" due to petitioner's failure to provide evidence as to "what additional amount of discount, if any, should be attributable to a 25-percent undivided interest as opposed to a 50-percent undivided interest." Thus, based upon the record at trial, the same discount is applicable regardless of whether the gifts of the leased land are valued on an aggregate basis or separately. The majority opinion then, in effect, treats 50 percent of the remaining value as having been retained by petitioner through his interest in136 the partnership and treats 25 percent of the remaining value, $ 160,876, as a gift to each son in accordance with section 25.2511-1(h)(1).The majority opinion, at page 23, states as follows: We have not, however, aggregated the separate, indirect gifts to his sons, John and William. See Estate of Bosca v. Commissioner, T.C. Memo 1998-251">T.C. Memo 1998-251 (for purposes of the gift tax, each separate gift must be valued separately), and cases cited therein; cf. Estate of Bright v. United States, 658 F.2d 999">658 F.2d 999 (5th Cir. 1981) (rejecting family attribution in valuing stock for estate tax purposes).As the author of the Estate of Bosca v. Commissioner, I appreciate the approval of that opinion by the majority. However, the approach of the majority in the instant case, as discussed above, is different from the approach used in Estate of Bosca because, in this case, there is no difference between the valuation of petitioner's gifts to his sons depending on whether the gifts are valued on an aggregate basis or separately. The value of 50 percent of the gifted property, or $ 378,532 (50 percent of $ 757,064), less a 15-percent137 discount is the same as two 25-percent undivided interests in the leased land, $ 378,532, less a 15-percent discount.In valuing the gifts in Estate of Bosca, it was necessary for the Court to decide whether the gifts should be valued on an aggregate basis; i.e., as part of a 50-percent block of stock, 406 or whether they should be valued separately; i.e., as two 25-percent blocks of stock. In deciding to take the latter approach, we followed the long-standing position of this Court that separate gifts must be valued separately. See, e.g., Calder v. Commissioner, 85 T.C. 713">85 T.C. 713 (1985); Rushton v. Commissioner, 60 T.C. 272">60 T.C. 272, 278 (1973), affd. 498 F.2d 88">498 F.2d 88 (5th Cir. 1974); Standish v. Commissioner, 8 T.C. 1204">8 T.C. 1204 (1947); Phipps v. Commissioner, 43 B.T.A. 1010">43 B.T.A. 1010, 1022 (1941), affd. 127 F.2d 214">127 F.2d 214 (10th Cir. 1942); Hipp v. Commissioner, T.C. Memo 1983-746">T.C. Memo 1983-746.As I understand their position, Judges Ruwe and Beghe agree that, under the facts of this case, petitioner made a gift to each of his two sons, but they do not agree with the approach used by the majority in valuing the gifts. They appear to take the position138 that in computing the difference between the value of the property transferred by the donor and the value of the consideration received by the donor, as required by section 2512(b), the property is to be valued in the donor's hands prior to the transaction with no discounts or reductions permitted.For example, in the case of the leased land, the only asset as to which respondent has raised an issue in this case, it appears that Judges Ruwe and Beghe take the position that the value of the property in the donor's hands before the transfer, $ 757,064, must also be the value of the property transferred by the donor. Presumably, they would take the position that the value of the consideration received by the donor is 50 percent of the value of the property transferred or $ 378,532, based upon the fact that petitioner retained a 50-percent interest in the partnership. Under this approach the aggregate value of the gifts would be $ 378,532 and that amount must be included in computing the amount of gifts made by petitioner during the calendar year. Thus, they disagree that a discount of 15 percent is proper to reflect the reduced value of undivided interests in the leased land.Their139 view appears to be at odds with the fact that discounts and reductions are permitted in the case of direct gifts. If a donor makes a direct gift to one or more donees, the sum of the gifts may be less than the value of the property in the donor's hands before the transfer. For example, we have held that the sum of all the fractional interests in real property gifted by a donor was less than the value of the 407 whole property in the donor's hands. In Mooneyham v. Commissioner, T.C. Memo 1991-178">T.C. Memo 1991-178, the donor owned 100 percent of a certain parcel of real property worth $ 1,302,000 before transferring a 50-percent undivided interest in the property to her brother. We held that the value of the gift, the 50-percent fractional interest, was "50 percent of the total less a 15-percent discount or $ 553,350." Thus, the property transferred by the donor was worth $ 97,650 less than it was in the donor's hands. Similarly, in Estate of Williams v. Commissioner, T.C. Memo 1998-59">T.C. Memo 1998-59, the owner of two parcels of property transferred 50-percent undivided interests in each of the parcels. We held that each of the two gifts in that case should be valued as 50 percent of the fair140 market value of the property less aggregate discounts of 44 percent. See also Heppenstall v. Commissioner, a Memorandum Opinion of this Court dated Jan. 31, 1949 (minority discount). These cases show that, in appropriate cases, the minority discount and fractionalized interest discount can be taken into account for purposes of valuing direct gifts under section 2512(a). This suggests that such discounts can also be taken into account in valuing indirect gifts under section 2512(b). Otherwise, there would be a difference in the application of the willing buyer, willing seller standard depending on whether the valuation is of a direct gift or an indirect gift.As described above, in valuing the gifts of bank stock, the majority opinion applied a minority interest discount to reflect the fact that a willing buyer would pay less for the minority interests in the three banks that petitioner transferred. In valuing the leased land, the majority opinion applied a fractional interest discount to reflect the fact that a willing buyer would pay less for the undivided interest in the leased land that petitioner transferred. These discounts are attributable to the nature of the property transferred141 by the donor. They are not attributable to restrictions imposed by the terms of the conveyance. See Citizens Bank & Trust Co. v. Commissioner, 839 F.2d 1249">839 F.2d 1249 (7th Cir. 1988). In my view, neither of these discounts is inconsistent with section 25.2511-2(a), Gift Tax Regs., and the corresponding case law which require that the gift be measured by the value of the property passing from the donor, and not by what the donee receives. See, e.g., Ahmanson Found. v. United States, 674 F.2d 761">674 F.2d 761, 767-769 (9th Cir. 1981).408 CHABOT, COLVIN, HALPERN, and THORNTON, JJ., agree with this concurring opinion. * * * HALPERN, J., concurring: I write to state my agreement with the majority opinion and to respond to the suggestion that in allowing a fractional interest discount with respect to the leased land, the majority opinion has deviated from the valuation rule of section 2512(b). The threshold question under section 2512(b) is what "property is transferred". As germane to the facts of the case under review, the question is whether petitioner's transfer of land to the partnership should be deemed to represent a single transfer of petitioner's 100-percent interest in the142 land, or whether it should be viewed as separate, indirect transfers of fractional interests to his two sons.The instant case, like Kincaid v. United States, 682 F.2d 1220">682 F.2d 1220 (5th Cir. 1982), is based on application of an indirect gift rule as provided in the regulations: "A transfer of property by B to a corporation [for less than full and adequate consideration] generally represents gifts by B to the other shareholders of the corporation to the extent of their proportionate interests in the corporation." Gift Tax Regs. sec. 25.2511-1(h)(1) (emphasis added). Applying this regulation, the court in Kincaid concluded that the taxpayer's single transfer of a ranch to the family-owned corporation represented "a gift to each of her sons" to the extent of their proportionate interests. Id. at 1224. Given the unambiguous premise of the cited regulation, as applied in Kincaid, that the transfer gives rise to separate "gifts", it follows that for purposes of valuing those separate gifts, the "property transferred" should be viewed as the property transferred by virtue of each of the deemed separate gifts. Otherwise, we must construe section143 2512(b) to apply not on a gift-by-gift basis, but on the basis of aggregate gifts made by the donor to different donees -- a result without basis in law or common sense.It would seem beyond cavil that if the petitioner had made direct gifts to his sons of 25-percent undivided interests in the land, we would permit appropriate fractional interest discounts in valuing the gifts. It would be anomalous if by making 409 the same gifts indirectly, through a partnership, instead of directly, such fractional interest discounts were precluded. Having applied the indirect gift rule to deny the donor entity-level discounts on the basis that the transfer to the entity was in essence multiple transfers to the individual objects of the donor's bounty, it would be unfair then to ignore the operation of that rule in concluding that in considering the availability of a fractional interest discount, the transfer should be treated as a unitary transfer to the entity.Finally, it is true, as Judge Ruwe notes, that neither Kincaid nor several of its progeny allowed any fractional interest discount with respect to the transferred property. There is no indication in any of these cases, however, that the taxpayer144 raised or that the court considered such an issue. The only case in the Kincaid line of cases to expressly consider the issue was Estate of Bosca v. Commissioner, T.C. Memo 1998-251">T.C. Memo 1998-251, which concluded, consistent with the majority opinion, that fractional interest discounts were permissible. I see no reason why we should now abandon this precedent, which is soundly reasoned.CHABOT, COHEN, WHALEN, COLVIN, LARO, GALE, and THORNTON, JJ., agree with this concurring opinion. * * * RUWE, J., concurring in part and dissenting in part: I agree with the majority opinion except for its allowance of a 15- percent valuation discount with respect to what the majority describes as "indirect gifts [by petitioner] to each of his sons, John and William, of undivided 25-percent interests in the leased land". Majority op. p. 22. In my opinion, no such discount is appropriate because undivided interests in the leased land were never transferred to petitioner's sons. The transfer in question was a transfer of petitioner's entire interest in the leased land to the partnership. This transfer was to a partnership in which petitioner held a 50-percent interest. Except for enhancing the145 value of petitioner's 50-percent partnership interest, he received no other consideration for the transfer. 410 Section 2512(b) provides: SEC. 2512. Valuation of Gifts. (b) Where property is transferred for less than an adequate and full consideration in money or money's worth, then the amount by which the value of the property exceeded the value of the consideration shall be deemed a gift, and shall be included in computing the amount of gifts made during the calendar year.The Supreme Court has described previous versions of the gift tax statutes (section 501 imposing the tax on gifts and section 503 which is virtually identical to present section 2512(b)) in the following terms: Sections 501 and 503 are not disparate provisions. Congress directed them to the same purpose, and they should not be separated in application. Had Congress taxed "gifts" simpliciter, it would be appropriate to assume that the term was used in its colloquial sense, and a search for "donative intent" would be indicated. But Congress intended to use the term "gifts" in its broadest146 and most comprehensive sense. H. Rep. No. 708, 72d Cong., 1st Sess., p.27; S. Rep. No. 665, 72d Cong., 1st Sess., p.39; cf. Smith v. Shaughnessy, 318 U.S. 176">318 U.S. 176, 87 L. Ed. 690">87 L. Ed. 690, 63 S. Ct. 545">63 S. Ct. 545; Robinette v. Helvering, 318 U.S. 184">318 U.S. 184, 87 L. Ed. 700">87 L. Ed. 700, 63 S. Ct. 540">63 S. Ct. 540. Congress chose not to require an ascertainment of what too often is an elusive state of mind. For purposes of the gift tax it not only dispensed with the test of "donative intent." It formulated a much more workable external test, that where "property is transferred for less than an adequate and full consideration in money or money's worth," the excess in such money value "shall, for the purpose of the tax imposed by this title, be deemed a gift…" And Treasury Regulations have emphasized that common law considerations were not embodied in the gift tax. [Commissioner v. Wemyss, 324 U.S. 303">324 U.S. 303, 306, 89 L. Ed. 958">89 L. Ed. 958, 65 S. Ct. 652">65 S. Ct. 652 (1945); fn. ref. omitted.]The Supreme Court described the objective of these statutory provisions as follows: The section taxing as gifts transfers that are not made for "adequate and full [money] consideration" aims to reach those147 transfers which are withdrawn from the donor's estate. * * [Id. at 307.]Under the applicable statutory provisions, it is unnecessary to consider the value of what petitioner's sons received in order to determine the value of the property that was transferred. Indeed, the regulations provide that it is not even necessary to identify the donee. 1 The regulations provide 411 that the gift tax is the primary and personal liability of the donor, that the gift is to be measured by the value of the property passing from the donor, and that the tax applies regardless of the fact that the identity of the donee may not be presently known or ascertainable. See sec. 25.2511- 2(a), Gift Tax Regs. 2148 The majority correctly states the formula for valuing transfers of property: If property is transferred for less than adequate and full consideration, then the excess of the value of the property transferred over the consideration received is generally deemed a gift. See sec. 2512(b). The gift is measured by the value of the property passing from the donor, rather than by the property received by the donee or upon the measure of enrichment to the donee. See sec. 25.2511-2(a), Gift Tax Regs. [Majority op. pp. 11-12.]This is exactly the formula used in the cases on which the majority relies for the proposition that a gift was made. See Kincaid v. United States, 682 F.2d 1220">682 F.2d 1220 (5th Cir. 1982); Heringer v. Commissioner, 235 F.2d 149">235 F.2d 149 (9th Cir. 1956); CTUW Hollingsworth v. Commissioner, 86 T.C. 91">86 T.C. 91 (1986). In each of these cases, property was transferred to a corporation for less than full consideration. All or part of the stock of the transferee corporations was owned by persons other than the transferor. In each case, the value of the gift was found to be the fair market value of the149 property transferred to the corporation, minus any consideration received by the transferor. None of these cases allowed a discount based upon a hypothetical assumption that fractionalized interests in the transferred property were given to the individual shareholders of the transferee corporations. Unfortunately, the majority does not follow its own formula, as quoted above, or the above-cited cases.The only case cited by the majority where a discount was given based on a hypothetical assumption that fractionalized interests in the transferred property were given to the 412 indirect beneficiaries (shareholders or partners) is Estate of Bosca v. Commissioner, T.C. Memo 1998-251">T.C. Memo 1998-251. I believe that Estate of Bosca was incorrectly decided on this point. That opinion improperly relied upon cases that dealt with determining the number of annual gift tax exclusions and blockage discounts.Opinions dealing with the number of annual gift tax exclusions under section 2503(b) 3 have no application in determining the value of gifts under section 2512(b). Under the annual gift tax exclusion, the first $ 10,000 of gifts made to any person is excluded from total taxable gifts. Unlike150 section 2512(b), section 2503(b) focuses on the identity of the donee. Section 2503(b) specifically addresses "gifts * * made to any person" and excludes "the first $ 10,000 of such gifts to such person". In explaining the meaning of "gift" in the statute providing for the annual exclusion, the Supreme Court explained: But for present purposes it is of more importance that in common understanding and in the common use of language a gift is made to him upon whom the donor bestows the benefit of his donation. One does not speak of making a gift to a trust151 rather than to his children who are its beneficiaries. The reports of the committees of Congress used words in their natural sense and in the sense in which we must take it they were intended to be used in section 504(b) when, in discussing section 501, they spoke of the beneficiary of a gift upon trust as the person to whom the gift is made. * * Helvering v. Hutchings, 312 U.S. 393, 396, 61 S. Ct. 653">61 S. Ct. 653, 85 L. Ed. 909">85 L. Ed. 909 (1941).The Supreme Court's interpretation of the term "gift" for purposes of the annual exclusion was based upon the common meaning and understanding of the term gift. The Supreme Court's interpretation of the term gift in section 2503(b) must be contrasted with the Supreme Court's broad interpretation of section 2512(b). Section 2512(b) specifies a formula for determining when a transfer will be deemed a gift and for determining the amount of the gift for gift tax purposes. In explaining the broad reach of the predecessor of section 2512(b), the Supreme Court in Commissioner v. Wemyss, 324 U.S. 303">324 U.S. 303, 89 L. Ed. 958">89 L. Ed. 958, 65 S. Ct. 652">65 S. Ct. 652 (1945), explained that Congress was 413 applying the gift tax to transfers that were beyond the common meaning of the term gift.152 Had Congress taxed "gifts" simpliciter, it would be appropriate to assume that the term was used in its colloquial sense, and a search for "donative intent" would be indicated. But Congress intended to use the term "gifts" in its broadest and most comprehensive sense. * * * [Id. at 306.]Thus, for purposes of the gift tax, a transfer that is deemed to be a "gift" is statutorily defined in section 2512(b) in broad and comprehensive terms and is not limited to the common meaning of that term.Reliance on cases based on blockage discounts is also misplaced in the context of section 2512(b). The gift tax regulations permit an exception to the traditional definition of fair market value for gifts of large blocks of publicly traded stock. Under the regulations, a blockage discount can be allowed "If the donor can show that the block of stock to be valued, with reference to each separate gift, is so large in relation to the actual sales on the existing market that it could not be liquidated in a reasonable time without depressing the market." Sec. 25.2512-2(e), Gift Tax Regs. (Emphasis added.) The cases dealing with blockage discounts153 are distinguishable because they were decided on the basis of a specific regulation dealing with blockage discounts and involved either separate transfers of properties to various persons or transfers in trust where the transferor allocated specific properties to the trust accounts of individual donees. See Rushton v. Commissioner, 498 F.2d 88">498 F.2d 88 (5th Cir. 1974), affg. 60 T.C. 272">60 T.C. 272 (1973); Calder v. Commissioner, 85 T.C. 713">85 T.C. 713 (1985). In the instant case, there was a single transfer of petitioner's property for less than full and adequate consideration. Pursuant to section 2512(b), such a transfer is deemed to be a gift to the extent the fair market value of the transferred property exceeded the value of any consideration received by the transferor.The value of the property to which the gift tax applies in the instant case is the fair market value of the leased property that petitioner transferred to the partnership, minus the portion of that value that served to enhance petitioner's 50-percent partnership interest. See Kincaid v. United States, supra at 1224; Heringer v. Commissioner, 235 F.2d at 152- 414 153; 4Ketteman Trust v. Commissioner, 86 T.C. at 104.154 There is nothing in that formula that would justify a discount for two 25-percent undivided interests in the leased property. Petitioner never transferred 25-percent fractional interests in the leased property. His sons never received or owned 25-percent undivided interests in the leased property. Indeed, no such fractionalized interests ever existed. After the transfer, the partnership held the same property interest that petitioner held before the transfer; there was no fractionalization of ownership; and the partnership could have sold the leased property for the same fair market value that petitioner could have realized. Nevertheless, the majority values the leased property by giving a discount for hypothetical fractional interests that never existed. On this point, the majority is in error.155 VASQUEZ and MARVEL, JJ., agree with this concurring in part and dissenting in part opinion.* * * * BEGHE, J., concurring in part and dissenting in part: I concur in the majority's conclusion that, in computing the value of the gifts, the donor is not entitled to entity level discounts; I dissent from the majority's conclusion that petitioner's transfer of the leased land should be valued as separate indirect transfers to his sons of individual 25-percent interests, rather than as a unitary transfer to the partnership. 1156 With all the woofing these days about using family partnerships to generate big discounts, the majority opinion provides 415 salutary reminders that the "gift is measured by the value of the property passing from the donor, rather than by the property received by the donee or upon the measure of enrichment of the donee", majority op. pp. 11-12, and that "How petitioner's transfers of the leased land and bank stock may have enhanced the sons' partnership interests is immaterial, for the gift tax is imposed on the value of what the donor transfers, not what the donee receives", majority op. p. 16 (citing section 25.2511-2(a), Gift Tax Regs., Robinette v. Helvering, 318 U.S. 184">318 U.S. 184, 186, 87 L. Ed. 700">87 L. Ed. 700, 63 S. Ct. 540">63 S. Ct. 540 (1943), and other cases therein); see also sec. 25.2512-8, Gift Tax Regs.This is the "estate depletion" theory of the gift tax 2, given its most cogent expression by the Supreme Court in Commissioner v. Wemyss, 324 U.S. 303">324 U.S. 303, 307-308, 89 L. Ed. 958">89 L. Ed. 958, 65 S. Ct. 652">65 S. Ct. 652 (1945):157 The section taxing as gifts transfers that are not made for "adequate and full [money] consideration" aims to reach those transfers that are withdrawn from the donor's estate. To allow detriment to the donee to satisfy the requirement of "adequate and full consideration" would violate the purpose of the statute and open wide the door for evasion of the gift tax. See 2 Paul, supra [Federal Estate and Gift Taxation (1942)] at 1114. 3158 The logic and the sense of the estate depletion theory require that a donor's simultaneous or contemporaneous gifts to or for the objects of his bounty be unitized for the purpose of valuing the transfers under section 2511(a). After all, the gift tax was enacted to protect the estate tax, and the two taxes are to be construed in pari materia. See Merrill v. Fahs, 324 U.S. 308">324 U.S. 308, 313, 89 L. Ed. 963">89 L. Ed. 963, 65 S. Ct. 655">65 S. Ct. 655 (1945). The estate and gift taxes are different from an inheritance tax, which focuses on what the individual donee-beneficiaries receive; the estate and gift taxes are taxes whose base is measured by the value of what passes from the transferor.I would hold, contrary to the majority and the approach of Estate of Bosca v. Commissioner, 416 T.C. Memo 1998-251">T.C. Memo 1998-251, 4 that the gross value of what petitioner transferred in the case at hand is to be measured by including the value of his entire interest in the leased land. 5 I would then value the net gifts by subtracting from the gross value so arrived at the value, at the end of the figurative day, of the partnership interest that petitioner received back and retained, sec. 2512(b), 6 not 50 percent of the value of the leased land159 that he transferred to the partnership.160 * * * * FOLEY, J., dissenting: The majority relies on Kincaid v. United States, 682 F.2d 1220">682 F.2d 1220, 1226 (5th Cir. 1982), where the court held that Mrs. Kincaid made a gift through an "unequal exchange [that] served to enhance the value of her sons' voting stock". The opinion, however, states: "Nor do we agree with petitioner's contention that his transfers should be characterized as enhancements of his sons' existent partnership 417 interests." Majority op. p. 16. The holding in this case is premised on Kincaid. The majority opinion, however, rejects petitioner's contention, which is the essence of the Kincaid holding, and fails to explain why the result in this case should be different from that in Kincaid. Accordingly, I respectfully dissent. Footnotes1. The record does not specify when petitioner first became president of the banks.↩2. Bowater, Inc., is the successor in interest to the rights of Hiwassee Land Co. (Hiwassee) under the lease on the subject property. References to Hiwassee hereinafter also include references to Bowater, Inc., as successor in interest.↩3. Hiwassee paid rents under the lease as follows: Year Amount Year Amount ____ ______ ____ _______ 1957 $ 16,199.25 1977 $ 31,475.61 1958 15,902.25 1978 34,907.40 1959 17,901.39 1979 37,613.40 1960 16,886.94 1980 42,188.43 1961 16,877.64 1981 48,125.39 1962 16,877.64 1982 52,299.54 1963 16,877.64 1983 52,299.54 1964 16,877.64 1984 52,299.54 1965 16,877.64 1985 55,344.37 1966 16,874.44 1986 55,344.37 1967 17,947.41 1987 55,344.37 1968 17,947.41 1988 55,344.37 1969 17,947.41 1989 55,344.37 1970 19,119.86 1990 59,911.63 1971 19,119.86 1991 59,911.63 1972 20,472.68 1992 59,911.63 1973 20,472.68 1993 59,911.63 1974 24,350.76 1994 63,493.79 1975 28,769.97 1995 62,858.88 1976 31,475.61↩4. The lease states that "It is understood" that approximately three-quarters of the mineral rights are held by parties other than the lessors.↩5. The deeds conveying the two 25-percent interests in the land show that the land was conveyed by petitioner and his wife. Petitioner's wife, however, owned no record title or interest in the property. Her only interests were spousal rights and benefits created under Alabama State law. The parties have stipulated that in Alabama real estate transactions, it is customary for the owner's spouse to sign all documents to eliminate questions regarding retention of dower or other spousal benefits or rights.↩6. Again, as far as is revealed in the record, petitioner's wife owned no record title or interest in the leased land but signed the deeds as a formality to eliminate any question as to spousal benefits under Alabama law.↩7. Petitioner testified that he did not know what percentage of his stock in the three banks he transferred to the partnership in 1991 but that after the transfers he still owned a greater than 50- percent interest in each bank.↩8. Moreover, respondent has not argued and we do not consider the applicability of chapter 14 (secs. 2701-2704), relating to special valuation rules that apply to, among other things, transfers of certain interests in partnerships and certain lapsing rights and restrictions.↩9. The Alabama Recording Act, Ala. Code sec. 35-4-90(a) (1991), generally provides that the conveyance of land is void as to the grantee unless the deed transferring the land is recorded. Here, the deeds conveying the land to the partnership were not recorded until Aug. 30, 1991. Neither party has raised, and we do not reach, the issue of whether petitioner's gifts were not completed until the date of recordation. Cf. Estate of Whitt v. Commissioner, 751 F.2d 1548">751 F.2d 1548, 1561 (11th Cir. 1985) (facts indicated that gifts were not intended to be completed until the recordation of the deeds of conveyance), affg. T.C. Memo 1983-262">T.C. Memo 1983-262↩. It is of little consequence to our analysis, however, whether petitioner's gifts of interests in the leased land were completed on Aug. 2 or Aug. 30, 1991.10. Indeed, in a closely analogous context, the Supreme Court has held that the constitutionality of the Federal estate tax does not depend upon there even being a transfer of the property at death. SeeFernandez v. Wiener, 326 U.S. 340">326 U.S. 340, 355, 90 L. Ed. 116">90 L. Ed. 116, 66 S. Ct. 178">66 S. Ct. 178↩ (1945); Bittker & Lokken, Federal Taxation of Income, Estates and Gifts, par. 120.1.3, at 120-6 (2d ed. 1993) (the transfer of property at death is "a sufficient condition -- but not a necessary one -- for a constitutional tax. By holding that a tax on a transfer at death is not a direct tax, the Court did not imply that a tax on something other than a transfer at death is a direct tax").11. We do not suggest, and respondent has not argued, that such an analysis necessarily entails disregarding the partnership. Similarly, in Kincaid v. United States, 682 F.2d 1220">682 F.2d 1220 (5th Cir. 1982), and in the other cases cited supra treating gifts to corporations as indirect gifts to the other shareholders, the courts did not necessarily disregard the donee corporations. In either case, characterizing the subject gift as comprising proportional indirect gifts to the other partners or shareholders, as the case may be, rather than as a single gift to the entity of which the donor is part owner, reflects the exigency that the donor cannot make a gift to himself or herself. Seeid. at 1224↩ ("Mrs. Kincaid cannot, of course, make a gift to herself").12. Under a sales comparison approach, property is valued by identifying sales of comparable properties and making appropriate adjustments to the sales prices.↩13. Under an income capitalization approach, income-producing property is valued by estimating the present value of anticipated future economic benefits; i.e., cash flows and reversions.↩14. Mr. Gene Dilmore (Dilmore) determined that increases in the Producer Price Index (PPI) averaged 1.41 percent over the 10 years prior to petitioner's gifts.↩15. We defined the "investment differential method" as a "method of valuation frequently used by appraisers to compare one potential investment to the whole spectrum of other investment opportunities available to a client." Estate of Proctor v. Commissioner, T.C. Memo 1994-208">T.C. Memo 1994-208↩.16. In his rebuttal report, Maloy cites the above-cited treatise for the different proposition that present value analysis is properly applied using before-tax income streams. Maloy has provided no page reference for his interpretation of the treatise, and we conclude that his reliance on the treatise is in error.↩17. Dilmore testified that in this case he had used a before- tax analysis to determine the present value of the lease income stream, but "you could do it either way."↩18. In his rebuttal report filed before trial, Maloy contends that Lipscomb inconsistently used an 8-percent pretax discount rate against after-tax income. Although Lipscomb's expert report is not explicit in this regard, it is clear from Lipscomb's testimony that his income capitalization method was an after-tax method, entailing use of an after-tax discount rate.↩19. Maloy's report indicates that, on the basis of his research, yield rates associated with investments like the subject lease range from 6 to 8 percent, with the lower yields more likely associated with investors who are tax-exempt. Maloy selects an 8- percent rate associated with taxable investors. Moreover, an 8- percent rate is approximately 33 percent higher than the 6-percent rate that he associates with tax-exempt investors, implying a 33- percent tax rate, which coincides roughly with the 35-percent tax rate that Lipscomb assumes in his analysis.↩20. Alternatively, where the value of the transferred property is to be determined with adjustments for lack of marketability, it could be appropriate in some circumstances to value the donor's entire interest in the transferred property employing a discount rate that reflects no adjustment for lack of marketability, and then to adjust the value so determined for lack of marketability with appropriate valuation discounts. As discussed infra, however, it is inappropriate to make redundant adjustments to both the discount rate and the valuation discount. See Bittker & Lokken, Federal Taxation of Income, Estates, and Gifts, par. 135.3.2, at 135-30 (2d ed. 1993) ("When property is valued by capitalizing its anticipated net earnings, no marketability discount is needed if the capitalization factor reflects not only the earnings in isolation, but also the fact that the investor may find it difficult to liquidate the investment.").↩21. We reject Dilmore's additional 1-percent discount for the lack of a reforestation clause at the end of the lease. As discussed infra, respondent has allowed, and we have accepted, an allowance for reforestation in determining the value of the reversion, thus making Dilmore's additional 1-percent discount for this purpose unnecessary.↩22. On brief, petitioner alleges that to arrive at the $ 4,127,687 value for the reversion of the leased land, Lipscomb applied a growth rate of 4 percent to comparable 1991 values. The parts of the record that petitioner's brief cites in support of this proposition, however, do not yield this information, nor have we discovered it elsewhere in the record. Statements in briefs do not constitute evidence. SeeRule 143(b). Even if we were to assume arguendo that petitioner's representation about Lipscomb's derivation of the reversion value were accurate, the record is inadequate to allow us to identify with certainty the comparables Lipscomb used for this purpose or to meaningfully evaluate the appropriateness of either the comparables or the assumed growth rate that petitioner alleges Lipscomb employed in his analysis.If we were to assume arguendo that the comparables in question were the same comparables Lipscomb used in his sales comparison approach, the facts disclosed in his report and testimony are inadequate to persuade us that those comparables were determined appropriately. As previously discussed, using the sales comparison approach, Lipscomb determined that petitioner's interest in the leased land had a 1991 fair market value of $ 958,473. Lipscomb derived this number by applying a 45-percent marketability discount to what he deemed to be comparable sales. Lipscomb testified that he determined the 45-percent discount based on analysis of sales of other leased properties, which showed a range of discounts from 30 percent to "almost 100 percent". The record does not reveal how Lipscomb chose the 45-percent discount from this wide range. Moreover, the data underlying his analysis of these other sales are not part of the record. Accordingly, we are unable to assess or accept the appropriateness of the 45-percent discount that Lipscomb applied.↩23. Maloy's assumption of a 5-percent growth rate is based on his determination that timberland in general would benefit from increased timber prices, Federal programs, and the leasing of hunting rights.↩24. Maloy estimates replanting costs in 2023 by determining an estimated $ 150 per acre replanting cost in 1990 and then adjusting this number upward to reflect an estimated annual inflation rate of 1.87 percent.↩25. Petitioner's own witness, Charles Irwin, testified that in 1991 it probably would have cost $ 75-$ 80 per acre to prepare the land for planting if it lay fallow for under 1 year, and $ 50-$ 55 per acre to plant the land, resulting in a total cost of $ 125-$ 135 per acre. Thus, Maloy's replanting estimate is actually greater than Irwin's. Irwin does claim that the costs to prepare the land could "probably double" if the fallow period was 4 or 5 years. It seems unlikely, however, that the lessee under a long-term timber lease would allow the land to lie fallow for a number of years before the end of the lease, rather than managing timber harvesting to maximize the timber's growth potential for the full duration of the lease.↩26. On brief, petitioner -- agreeing wholly with none of his several experts, but instead relying selectively on discrete aspects of their several reports -- urges that the 1991 value of the reversion was only $ 30,024. In defense of this small number, petitioner argues that "no one in their right mind is going to pay anything in 1991 for a residual interest in the year 2023". Petitioner argues, among other things, that there may be a reduced market for timber, because we may have a paperless society by 2023. Maybe sooner, judging by the size of the record in this case. Nevertheless, we are unpersuaded that a future fee interest in more than 9,000 acres of Alabama timberland has little or no value.↩27. Lipscomb determined the 27-percent discount rate by analyzing sales of what he deemed to be similar properties, which indicated a range of adjustments from 25 percent to 100 percent.↩28. On brief, petitioner argues that because Lipscomb (and by extension Dilmore) selected valuation discounts based upon a 50- percent undivided interest in the leased land, as opposed to a 25- percent undivided interest, their recommended valuation discounts are understated. Petitioner also argues that various other cases have allowed fractional-interest discounts greater than those recommended by petitioner's own experts. We must determine the applicable valuation discount on the basis of the facts in the record before us. Here, petitioner has presented no concrete, convincing evidence as to what additional amount of discount, if any, should be attributable to a 25-percent undivided interest as opposed to a 50-percent undivided interest.↩1. Sec. 25.2511-2(a), Gift Tax Regs.: SEC. 25.2511-2. Cessation of donor's dominion and control. (a) The gift tax is not imposed upon the receipt of the property by the donee, nor is it necessarily determined by the measure of enrichment resulting to the donee from the transfer, nor is it conditioned upon ability to identify the donee at the time of the transfer. On the contrary, the tax is a primary and personal liability of the donor, is an excise upon his act of making the transfer, is measured by the value of the property passing from the donor, and attaches regardless of the fact that the identity of the donee may not then be known or ascertainable.See, e.g., Lowndes et al., Federal Estate and Gift Taxes 356 (1974); Solomon et al., Federal Taxation of Estates, Trusts and Gifts 191 (1989).2 See also Robinette v. Helvering, 318 U.S. 184">318 U.S. 184, 87 L. Ed. 700">87 L. Ed. 700, 63 S. Ct. 540">63 S. Ct. 540↩ (1943), in which the taxpayer argued that there could be no gift of a remainder interest where the putative remaindermen (prospective unborn children of the grantor) did not exist at the time of the transfer. The Supreme Court rejected this argument stating that the gift tax is a primary and personal liability of the donor measured by the value of the property passing from the donor and attaches regardless of the fact that the identity of the donee may not be presently known or ascertainable.3. Sec. 2503(b) provides in part: SEC. 2503(b). Exclusions From Gifts. -- In the case of gifts (other than gifts of future interests in property) made to any person by the donor during the calendar year, the first $ 10,000 of such gifts to such person shall not, for purposes of subsection (a), be included in the total amount of gifts made during such year. * * *↩4. In Heringer v. Commissioner, 235 F.2d 149">235 F.2d 149 (9th Cir. 1956), the taxpayers held a 40-percent interest in the corporation to which they transferred property. The taxpayers argued that any gift should not exceed 60-percent of the value of the transferred property because the taxpayers' 40-percent stock interest was increased proportionately by the transfer and that such increase was analogous to receipt of consideration. The Court of Appeals agreed citing sec. 1002, 1939 I.R.C., which contains the same language as the current version of sec. 2512(b). See id. at 152-153↩.1. Although the majority describe the gifts as "undivided 25- percent interests in the leased land", majority op. p. 22, the 15- percent discounts allowed by the majority in valuing those interests amount to no more than the discount petitioner's experts attributed to the transfer of a 50-percent interest. This is because petitioner's experts "presented no concrete, convincing evidence as to what additional amount of discount, if any, should be attributable to a 25-percent undivided interest as opposed to a 50-percent undivided interest". Majority op. note 28. For an example of an agreement by the parties as to the difference in value between a transfer of a 50-percent block and two 25-percent blocks of the stock of a closely held corporation, see Estate of Bosca v. Commissioner, T.C. Memo 1998-251">T.C. Memo 1998-251↩.3. The Paul treatise, cited twice with approval in Commissioner v. Wemyss, 324 U.S. 303">324 U.S. 303, 308, 89 L. Ed. 958">89 L. Ed. 958, 65 S. Ct. 652">65 S. Ct. 652 (1948), put it this way: It is Congress's intention to reach donative transfers which diminish the taxpayer's estate. The existence of "an adequate and full consideration in money or money's worth" which is not received by the taxpayer has that very same effect. Since the section is aimed essentially at "colorable family contracts and similar undertakings made as a cloak to cover gifts," it is fair to assume that Congress intended to exempt transfers only to the extent that the taxpayer's estate is simultaneously replenished. The consideration may thus augment his estate, give him a new right or privilege, or discharge him from liability. [2 Paul, Federal Estate and Gift Taxation, 1114-1115 (1942); citations omitted.]↩4. Contrary also to the Commissioner's concession, in Rev. Rul. 93-12, 1 C.B. 202">1993-1 C.B. 202, that a donor's simultaneous equal gifts aggregating 100 percent of the stock of his wholly owned corporation to his five children are to be valued for gift tax purposes without regard to the donor's control and the family relationship of the donees. The ruling is wrong because it focuses on what was received by the individual donees; what is important is that the donor has divested himself of control. The cases relied upon by the ruling -- Estate of Bright v. United States, 658 F.2d 999">658 F.2d 999 (5th Cir. 1981); Propstra v. United States, 680 F.2d 1248">680 F.2d 1248 (9th Cir. 1982); Estate of Andrews v. Commissioner, 79 T.C. 938">79 T.C. 938 (1982); Estate of Lee v. Commissioner, 69 T.C. 860">69 T.C. 860↩ (1978) -- address an arguably different question: whether for estate tax purposes a decedent's transfer at death of interests in real property or shares of a family corporation should be valued by aggregating them with interests in the same property or shares already held by the decedent's spouse or siblings.5. I acknowledge that my sense of the logic of the estate depletion theory would require unitization of a donor's same day gifts of the stock of the same corporation in determining the significance of parting with but not conveying control, contrary to Estate of Heppenstall v. Commissioner, a Memorandum Opinion of this Court dated Jan. 31, 1949, and arguably contrary to cases that segregate same day gifts for blockage discount purposes, see, e.g., Rushton v. Commissioner, 498 F.2d 88">498 F.2d 88 (5th Cir. 1974), affg. 60 T.C. 272">60 T.C. 272 (1973); Calder v. Commissioner, 85 T.C. 713">85 T.C. 713 (1985), which may be attributed to the presence of a specifically targeted regulation. In any event, my sense of what the estate depletion theory implies for gift tax purposes is consistent with and supported by the rule that unitizes a block of shares held at death to determine the value at which they are included in the gross estate, notwithstanding that they may be bequeathed to more than one beneficiary. See, e.g., Ahmanson Found. v. United States, 674 F.2d 761">674 F.2d 761, 768 (9th Cir. 1981); Estate of Chenoweth v. Commissioner, 88 T.C. 1577">88 T.C. 1577, 1582↩ (1987).6. I see no problem in harmonizing the above-suggested approach with the considerations that apply in determining whether a gift qualifies as a present interest rather than future interest for the purpose of the annual exclusion under sec. 2503(b). The annual exclusion inquiry necessarily focuses on the quality and quantity of the donee's interest. See Stinson Estate v. United States, 214 F.3d 846">214 F.3d 846 (7th Cir. 2000); sec. 25.2503-3, Gift Tax Regs.; see also Helvering v. Hutchings, 312 U.S. 393">312 U.S. 393, 85 L. Ed. 909">85 L. Ed. 909, 61 S. Ct. 653">61 S. Ct. 653 (1941); Estate of Cristofani v. Commissioner, 97 T.C. 74">97 T.C. 74 (1991). Analogous considerations apply in computing the value of bequests entitled to the estate tax charitable or marital deduction. See, e.g., Ahmanson Found. v. United States, supra; Estate of Chenoweth v. Commissioner, supra.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621893/	Chamber of Commerce of Kansas City, Kansas, Petitioner, v. Commissioner of Internal Revenue, RespondentChamber of Commerce v. CommissionerDocket No. 71897United States Tax Court35 T.C. 562; 1961 U.S. Tax Ct. LEXIS 251; January 13, 1961, Filed 251 Decision will be entered for the respondent. Petitioner, an organization exempt from tax under section 101(7), I.R.C. 1939, leased its building to Pyramid. The lease itself was for a term of 46 months and gave the lessee the right to make any improvements it chose. Under an "Escape and Penalty Clause Agreement" executed 3 days after the lease, the lessee could ask for a 59-month renewal at the end of the original lease and if the lessor refused, lessor thereby became obligated to pay for all the lessee's improvements at 100 per cent of their original cost. The lessee intended to and did make extensive improvements immediately upon entering the premises under the lease. Held: The supplemental agreement was an "option" within the meaning of section 423, I.R.C. 1939, and the renewal period must be considered in determining whether the lease was for more than 5 years. Thus, this was a "supplement U lease" under section 423 and the rentals derived therefrom constituted "unrelated business net income" subject to tax under section 421. Charles W. Lowder, Esq., for the petitioner.William J. McNamara, Esq., for the respondent. Forrester, Judge. FORRESTER562 Respondent has determined a deficiency of $ 956.72 in the income tax of petitioner for the fiscal year ending 563 February 28, 1954, by taxing certain rent as "unrelated business net income." The parties are agreed that the sole issue for our determination is whether a so-called Escape and Penalty Clause253 Agreement executed 3 days after the lease constituted an option for renewal or extension within the terms of section 423, I.R.C. 1939.FINDINGS OF FACT.Some of the facts have been stipulated and are so found.Petitioner, an organization exempt from taxation under section 101(7), 1 is a corporation organized in 1918 under the laws of Kansas. It filed a nontaxable return (Form 990) for the fiscal year ended February 28, 1954, with the director of internal revenue for the district of Kansas at Wichita, Kansas.Petitioner owns a building in Kansas City, Kansas, which prior to November 1952 housed its offices. On November 1, 1952, petitioner entered into an agreement with the Pyramid Life Insurance Company (Pyramid) under the terms of which it leased this building to Pyramid for the 46-month period November 1, 1952, through August 31, 1956, at a rental of $ 1,450 per month. Under paragraph 3 of this lease Pyramid agreed to keep 254 the premises in good repair and to return the premises including all improvements to petitioner at the termination of the lease. Under paragraph 11 Pyramid could make any alterations, improvements, and repairs to the premises which it felt necessary, subject only to the requirement that they be "in good taste and in compliance to the Building Code of the City of Kansas City, Kansas."Three days after making this lease petitioner entered into three separate supplemental agreements with Pyramid, each referring to the lease and each styled "Escape and Penalty Clause Agreement." The pertinent provisions of the first of these agreements follow:IT IS COVENANT [sic] AND AGREED BY THE SAID CHAMBER AND THE SAID CORPORATION AS FOLLOWS:1. If said Corporation shall, thirty days prior to the termination of said lease on the 31st day of August, 1956, request and ask the Chamber for a new lease of said premises under the same terms and conditions of the then existing lease, and the Chamber shall fail or refuse to enter into a lease agreement for fifty-nine (59) months with said Corporation, which proposed lease terminates on the 31st day of July, 1961, then and in that event within thirty 255 days after the 31st day of August, 1956, the Chamber shall refund and pay to the Corporation one hundred percent of the costs of all capital improvements and moneys expended by said Corporation upon said building and premises.2. In the event that the Corporation does not request and ask the Chamber for a new lease as provided for in Paragraph No. 1, then said Corporation shall not be entitled to any of the refunds provided for in Paragraph No. 1 and all of 564 the capital improvements shall become the property of the Chamber and no refunds for any repairs, improvements or capital improvements shall be payable by the Chamber to the Corporation.The second and third of these agreements are identical with the first except that in paragraph 1 they provide for renewals to June 30, 1966, and May 31, 1971, respectively, and require petitioner to pay 80 per cent and 60 per cent, respectively, of the cost of improvements and moneys expended.At the time the lease and supplemental agreements were consummated, the parties understood that Pyramid intended to make extensive improvements to the premises, and as soon as Pyramid commenced occupancy of the premises it embarked upon an extensive256 improvement program. Within 3 or 4 months it had made numerous improvements and alterations to the building, including rewiring, air conditioning, repainting, lowering the ceilings, and installing heat ducts, all at a cost of approximately $ 86,400.It is stipulated that on February 28, 1954, petitioner had supplement U lease indebtedness, within the meaning of section 423, I.R.C. 1939, with respect to the building leased to Pyramid.OPINION.The parties are agreed that if the so-called Escape and Penalty Clause Agreements amount to an option for renewal or extension of the lease in issue, within the meaning of section 423, that said lease is for a term of more than 5 years, and is a "supplement U lease" as defined by said section, and the net income earned upon it is "unrelated business net income" and so taxable to petitioner.Respondent argues that each Escape and Penalty Clause Agreement constituted an "option" within the meaning of section 423 and that the renewal periods must therefore be added to the original period. We need consider only the first of said agreements of November 4, 1952, since its term, when added to the term of the lease, is more than 5 years.Petitioner257 maintains a contrary position on the sole and simple ground, as we view it, that the word "option" is nowhere used in the agreement. We feel that the mere statement of such a contention demonstrates its obvious weakness.The principal officer of Pyramid testified that his company never had intention of removing at the end of 46 months, had the right to ask for a renewal of the lease and always intended to ask for such renewal. There was no evidence that petitioner had any other understanding. There is no apparent need to encumber this opinion with lengthy hair-splitting definitions of "option." We simply observe that Pyramid spent over $ 86,000 on improvements contemplated by 565 both parties prior to the lease, and abandonment of these at the end of 46 months would increase its total rental costs for that period by more than 100 per cent and to approximately $ 153,000. It is thus unrealistic to argue that Pyramid did not always plan to seek a 59-month renewal of the terms of the original lease. It thus could, and always intended to, force petitioner to exercise its choice one way or the other. In any event, Pyramid had the election to abandon or seek to renew, and if 258 it chose the latter course it could at least hold petitioner liable for 100 per cent of the cost of improvements and moneys expended on the property.Viewing the coin from the other side, petitioner, when put to its choice, as it obviously would be, could elect to renew the lease for 59 months or pay Pyramid 100 per cent of the cost of improvements, etc., and it is axiomatic that the choice of extending or renewing a lease is an option, whether it reside in lessor or lessee. 2 Underhill, Landlord and Tenant, sec. 817-818 (1909); Sylvan Mortgage Co. v. Astruck, 199 N.Y.S. 438">199 N.Y.S. 438 (1923). See also 51 C.J.S., Landlord and Tenant, sec. 58(a), p. 601. Webster's New International Dictionary (2d ed.) defines "option" broadly as: "A stipulated privilege, given to a party, in a time contract * ." Also cf. Eimer & Amend, 2 B.T.A. 603 (1925).Thus, construing the lease together with the agreements referable to it in light of the obvious intent of the parties, the sum and substance is that petitioner had an "option" to renew within the meaning of section 423, no matter what shade of definition we place upon that term. While research259 has disclosed no cases yet dealing with said section, it is clear that its fundamental purpose is to prevent tax-exempt organizations from "trading on their tax exemption" so as to be able to offer long-term leases on better terms than could be offered by taxable organizations. H. Rept. No. 2319, 81st Cong., 2d Sess., pp. 38-39. It is hard to imagine a more obvious device to circumvent that purpose than the series of agreements here at issue. Indeed, the right of choice, residing as it does here in the lessor, the exempt organization, would seem to be even more clearly within the "option" concept of section 423 than would such a right in the lessee, for here it is the exempt organization itself which can guarantee to itself a lease for a period greater than 5 years, thereby obtaining the very advantage which Congress sought to prevent an exempt organization from acquiring.We refuse to allow petitioner to avoid the provisions of section 423, requiring that an option be considered along with the original period of the lease, by the simple expediency of attaching another label to the option.Decision will be entered for the respondent. Footnotes1. Unless otherwise noted, all Code references are to the Internal Revenue Code of 1939.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621894/	James D. Allen v. Commissioner.Allen v. CommissionerDocket No. 337-67.United States Tax CourtT.C. Memo 1968-218; 1968 Tax Ct. Memo LEXIS 83; 27 T.C.M. (CCH) 1082; T.C.M. (RIA) 68218; September 26, 1968. Filed James D. Allen, pro se, Route 9, Maryville, Tenn. Martin R. Nathan, for the respondent. TIETJENSMemorandum Findings of Fact and Opinion TIETJENS, Judge: The Commissioner determined a deficiency in petitioner's income tax for the taxable year 1962 in the amount of $980.35. The only question for our determination is whether petitioner qualifies as a bona fide resident of a foreign country so as to make the tax exemption provisions of section 911(a)(1), I.R.C. 1954, 1 applicable. Findings of Fact Some of the facts have been stipulated and the stipulations and exhibits attached thereto are incorporated84 herein by this reference. The petitioner, James D. Allen and his wife, Anna Elizabeth Allen, 2 filed a joint Federal income tax return for the taxable year 1962 with the director of international operations, internal revenue service in Washington, D.C. At the time of filing the petition, petitioner resided in Maryville, Tennessee. Petitioner was employed by Pan American World Airways, Guided Missiles Range Division (hereinafter referred to as Pan American), as an electrician to work at the Grand Bahamas Auxiliary Air Force Base, a missile tracking station, located on Grand Bahama Island. He commenced his employment on April 4, 1960 and was employed by Pan American at the Grand Bahama Island site during the period of his employment here involved. He was subject to the contracts entered into by Pan 1083 American and the treaties entered into by the United States of America. At the time the petitioner commenced his employment with Pan American, there was no agreement as to the length of time that he would remain overseas. Petitioner's employment85 with Pan American terminated on February 28, 1963. Prior to 1950, the government of the United States of America established at Cape Canaveral (now renamed Cape Kennedy), Florida, a site for the development of a long-range missile program. The responsibility for the program devolved upon the United States Air Force. Numerous down-range missile tracking and supporting stations were to be constructed and developed. On July 21, 1950, an "Agreement and Exchange of Notes" between the United States of America and the United Kingdom of Great Britain and Northern Ireland was entered into and signed at Washington, D.C., providing for the establishment and maintenance on the Bahama Islands of a guided missile testing range site to be known as "The Bahamas Long Range Proving Ground." The agreement, provided to be effective for a minimum of 25 years, was the primary and basic agreement governing the use by the United States of the various Bahama Islands, including Grand Bahama Island, in the pursuit of the downrange guided missile testing program. The 1950 Bahamas agreement providing for the establishment and maintenance of guided missile tracking stations on the Bahama Islands provided, 86 inter alia; that the United States would have the right within the range area to launch and fly guided missiles; to establish, maintain and use instrumentation and communications systems, including radar, radio, land lines and submarine cables for operational purposes in connection with the flight testing range; and, to operate such vessels and aircraft as may be necessary for purposes connected directly with the flight testing range. The 1950 Bahamas agreement further provided that "Access to the Sites shall not be permitted to persons not officially connected with the Bahamas Long Range Proving Ground * " except by the joint consent of the senior British and American representatives, and that "The immigration laws of the Bahama Islands shall not operate or apply so as to prevent admission into the Bahama Islands, for the purposes of this Agreement, of any member of the United States Forces posted to a Site or any person * * employed, by or under a contract with, the Government of the United States of America in connection with the establishment, maintenance, or use of the Flight Testing Range; * * ." The 1950 Bahamas agreement further provided that "No member of the United87 States Forces or national of the United States, serving or employed in the Bahama Islands in connection with the establishment, maintenance or use of the Flight Testing Range, and residing in the Bahama Islands by reason only of such employment, or his wife or minor children * * * would be liable to the government of the Bahama Islands for income tax (except in respect to income derived from the Bahama Islands), poll tax or similar tax on his person, import, excise, consumption or other tax, duties or imposts of the Bahama Islands with respect to personal belonging imported by United States citizens or purchased by them at post exchanges or commissary stores at the site. The exemption from taxation privileges were also extended under the terms of the agreement to the contractors and subcontractors of the government of the United States, and included specifically any "income tax * * * in respect of any profits derived under a contract made * * * with the Government of the United States of America in connection with the establishment, maintenance or use of the Flight Testing Range * * ." Article VII of the 1950 Bahamas agreement, entitled "Arrest and Services of Process," provides, 88 in part, as follows: (1) No arrest of a person who is a member of the United States Forces or who is a national of the United States subject to United States miliary [sic] law shall be made and no process, civil or criminal, shall be served on any such person within any Site except with the permission of the Commanding Officer in charge of the United States Forces in such Site; * * . This agreement further provides for almost total jurisdiction of the United States on its sites in the Bahamas. In 1953 the United States Air Force entered into a cost-plus-fixed-fee contract, numbered AF 18(600)-881, with Pan American, under which Pan American undertook to furnish the services, personnel and material necessary for the management, operation and maintenance, under the 1084 direction of the Air Force, of the missile test range facilities installed by the Air Force on the various bases at Cape Canaveral (now Cape Kennedy), Patrick Air Force Base, Florida, and various downrange sites, including that located on Grand Bahama Island. A similar contract between the Air Force and Pan American was in effect during the years here involved. Pan American was responsible for the operation89 and management of the missile stations, including maintaining facilities and equipment and planning and conducting range test operations. The presence of Pan American as contractor for the government of the United States, and of its employees, on the downrange missile tracking site was subject to the provisions of the 1950 Bahamas agreement entered into between the government of the United States and that of Great Britain. Petitioner's employment with Pan American was for work in the Guided Missiles Range Division of the company and in connection with the performance of his duties, he was subject to all requirements of the contract between the United States of America and the company, at such places and for such time as the company would determine. Pan American was responsible for the housing, feeding, maintenance, supply, health, medical, recreation and assignment of personnel at the base on Grand Bahama Island. Food, prepared and served by Pan American cooks, was provided for its employees in cafeteria-style dining halls located on the bases at no cost to the employees. Post exchanges were operated in conjunction with the dining halls for the employees' convenience. Laundry service90 and recreational activities were provided free of charge and a roving barber employed by Pan American was periodically available for haircuts at a small charge. While working on the Bahama Islands, petitioner ate all of his meals on the missile tracking base, and lived on the base in barrack-type quarters provided by Pan American without charge. Each missile tracking base had both a military base commander and a Pan American base manager. Petitioner, as a Pan American employee, was responsible only to the Pan American base manager. Petitioner was subject to United States military law while on the missile tracking site. Each Pan American employee was expected to work any and all hours necessary to accomplish the mission of the missile test range, but during off-work hours they could go and come from the missile tracking base to the island community without restriction. Pan American did not encourage its employees stationed at the downrange missile tracking sites to bring their families to the islands because living conditions were poor. The nearest suitable housing to the Grand Bahamas Island Tracking Base was in Freeport, on Grand Bahama Island, approximately 20 miles from the91 base over rough roads. Petitioner's wife and family did not accompany him to Grand Bahama Island. Rather, petitioner's family resided in Maryville, Tennessee, while he was employed by Pan American. Petitioner was not present in a foreign country for 510 full days within any period of 18 consecutive months, and during the period involved, petitioner was an American citizen. On the joint Federal income tax return filed by petitioner and his wife for the taxable year 1962, the salary ($8,022) petitioner received from Pan American for his services in connection with his employment in the downrange missile program were not reported as income subject to taxation. The Commissioner disputed the tax treatment of petitioner's salary and determined a deficiency accordingly. During the taxable year 1962, petitioner also incurred and paid the following: Drug Expenses$ 169.25Medical Expenses1,238.70Charitable Contributions7.80Interest Expense166.23State Sales Tax121.00Gasoline Tax126.00Automobile License Tax10.00Cigarette Tax52.00State and County Real Estate Tax77.50Ultimate Finding of Fact Petitioner was not a bona fide resident of92 the Bahama Islands during the taxable year 1962 within the meaning of section 911(a) (1) of the Internal Revenue Code of 1954. Opinion The Commissioner contends that the case of Garvis O. Boyd, 46 T.C. 252">46 T.C. 252, following Commissioner v. Matthews, 335 F. 2d 231 (C.A. 5, 1085 1964), controls the issue here. We agree. The facts here pertinent are identical with those in Boyd, and for the reasons set forth in those cases, we find that for the taxable year 1962, petitioner was not a bona fide resident of a foreign country within the meaning of section 911(a) (1). 393 As the Commissioner has conceded that in computing petitioner's 1962 taxable income, he is entitled to deduct 4 the expenses enumerated in the Findings of Fact, Decision will be entered under Rule 50. Footnotes1. All statutory references are to the Internal Revenue Code of 1954.↩2. Anna Elizabeth Allen is not a party to this proceeding as she failed to file a petition to this Court within the statutory period.↩3. SEC. 911. EARNED INCOME FROM SOURCES WITHOUT THE UNITED STATES. (a) General Rule. - The following items shall not be included in gross income and shall be exempt from taxation under this subtitle: (1) Bona fide resident of foreign country. - In the case of an individual citizen of the United States who establishes to the satisfaction of the Secretary or his delegate that he has been a bona fide resident of a foreign country or countries for an uninterrupted period which includes an entire taxable year, amounts received from sources without the United States (except amounts paid by the United States or any agency thereof) which constitute earned income attributable to services performed during such uninterrupted period. The amount excluded under this paragraph for any taxable year shall be computed by applying the special rules contained in subsection (c).↩4. Of course, the medical and drug expense in the amounts of $1,238.70 and $169.25, respectively, are subject to their respective limitations in computing the amount deductible.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621899/	Appeal of HAWKS NURSERY CO.Hawks v. Nursery Co. v CommissionerDocket No. 1469.United States Board of Tax Appeals1 B.T.A. 1207; 1925 BTA LEXIS 2613; May 23, 1925, decided Submitted May 6, 1925. 2613 Charles H. Hawks, Jr., for the taxpayer. W. Frank Gibbs, Esq., for the Commissioner. Before GRAUPNER and TRAMMELL. This is an appeal from a deficiency in the amount of $566.67, income and profits taxes for the calendar year 1920. The sole issue before the Board is the March 1, 1913, value of the land described in the findings. FINDINGS OF FACT. 1. Taxpayer was a New York corporation doing business during the year 1920 in the City of Rochester, New York. 2. In the year 1902 it purchased two acres of land lying without the limits of the City of Rochester, for which it paid the sum of $2,000. This land was acquired for business purposes of the corporation and various structures were erected upon it subsequent to the date of purchase. 3. Subsequent to the acquisition of the property by the taxpayer in 1902, and some time prior to 1909, the corporate limits of Rochester were extended to include the property acquired by the taxpayer, and the surrounding property was subdivided into blocks and lots for sale as city lots. 4. In 1920 the taxpayer sold the real property in question for the sum of $10,423. In its income-tax return filed March 15, 1921, the2614 taxpayer reported the March 1, 1913, value of the buildings to be $2,500 and of the land to be $5,600, or a total of $8,100, and, in the payment of its taxes, paid upon a profit of $2,323. In auditing the return the Commissioner allowed the valuation of $2,500 on the buildings, but disallowed the March 1, 1913, value of $5,600 placed upon the land, on the ground that the evidence as to value which was submitted by the taxpayer was insufficient. The Commissioner took the cost of $2,000 in the year 1902 as the proper value for the land and asserted that a profit of $5,923 had been realized. The deficiency results from the difference between the value of the land allowed by the Commissioner and the March 1, 1913, value claimed by the taxpayer. 5. The fair market value of the land was $5,600 on March 1, 1913. DECISION. The deficiency determined by the Commissioner is disallowed.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621903/	BARDWELL, PRITCHARD & CO. (A PARTNERSHIP COMPOSED OF D. G. BARDWELL, CLUFF PRITCHARD, AND BENTON NEELY), PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Bardwell, Pritchard & Co. v. CommissionerDocket Nos. 36771, 41521.United States Board of Tax Appeals20 B.T.A. 350; 1930 BTA LEXIS 2147; July 28, 1930, Promulgated 2147 The petitioner was a common-law partnership during the years 1923 and 1924, and as such it is not liable to taxation as a corporation nor as an association taxable as a corporation. Nelson E. Taylor, Esq., for the petitioner. R. W. Wilson, Esq., for the respondent. LOVE350 These are proceedings for the redetermination of deficiencies in income taxes for the years 1923 and 1924 in the amounts of $777.66 and $808.29, respectively. The petition alleges error in respondent's determination that for the year 1923 Bardwell, Pritchard & Co. was an association taxable as a corporation, rather than a nontaxable partnership, and for the year 1924 in determining that the partnership was taxable as a corporation. FINDINGS OF FACT. In January, 1921, D. G. Bardwell and Cluff Pritchard, residents of Charleston, Miss., formed a partnership under the firm name of Bardwell & Pritchard, to engage in the feed and grain business at Charleston. The formation of this partnership resulted from a conference between Bardwell and Pritchard in which Bardwell, who was a practicing physician, proprietor of a drug store and interested in other business enterprises, 2148 assured Pritchard, who was at that time in search of employment, that if he could locate a position or create some type of employment for himself, he, Bardwell, would render such assistance as he could to promote Pritchard's success. Shortly after this conference Pritchard informed Bardwell that E. E. Eddington, proprietor of a feed store in Charleston, desired to sell out his business. Bardwell and Pritchard Agreed to form 351 a partnership and buy out Eddington, Bardwell to furnish the entire purchase price and to take Pritchard's note for one-half the amount. The business was purchased and Pritchard assumed its operation. Under his management the business increased and it became necessary to either hire help or take in another partner. Eddington expressed a desire to reenter the business and some time in 1921 he purchased a one-third interest and became a partner. Later in 1921, or early in 1922, I. F. Sayle, proprietor of an ice business at Charleston, became a member of the partnership, acquiring a one-fourth interest, for which he paid in his business equipment, receiving in addition to his partnership interest a cash adjustment representing the amount by which2149 the value of his equipment exceeded the value of the partnership interest he acquired. The acquisition of the ice business enabled the partnership to compete with another firm engaged in a similar business at Charleston. Sometime during 1921 the name of the partnership was changed to Bardwell, Pritchard & Co., and its business was expanded to include groceries, coal, hardware and general merchandise. Each of the four partners, while he was a partner, held an interest equal to that of each of the other partners and each had an equal voice in the management of partnership affairs. Although Bardwell did not devote his entire time to the business, as did the other partners, he was usually consulted in matters of importance, especially those involving large purchases of feed, grain, etc. By agreement among the partners Bardwell drew a salary of $25 per month and each of the other partners drew a salary of $75 per month. Profits were credited periodically in equal amounts to each partner and by agreement were retained for use in the business. The original partnership agreement between Bardwell and Pritchard, as well as the agreements incident to the admission of Eddington and2150 Sayle to the partnership, were entirely oral. It was understood from the beginning that partnership changes could be made only with the agreement of all the partners and all changes have been made according to this agreement. The credit of the concern was always entirely dependent upon the personal credit of Bardwell, who was the only partner of substantial financial worth. Bank loans, etc., while made upon joint notes of all the partners, were granted upon the credit of Bardwell, and wholesalers dealing with the firm also looked to him for security for payment of their accounts. In 1922 Bardwell, Pritchard and Sayle became dissatisfied with Eddington as a partner. Bardwell felt that he no longer desired to continue the then existing partnership and assume responsibility for its financial commitments and liabilities. The partners therefore decided to organize a corporation and transfer the partnership business 352 to it. An attorney was employed to file the necessary application for incorporation. In May or June, 1923, a charter was secured under the name of Bardwell, Pritchard & Co., upon an application signed by Bardwell, Pritchard, Eddington, and Sayle, as incorporators, 2151 and with an authorized capital stock in the amount of $10,000. The incorporators held a formal organization meeting in order to file a necessary report with the secretary of state. At about this time Eddington agreed to retire from the partnership. Bardwell then bought his interest and transferred it to a brother-in-law, Benton Neely, who, with the consent of Pritchard and Sayle, thereby became a partner holding a one-fourth interest in the business. After the retirement of Eddington, Bardwell had no objection to continuing the business as a partnership and it was so continued. Sometime in 1923 Sayle sold his interest to the other partners and retired from the partnership. Sayle withdrew in order that he might devote himself to his timbering business. In 1926, Mrs. George Haley, who had been bookkeeper for the partnership practically since its organization, purchased a one-fourth interest in the business. Since 1926 the business has been conducted as a partnership by Bardwell, Pritchard, Neely, and Mrs. Haley, all being equal partners. The corporation known as Bardwell, Pritchard & Co. never engaged in business of any kind. It never acquired any assets nor contracted2152 to acquire any, it never issued any stock, borrowed any money, maintained any books of account or minute books, secured any credit, incurred any liabilities, nor in any way represented itself as a corporation engaged in business. Neither the partnership of Bardwell, Pritchard & Co., nor any of the members thereof have ever represented to anyone that the partnership business was or had been incorporated or that it had been succeeded or taken over by the corporation of the same name. Mercantile credits and bank loans secured by the partnership of Bardwell, Pritchard & Co. since the organization of a corporation bearing the same title, have always been granted to the firm as a partnership, the grantors continuing to look to Bardwell for payment. The books of account of the partnership of Bardwell, Pritchard & Co. have always been maintained as partnership books, profits being credited directly to the individual partners. The partners do not now have, and never have had, any written agreement of partnership nor other written evidence of the form of their organization, nor the extent of their interests in it. The partners have never operated under a trust agreement nor had a trustee2153 or trustees operate for them. Operation of the business has never been delegated to any 353 person or persons and no board of directors of the partnership has ever existed. In 1927 the corporation known as Bardwell, Pritchard & Co. was dissolved on petition of its incorporators. Tax returns filed by the partnership of Bardwell, Pritchard & Co. and the individual returns of the partners forming that company have always been made on the basis of a partnership business. The deficiencies in controversy have been assessed by the respondent, under section 279(a) of the Revenue Act of 1926, upon income of the partnership of Bardwell, Pritchard & Co. OPINION. LOVE: While the substantive effects of the respondent's determinations respecting the two taxable years involved in these proceedings are the same, it appears from the deficiency letters that these effects may have been arrived at upon different bases and accordingly we desire to point out these differences before discussing the merits of the controversies. The deficiency letter referring to the year 1923, as set out in appeal, Docket No. 36771, states: This office holds that your organization is an association2154 for income-tax purposes, and, therefore, is taxable as a corporation. The deficiency letter referring to the year 1924, as set out in appeal, Docket No. 41521, purports to assert a liability of the petitioner as a corporation. As is mentioned above, the substantive effect of these determinations is the same, i.e., in each instance petitioner is held liable to tax as a corporation. We think the facts set forth in our findings need no amplification or discussion to demonstrate that petitioner has never been a corporation. The distinction between the partnership of Bardwell, Pritchard & Co. and the corporation of the same name is as great as can exist between any two similarly termed entities. The respondent's determination that for the year 1923 the petitioner was an association taxable as a corporation is, we believe, as equally unfounded as is his determination that for the subsequent year the petitioner was a corporation. In Hecht v. Malley,265 U.S. 144">265 U.S. 144, it is said: The word "association" appears to be used in the Act in its ordinary meaning. It has been defined as a term "used throughout the United States to signify a body of persons united without2155 a charter, but upon the methods and forms used by incorporated bodies for the prosecution of some common enterprise." 1 Abb. Law Dict. 101 (1879); 1 Bouv. Law Dict. (Rawle's 3rd Rev.) 269; 3 Am. & Eng. Enc. Law (2d Ed.) 162; and Allen v. Stevens (33 App.Div. 485) 354 54 N.Y.S. 8">54 N.Y.S. 8, 23, in which this definition was cited with approval as being in accord with the common understanding. Other definitions are: "In the United States, as distinguished from a corporation, a body of persons organized, for the prosecution of some purpose, without a charter, but having the general form and mode of procedure of a corporation." Webst. New Internat. Dict. "(U.S.) An organized but unchartered body analogous to but distinguished from a corporation." Pract. Stand. Dict. Beyond being a body of persons organized for a common purpose, the petitioner in this proceeding exhibits none of the attributes of an association as above set forth. In our opinion it has been demonstrated that petitioner has always been a common-law partnership and nothing more. As such it is not a taxable entity under the Revenue Act of 1921. See *2156 Burk-Waggoner Oil Association v. Hopkins,269 U.S. 110">269 U.S. 110; Utica Motor Car Co.,10 B.T.A. 878">10 B.T.A. 878; Myers, Long & Co.,14 B.T.A. 460">14 B.T.A. 460; Wilson Syndicate Trust,14 B.T.A. 508">14 B.T.A. 508; affd., Blair v. Wilson Syndicate Trust, 39 Fed.(2d) 43; Extension Oil Co.,16 B.T.A. 1028">16 B.T.A. 1028. Judgment will be entered for the petitioner.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621904/	THE PUGET SOUND NATIONAL BANK OF TACOMA, WASHINGTON, JOHN W. DAVIS, AND MRS. MILDRED FULLER WALLACE, AS RESIDUARY LEGATEES UNDER WILL OF H. C. WALLACE, DECEASED, PETITIONERS, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Puget Sound Nat'l Bank v. CommissionerDocket No. 80461.United States Board of Tax Appeals36 B.T.A. 386; 1937 BTA LEXIS 719; August 3, 1937, Promulgated 719 1. A verbal request made by a coexecutor on a collector merely for an audit of an income tax return of the estate, the substance of which the collector communicated in writing to an internal revenue agent in charge, does not meet the requirements of section 275(b) of the Revenue Act of 1928, it not being in writing or clear enough to put the Government on notice of intent to take advantage of the benefits of the shorter limitation period. 2. The executors of the taxpayer were discharged within the time allowed the Commissioner for the mailing of a notice of deficiency to the taxpayer. No appeal was taken from the deficiency notice. Held, that the discharge of the executors did not shorten the period of limitation for assessment against the taxpayer; held, further, that, notwithstanding the discharge of the executors, the deficiency notice mailed to the taxpayer operated to stay the running of the period of limitation for the period during which the Commissioner was prohibited from making assessment. George Donworth, Esq., for the petitioners. Harold D. Thomas, Esq., for the respondent. DISNEY386 OPINION. DISNEY: The petitioners720 are residuary trustees under the will of H. C. Wallace, who died January 1, 1931, a citizen and resident of the State of Washington. On March 14, 1932, the executors of his estate filed an income tax return for 1931 with Burns Poe, collector of internal revenue at Tacoma, Washington, under the name of "Estate of H. C. Wallace", showing deductions in excess of gross income. The entire income was received by the estate of the decedent. In April 1932 Forbes P. Haskell, a coexecutor of the estate, orally requested the collector to do whatever was necessary to have an audit made of the return so that the estate could be closed. Accordingly, on April 20, 1932, the collector wrote the following letter to George C. Earley, internal revenue agent in charge at Seattle: One of the local trustees of the Estate of Hugh C. Wallace, former Ambassador to France, would like to have an early audit of his 1931 income tax return. Would it be possible for you to assign Mr Carl D Eshelman or someone else to do the work before the transcripts are received back from Washington, D C? The trustee, who is Mr. Forbes B Haskell, President of the Puget Sound National Bank, has made a special request721 that this be done, which will expedite the closing of the estate. 387 On April 21, 1932, Earley wrote the following letters to Haskell, the collector, and the revenue agent, Eshelman: To Haskell: A letter has just been received from Mr. Poe stating that you are desirous of having an early audit of the 1931 income tax return of the Estate of Hugh C. Wallace. Usually we do not take up the audits until the receipt of the 1931 return, but in this instance, in order that the closing of the estate may be expedited, we shall be glad to start the 1931 examination and get it out of the way as soon as possible. Mr. C. D. Eshelman will no doubt arrange with you for the audit within a few days. To the collector: We shall of course be glad to comply with the request of Mr. Haskell that the examination of the 1931 tax return of the Estate of Hugh C. Wallace be expedited in order that the estate may be closed. Mr. Eshelman has been advised of Mr. Haskell's wishes and will no doubt have the case under way in a day or so. To Eshelman: The two attached copies of letters just written are no doubt self-explanatory, but I might add that Mr. Poe's letter states that Mr. Haskell722 is rather desirous of having an early audit of the estate's 1931 tax return out of the way so that the closing of the estate might be expedited. I think in this instance we might very well take up the examination and make it from the retained copy and then we can associate the original return with the case when we receive it. A copy of the report made by the revenue agent on April 26, 1932, showing net income of $992.15, was transmitted to the estate on June 1, 1932, by the internal revenue agent in charge, with the information that the original had been forwarded to the Commissioner for final action. The letter of transmittal to the Commissioner contains the following paragraph: The Collector of Internal Revenue in his letter dated April 20, 1932, states that Forbes P. Haskell, one of the executors of the estate, made a request for an early audit of the 1931 return. The Commissioner received the letter on June 6, 1932. At a hearing held on June 24, 1932, before the Superior Court of the State of Washington at Tacoma on the final report and petition for distribution of the estate of the decedent, Haskell testified that an audit of the income tax return of the decedent723 for 1931 disclosed that no tax was due. Thereafter on the same day the court issued an order distributing the residuary estate of the decedent, having a value in excess of one million dollars, to the petitioners to hold in trust pursuant to the terms of the will. On August 19, 1932, pursuant to an application therefor, the court discharged the executors of the estate. On March 1, 1934, the respondent mailed a notice of deficiency by registered mail to the estate of the decedent, care of Haskell, disclosing 388 a deficiency of $8,926.73 in income tax for 1931. The deficiency, together with interest thereon in the amount of $1,164.88 to May 18, 1934, was assessed May 18, 1934. A notice and demand for the tax, plus interest, was made by the collector on May 23, 1934, and was received by Haskell on May 24, 1934. In letters written on May 29, 1934, to the collector and the respondent, Haskell acknowledged receipt of the notice and demand, and advised them of the distribution of all of the assets of the estate of the decedent, the discharge of the executors, and the names and addresses of the residuary trustees of the estate. On April 16, 1935, the respondent mailed724 a notice to the petitioners proposing to assess against them, as transferees, the deficiency, plus interest, determined and assessed against the estate of the decedent. Whether this proposed assessment is barred by the statute of limitations is the only question presented for decision. The petitioners contend that the request made by Haskell for a prompt audit of the 1931 income tax return of the estate, construed in the light of the action taken thereon, constituted a request for assessment of tax liability within one year within the meaning of section 275(b) of the Revenue Act of 1928, and operated to bar assessment against the estate after one year from April 21, 1932, the date of receipt of the collector's letter by Earley, and against them as transferees on April 21, 1934. Section 275(a) of the Revenue Act of 1928 provides generally for assessment of income tax within two years after the return was filed. Subdivision (b) provides, in part, that: In the case of income received during the lifetime of a decedent, or by his estate during the period of administration, * * the tax shall be assessed, * * * within one year after written request therefor (filed after the return725 is made) by the executor, administrator, or other fiduciary representing the estate of such decedent, * * but not after the expiration of two years after the return was filed. * * * A statute of limitations operates against the Government only when it gives its consent. The statute here prescribes a precise method for shortening the general period of limitation for assessment of taxes on income received during the course of administration of an estate. One of the conditions is that the request therefor be made in writing. We have said that the provision requires a strict construction. Mrs. Niels (Mellie) Esperson, Executrix,13 B.T.A. 596">13 B.T.A. 596; affd., 49 Fed.(2d) 259; certiorari denied, 284 U.S. 658">284 U.S. 658. "When a statute limits a thing to be done in a particular mode, it includes the negative of any other mode." Botany Worsted Mills v. United States,278 U.S. 282">278 U.S. 282. To obtain the benefit of a period of limitation there must be a "meticulous compliance" by the taxpayer 389 with all of the prescribed conditions. 726 Lucas v. Pilliod Lumber Co.,281 U.S. 245">281 U.S. 245. No contention is made here that the executors, or any of them, ever actually signed a request for assessment within one year. The petitioners argue, however, that the statute does not require a request signed by the taxpayer; that the letter written by the collector to Earley was written by the former as agent for the executors, and that Earley had ample authority to receive the request. The present proceeding does not require a consideration of the legal points raised by the argument. We have said that if a taxpayer desires to come within the terms of section 275(b), supra, his "request for assessment within the specified period must meet all the statutory requirements and be sufficiently clear to put the Commissioner on notice of such intention." Mary Lee Winger, Executrix,30 B.T.A. 357">30 B.T.A. 357. The evidence of record on the verbal request made by the taxpayer is confined to the following testimony of Haskell: I communicated with Mr. Poe. I talked with Mr. Poe regarding the matter and told him that we wanted to close the estate and that we would like to have an audit, and asked him what was necessary727 to do, and he advised me that request would have to be made to Mr. Earley in Seattle for the audit, and he offered to write Mr. Earley on my behalf to ask him to make the audit. The words employed by Haskell to convey his intent to the collector were not of the kind that would have been used to clearly express a desire to bring the estate within the terms of the applicable statute. Neither the term "assessment" nor anything equivalent thereto, was used, and no reference was made to section 275. The request expressed nothing more than a desire to have an audit made of the income tax return of the estate to place the executors in a position to close the estate, something entirely different from a desire to be bound by a shorter period of limitation. It falls short of putting the Commissioner or any of his agents on notice of a desire to have the income tax liability of the estate assessed within one year. The correspondence of the collector and Earley reveals a like interpretation, for it refers merely to a request received for an audit, and does not disclose an understanding that the audit, in order to be effective for assessment purposes against the estate, would have to be728 made within one year. The request did not comply with the requirements of the statute and did not serve to shorten the period of limitation for assessment against the taxpayer. Mrs. Niels (Mellie) Esperson, Executrix, supra;Mary Lee Winger, Executrix, supra.The petitioners next argue that the discharge of the executors on August 19, 1932, terminated the existence of, and the right to make a deficiency assessment against, the estate, and had the effect of 390 shortening the statutory period of limitation for assessment against them as transferees to one year later. The respondent is not attempting in this proceeding to sustain an asserted deficiency in income tax against the estate and there is no need to consider the laws of Washington to determine whether the respondent has or had a right to make an assessment against the estate or whether power exists to compel the discharged executors to respond in their representative or individual capacity to an assessment against them for the deficiency. Our problem here is to determine whether the transferee liability asserted against the petitioners is barred by the statute of limitations, 729 and the answer is not controlled by lack of a right to proceed against the taxpayer because of the functus officio status of its representatives. See Hulbrrd v. Commissioner,296 U.S. 300">296 U.S. 300. The statute provides that income taxes of taxpayers "shall be assessed within two years after the return was filed." Sec. 275(a), Revenue Act of 1928. This period was not shortened by the discharge of the executors of the estate prior thereto after a final accounting. William B. Weigel et al., Trustees,34 B.T.A. 237">34 B.T.A. 237. The case of Hulburd v. Commissioner, supra, relied upon by the petitioners, is not contrary to the rule. That case, as presented to the Supreme Court, involved transferee liability of an estate for unpaid income tax of a corporation dissolved during the lifetime of the decedent. The major question for decision was whether the executors were subject to assessment as transferees in their representative capacity after their discharge. The question of whether the liability was barred by the statute of limitations was decided by us in a preliminary report 730 (21 B.T.A. 23">21 B.T.A. 23) and was not presented to the Supreme Court for decision. Neither does Nauts v. Clymer, 36 Fed.(2d) 207, help the petitioners. There the deficiency notice mailed to one of the discharged executors of the estate was held to be insufficient to stay the running of the statute, with the result that neither the assessment subsequently made against the estate nor the transferee notice sent to Clymer was timely. A further contention of the petitioners is that, if the request of Haskell for an audit be ignored, the statute bars assessment against them not later than March 15, 1935, or one year after the two-year limitation period for assessment against the estate. The argument on the point is, in substance, that with the discharge of the executors the estate ceased to exist as an entity and that the deficiency letter mailed to the estate on March 1, 1934, was a nullity and did not serve to extend the statute. The contention is without merit. Irrespective of their previous discharge by the probate court, the executors could have used the deficiency notice as the basis for an appeal to the Board and the period of limitation would have731 been 391 stayed during the pendency of the petition before us even though we lacked jurisdiction to redetermine the deficiency. American Equitable Assurance Co. v. Helvering, 68 Fed.(2d) 46, affirming 27 B.T.A. 247">27 B.T.A. 247; U S L Battery Corporation,32 B.T.A. 810">32 B.T.A. 810; affd., 84 Fed.(2d) 1020; certiorari denied, 299 U.S. 593">299 U.S. 593. The period for assessment against the estate did not expire until March 14, 1934, or two years after the return was filed. Sec. 275(a), supra.The mailing of the deficiency notice to the estate extended the period of limitation for assessment against the taxpayer for 120 days, or to July 12, 1934. Secs. 272(a) and 277. The provisions of section 311(b)(1) extended the period for assessment against the petitioners to "within one year after the expiration of the period of limitation for assessment against the taxpayer." Commissioner v. Gerard, 78 Fed.(2d) 485. The notice to the petitioners, as transferees, was mailed on April 16, 1935, a date within the limitation period of three years and 120 days allowed by the statute under the facts prevailing here (in fact732 less than three years and 60 days), and less than one year after assessment was made against the transferor. It follows that assessment of the liability of the petitioners as transferees is not barred by the statute of limitations. In view of the timely notice given the petitioners it is not necessary to consider the effect of the failure of the executors to notify the Commissioner of their discharge, as required by section 312(a) in order to be relieved of liability in their representative capacity. Reviewed by the Board. Decision will be entered for the respondent.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621906/	SEYMOUR WATERMAN, ET AL., 1 Petitioners v. COMMISSIONER OF INTERNAL REVENUE, Respondent Waterman v. CommissionerDocket Nos. 8699-72, 8700-72, 8701-72, 8743-72.United States Tax CourtT.C. Memo 1975-209; 1975 Tax Ct. Memo LEXIS 157; 34 T.C.M. (CCH) 910; T.C.M. (RIA) 750209; June 30, 1975, Filed Alan Claman and Justin L. Goldner, for the petitioners. Alan R. Herson, for the respondent. SIMPSONMEMORANDUM FINDINGS OF FACT AND OPINION Simpson, Judge: The Commissioner determined the following deficiencies in the petitioners' Federal income taxes: PetitionerDocket No.YearDeficiencySeymour Waterman8699-721965$ 164.001966340.00Pacific Hi-Temp8700-72FY19663,315.00Hardware Co., Inc.FY19675,498.00Seymour Waterman and8701-72196714,197.00Evelyn WatermanEvelyn Waterman8743-721965165.001966340.00 Some issues have been settled, and two issues remain for decision. We must158 ascertain the fair market value of a computer donated to a college. In the event we determine that the computer's value exceeded its cost, then we must decide whether Mr. Waterman received a dividend from his wholly owned corporation when he made the donation. FINDINGS OF FACT Some of the facts have been stipulated, and those facts are so found. The individual petitioners, Seymour Waterman and Evelyn Waterman, husband and wife, had their legal residence in Encino, Calif., at the time of filing their petitions herein. Mr. and Mrs. Waterman filed their Federal income tax returns, using the cash method of accounting, for the years 1965 through 1967 with the District Director of Internal Revenue, Los Angeles, Calif. They filed individual returns for 1965 and 1966 and a joint return for 1967. The corporate petitioner, Pacific Hi-Temp Hardware Co., Inc. (Pacific), had its principal place of business in Burbank, Calif., at the time of filing its petition herein. Pacific filed its Federal income tax returns, using the accrual method of accounting, for its fiscal years 1966 and 1967 with the District Director of Internal Revenue, Los Angeles, Calif. Mr. Waterman was the sole shareholder159 of Pacific, which, in 1966 and 1967, was a distributor of aircraft parts. Mr. Waterman received a circular from the Atomic Energy Commission (AEC) soliciting bids on an International Business Machines (IBM) 704 computer. He submitted a bid, and in June 1967, Pacific paid the AEC $1,077.77 for the computer. Mr. Waterman had Pacific make the payment because he believed the AEC preferred doing business with a corporation rather than with an individual. On Pacific's books of account, the payment was charged to his personal loan account and was repaid by him in December 1967. Mr. Waterman paid $1,100 for transporting the computer to California, although the invoice for such expense had been sent to Pacific. Mr. Waterman acquired the computer because he was interested in developing a separate computer business. However, he did not have the time to pursue such plans and put the computer in storage. In December 1967, Mr. Waterman donated the computer to the San Fernando Valley State College (the college). The computer was constructed in 1957 and originally sold for approximately $1,900,000. Since that time, there have been developed newer models of computers that were more efficient160 and had greater capacities. Yet, the computer donated to the college was in an operable condition and conformed to IBM's strict performance standards. It was altogether satisfactory for the purpose of instructing engineering students in computer design and was still in use in 1971. The director of the college's trust fund wrote to Mr. Waterman on December 27, 1967, acknowledging the donation and stating that he estimated that the computer was worth $25,000. James Farmer, the director of the college's Institutional Studies and Computer Center, had made the evaluation for the college. Prior to working for the college, Mr. Farmer had been employed by the Rand Corporation, where he was responsible for determining the costs of existing and proposed computer equipment. He also has been responsible for buying and valuing computer equipment used by the California state university school system. In making his evaluation of the computer for the college, Mr. Farmer contacted potential purchasers of, and persons experienced with, the 704 computer. He learned of a corporation that had recently purchased a 704 computer for $25,000 in order to export it. In addition, he was advised that the computer161 had a trade-in value of $20,000 to $25,000. Considering the good condition of the computer, he concluded in 1967 that, conservatively, it had a value of at least $25,000. Subsequently, Mr. Farmer determined that, in 1967, the computer had a value of $44,000 based on the aggregate value of its individual components. In 1967, the market for 704 computer components was larger than that for 704 computers, and such components commanded higher prices as separate items than they did as parts of a working computer. Mr. Farmer considered that the price for which the AEC had sold the computer in June 1967 was not indicative of its fair market value, since the circular soliciting bids was distributed in a restricted market, and since it would have been difficult, or impossible, for any bidder to determine the condition of the computer before submitting his bid. The computer was also appraised by James B. Reidy, Jr., who had more than 15 years experience selling and installing IBM computers, including the 704. He also had experience advising sellers and purchasers of computers concerning computer values and prices. In making his evaluation, he examined sales manuals, maintenance charge schedules, 162 and magazine advertisements. He concluded that, in 1967, the components of the computer were worth $42,000 and that the computer's value ranged between $35,000 and $50,000. Mr. Reidy also considered that the price paid the AEC for the computer in June 1967 did not reflect its value because such sales occurred in an artificial market. On their joint 1967 Federal income tax return, Mr. and Mrs. Waterman claimed a charitable deduction of $25,000 for the donation of the computer to the college. In his notice of deficiency, the Commissioner allowed only the amount actually spent for the computer and for transportation expenses. In his amended answer, the Commissioner determined that, in the event it was decided that the computer's value was greater than the amounts actually spent on buying and transporting it, Mr. Waterman had received a dividend to the extent of the difference. At trial, the petitioners amended their petition alleging that there had been an overpayment in Federal income taxes for 1967, since the value of the computer was greater than that claimed in their return for such year. The Commissioner made other adjustments which have been settled. OPINION We must first163 ascertain the fair market value of the computer when it was donated to the college. The amount of a charitable contribution of property is the property's fair market value. Sec. 170(a)(1), Internal Revenue Code of 1954; sec. 1.170-1(c), Income Tax Regs. In support of their position, the petitioners relied upon the testimony of Mr. Farmer and Mr. Reidy, who had extensive experience with marketing and valuing computers and proffered sufficient testimony from which the value of the computer can be ascertained. Cf. Massey-Ferguson, Inc.,59 T.C. 220">59 T.C. 220 (1972). Mr. Reidy was of the opinion that in 1967, the fair market value of the computer was between $35,000 and $50,000 and that the aggregate value of its components was $42,000. Mr. Farmer's opinion was that the total value of the components was $44,000 at that time. Yet, the value of the components exceeded the value of the computer as such in 1967, and the college acquired the computer for the purpose of using it as such, and not for the purpose of selling its components. Although Mr. Farmer initially found that the value of the computer was $25,000, both he and Mr. Reidy later concluded that164 the computer was worth more than that amount in 1967. Mr. Farmer stated that in 1967 he considered such valuation to be conservative. Furthermore, it was based on the trade-in value of the computer, and the college did not want the computer for that purpose, but to use it for instruction in its engineering department. Also, in arriving at that valuation, Mr. Farmer may have considered the report that a 704 computer had been purchased for $25,000 for the purpose of export, but the full circumstances surrounding the reported purchase were not available and, consequently, the report is entitled to little weight in judging the fair market value of the computer. Cf. Bernard Goss,59 T.C. 594">59 T.C. 594 (1973). The only evidence offered by the Commissioner to contradict the testimony of Mr. Farmer and Mr. Reidy was the information concerning the amount paid for the computer and for its transportation to California. The price paid for property in an arm's length transaction is persuasive evidence of its fair market value at the time of the transaction. Ambassador Apartments, Inc.,50 T.C. 236">50 T.C. 236 (1968), affd. per curiam 406 F. 2d 288 (2d Cir. 1969). However, 165 both Mr. Farmer and Mr. Reidy were of the opinion that the amount paid the AEC for the computer did not reflect its fair market value, and their testimony on this point was persuasive. Daniel S. McGuire,44 T.C. 801">44 T.C. 801 (1965). Taking into consideration all the evidence of record in this case, we conclude and hold that the fair market value of the computer at the time of its donation to the college was $35,000. Cf. Hamm v. Commissioner,325 F. 2d 934 (8th Cir. 1963), affg. a Memorandum Opinion of this Court. Since we have found that the computer's value was far in excess of the amounts spent on purchasing and transporting it, we reach the Commissioner's alternative contention. He argued that Pacific purchased and owned the computer and transferred it to Mr. Waterman as a dividend when he donated it to the college. Thus, he asserts that if the value of the computer exceeded its cost, the excess was a dividend to Mr. Waterman. Because the Commissioner first raised this issue in his amended answer, he has the burden of proof with respect to such issue. Rule 142(a), Tax Court Rules of Practice and Procedure; Morris M. Messing,48 T.C. 502">48 T.C. 502 (1967).*166 The evidence shows that Mr. Waterman purchased the computer for the purpose of engaging in a new and separate business and only used Pacific to make the actual purchase because he believed the AEC would prefer to sell the computer to a corporation rather than to an individual. Mr. Waterman ultimately paid for the computer, and he paid for transporting the computer to California. Such evidence indicates that Pacific was only Mr. Waterman's agent and based on the evidence of record, we conclude and hold that the Commissioner has failed to carry his burden of establishing that Mr. Waterman received a dividend as a result of the donation of the computer to the college. Cf. John E. Palmer,44 T.C. 92">44 T.C. 92 (1965), affd. per curiam 354 F. 2d 974 (1st Cir. 1965). Decisions will be entered under Rule 155.Footnotes1. Cases of the following petitioners are consolidated herewith: Pacific Hi-Temp Hardware Co., Inc., docket No. 8700-72; Seymour Waterman and Evelyn Waterman, docket No. 8701-72; Evelyn Waterman, docket No. 8743-72.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621907/	RODNEY D. WHITTEN AND CAROL A. WHITTEN, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, RespondentWhitten v. CommissionerDocket No. 6122-81.United States Tax CourtT.C. Memo 1983-222; 1983 Tax Ct. Memo LEXIS 566; 45 T.C.M. (CCH) 1378; T.C.M. (RIA) 83222; April 25, 1983. Rodney D. Whitten and Carol A. Whitten, pro se. Albert B. Kerkhove and Bobby D. Burns, for the respondent. DAWSONMEMORANDUM OPINION DAWSON, Judge: This case was assigned to Special Trial Judge Francis J. Cantrel for the purpose of conducting the hearing and ruling on respondent's Motion for Summary Judgment filed herein. After a review of the record, we agree with and adopt his opinion which is set forth below. 1567 OPINION OF THE SPECIAL TRIAL JUDGE CANTREL, Special Trial Judge: This case is presently before the Court on respondent's Motion for Summary Judgment filed on February 18, 1983 pursuant to Rule 121, Tax Court Rules of Practice and Procedure.2Respondent determined a deficiency in petitioners' Federal income tax for the taxable calendar year 1978 in the amount of $838.00. The sole issue for decision is whether petitioners are entitled to claim an education deduction under section 162 3 for expenses for flight training courses incurred in 1978 by Rodney D. Whitten, hereinafter called petitioner, for which he received non-taxable reimbursement from the Veterans Administration. Petitioners' address on the date they filed their petition was 430 Brentwood Drive, Gretna, Nebraska. They filed a joint 1978 Federal income tax return with the Internal Revenue Service. Petitioners at paragraph 4 of their petition filed on March 27, 1981, allege-- Petitioners disagree with the deficiency because they legally568 followed Rev. Rul. 62-213 in deducting educational expenses reimbursed by the Veteran's Administration. Rev. Rul. 62-213 was modified by Rev. Rul. 80-173, although the Service contends the old ruling was distinguished and clarified, as more fully explained in an outline of position attached hereto. * * * Respondent filed his answer (after the case had been removed from the small tax case category on December 8, 1982) on December 27, 1982, at which time the pleadings were closed. Respondent's motion was filed more than 30 days after the pleadings were closed. See Rules 34, 36, 38, and 121(a). During the taxable year 1978 petitioner was employed as a pilot for Peter Kiewit Sons', Inc. He was also an officer in the Nebraska Air National Guard. On their 1978 joint return petitioners claimed an educational deduction for flight training in the amount of $4,984. Of this amount, $4,439 was claimed on Schedule A for "tuition, flying fees, books" and $189 and $356 were claimed on Form 2106 for fares and meals and lodging, respectively. Petitioner received reimbursement from the Veterans Administration for the expenses he incurred in taking569 the flight training in the amount of $3,397.99, pursuant to 38 U.S.C. 1677 (1976). Respondent has disallowed the claimed flight training expenses to the extent petitioner was reimbursed by the Veterans Administration. We agree that the reimbursed expenses were properly disallowed. On June 14, 1982, in a court-reviewed opinion, we addressed the very issue herein under consideration on facts substantially similar to those present in this case. We see no reason to traverse that ground once again. In Manocchio v. Commissioner,78 T.C. 989">78 T.C. 989 (1982) (on appeal 9th Cir., Sept. 20, 1982), we held that a deduction claimed for reimbursed flight training expenses was disallowed by section 265(1). 4Manocchio is dispositive of this case. 5570 Rule 121 provides that a party may move for summary judgment upon all or any part of the legal issues in controversy so long as there are no genuine issues of material fact. Rule 121(b) states that a decision shall be rendered "if the pleadings * * * and any other acceptable materials, together with the affidavits, if any, show that there is no genuine issue as to any material fact and that a decision may be rendered as a matter of law". The summary judgment procedure is available even though there is a dispute under the pleadings if it is shown through materials in the record outside the pleadings that no genuine issue of material fact exists. The record here contains a complete copy of the notice of deficiency, the petition and answer, respondent's motion, and respondent's affidavit and the exhibit attached thereto (a copy of petitioners' 1978 return). On the basis of the foregoing documents, respondent has demonstrated to our satisfaction that there is no genuine issue as to any material fact present in this record and, thus, that respondent is entitled to a decision as a matter of law. In such circumstance, summary judgment is a proper procedure for disposition of this case. *571 Therefore, we must and do grant respondent's motion. An appropriate order and decision will be entered.Footnotes1. The parties were afforded a full opportunity to present their views on the law at the hearing at Washington, D.C. on April 6, 1983. Petitioners did not appear nor did they file a response to respondent's motion, albeit a copy thereof and a copy of respondent's affidavit (Declaration) together with a copy of the Court's Notice of Hearing were served on them by the Court on February 23, 1983.↩2. All rule references are to the Tax Court Rules of Practice and Procedure.↩3. All section references are to the Internal Revenue Code of 1954, as amended.↩4. That opinion squarely addresses and fully answers all of petitioners' substantive contentions herein. ↩5. See Becker v. Commissioner,T.C. Memo. 1983-94; Russell v. Commissioner,T.C. Memo. 1983-42; Jackson v. Commissioner,T.C. Memo. 1983-41; Wells v. Commissioner,T.C. Memo. 1982-676; Murphy v. Commissioner,T.C. Memo. 1982-634; Heft v. Commissioner,T.C. Memo. 1982-444; Mason v. Commissioner,T.C. Memo 1982-376">T.C. Memo. 1982-376; Byrne v. Commissioner,T.C. Memo. 1982-364; Beynon v. Commissioner,T.C. Memo. 1982-349↩.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621909/	Olen F. Featherstone, Petitioner, v. Commissioner of Internal Revenue, Respondent. Martha Featherstone, Petitioner, v. Commissioner of Internal Revenue, Respondent. Olen F. Featherstone and Martha Featherstone, Petitioners, v. Commissioner of Internal Revenue, RespondentFeatherstone v. CommissionerDocket Nos. 37809, 37810, 37811United States Tax Court22 T.C. 763; 1954 U.S. Tax Ct. LEXIS 155; 3 Oil & Gas Rep. 1587; June 30, 1954, Filed. June 30, 1954, Filed 155 Decisions will be entered under Rule 50. First year payments on noncompetitive oil and gas leases issued by the United States and various State governments, held, deductible as "rentals" under section 23(a)(1)(A), Internal Revenue Code. Floyd K. Haskell, Esq., for the petitioners.Everett E. Smith, Esq., for the respondent. Van Fossan, Judge. VAN FOSSAN 763 The following deficiencies in income tax were determined by the respondent:PetitionerDocket No.194619471948Olen F. Featherstone37809$ 1,738.86$ 3,460.07Martha Featherstone378101,738.863,502.84Olen F. Featherstone and37811$ 84,327.82Martha Featherstone.157 The single issue presented is whether certain first year payments made by petitioners with respect to leases issued by the United States and various States constituted nondeductible capital expenditures or deductible rentals.764 Respondent has conceded that all payments made by petitioners with respect to leases issued in a year prior to payment are deductible, with the result that respondent concedes error as to the deficiency for 1946.FINDINGS OF FACT.Part of the facts were stipulated and are found accordingly.Petitioners, Olen F. Featherstone and Martha Featherstone, were husband and wife and lived in New Mexico during the taxable years here involved. For the years 1946 and 1947, petitioners filed separate individual income tax returns, but for 1948 they filed a joint return as husband and wife. All returns were filed with the collector of internal revenue for New Mexico.During the foregoing years, petitioner Olen F. Featherstone was in the business of assembling blocks of oil and gas leases for development by the major or independent oil operators. In disposing of an interest in a leasehold, petitioners normally obtained an overriding royalty and a commitment for158 the development of the property subject to the leases. Petitioners would also dispose of leasehold interests without retaining any economic interest.During the years in question, petitioners had leasehold interests in oil and gas leases of which the lessors were variously the United States and the States of Colorado, Utah, and Wyoming.Petitioners made payments for the first year of the lease term of the aforementioned leases to the lessors and in the amounts as follows: 1Lessors19471948Wyoming$ 120$ 1,672.50Utah18237.88Colorado400U. S. A.23,563.87In 1948 the Federal Government issued 92 oil and gas leases in which petitioners had percentage interests as follows:No. ofPercentageleasesinterest3100.03490.0166.666650.03045.0140.01133.333131.663130.0125.0310.0Of the above159 92 leases, only 10 were issued in the name of one or the other of the petitioners.In many instances petitioners had an undivided interest in a lease and an associate had the balance of the undivided interest. If the lease was in the name of one of the petitioners, petitioners would, by 765 prearrangement with the associate, pay all filing fees and so-called rentals due on the lease, and the associate would reimburse petitioners for his share. Conversely, if the lease was in an associate's name, the associate would make the necessary payments and receive reimbursement from the petitioners for their share.Except for instances where petitioners had a 45 per cent or a 90 per cent interest in a lease, petitioners made payments in respect of the lease which were in exact proportion to their percentage interest in the lease. With respect to the leases in which petitioners had either a 45 per cent or a 90 per cent interest, petitioners followed the practice of having key employees apply, on petitioners' behalf, for oil and gas leases with the lessors herein involved. The purpose of this practice, under which petitioners would make 100 per cent (on leases in which petitioners retained160 a 90 per cent interest) of all necessary payments, was to encourage employees to take a greater interest in the business. If petitioners had an associate in a lease taken in the name of an employee, petitioners would carry the employee free for a 5 per cent interest and petitioners' associate would carry the other 5 per cent. If such a lease in the name of an employee, or any portion of such lease, was subsequently disposed of, the employee would receive 10 per cent of gross proceeds less 10 per cent of abstract and similar expenses, and petitioners and their associate, assuming there was one in the particular lease, would each receive 45 per cent, less 45 per cent of similar expenses.Petitioners had operated their business in the above described manner for at least 5 years prior to the issuance of the leases here in question.All of the 92 Federal leases issued in 1948 were issued pursuant to the authority of the Leasing Act of 1920 (41 Stat. 437) as amended by the Act of August 8, 1946 (60 Stat. 950, 30 U. S. C. 181 et seq.). Portions of section 3 of the 1946 Act are set forth below:When the lands to be leased are within any known geological161 structure of a producing oil or gas field, they shall be leased to the highest responsible qualified bidder by competitive bidding under general regulations, in units of not exceeding six hundred and forty acres, which shall be as nearly compact in form as possible, upon the payment by the lessee of such bonus as may be accepted by the Secretary and of such royalty as may be fixed in the lease which shall not be less than 12 1/2 per centum in amount or value of the production removed or sold from the lease. When the lands to be leased are not within any known geological structure of a producing oil or gas field, the person first making application for the lease who is qualified to hold a lease under this Act shall be entitled to a lease of such lands without competitive bidding. Such leases shall be conditioned upon the payment by the lessee of a royalty of 12 1/2 per centum in amount or value of the production removed or sold from the lease * . All leases issued under this section shall be conditioned upon the payment by the lessee in advance of a rental of not less than 25 cents per acre per annum. A 766 minimum royalty of $ 1.00 per acre in lieu of rental shall be 162 payable at the expiration of each lease year beginning on or after a discovery of oil or gas in paying quantities on the lands leased: Provided, That in the case of lands not within any known geological structure of a producing oil or gas field, the rentals for the second and third lease years shall be waived unless a valuable deposit of oil or gas be sooner discovered.In 1946, 1947, and 1948, the Bureau of Land Management of the Department of Interior required that each application for a Federal lease be accompanied, along with the filing fee, by a deposit of 25 cents per acre, which sum represented one-half of the first lease year payment. In the event of a rejection of the application by the Bureau of Land Management, a withdrawal of the application, or a refusal of the lease by the applicant, a refund of the deposit was made. All refunds were made through the applicant. It was not unusual for 2 or 3 years to elapse between the filing of the application and the issuance of the lease.Each of the Federal leases in respect of which the first-year payments here involved were made contained the following pertinent language:Sec. 1. Rights of Lessee. -- That the lessor, in 163 consideration of rents and royalties to be paid, and the conditions and covenants to be observed as herein set forth, does hereby grant and lease to the lessee the exclusive right and privilege to drill for, mine, extract, remove, and dispose of all the oil and gas deposits except helium gas in or under the following-described tracts of land * * * together with the right to construct and maintain thereupon all works * * * or other structures necessary to the full enjoyment thereof, for a period of 5 years, and so long thereafter as oil or gas is produced in paying quantities; * * Sec. 2. In consideration of the foregoing, the lessee hereby agrees: * * (d) Rentals and royalties. -- (1) To pay the rentals and royalties set out in the rental and royalty schedule attached hereto and made a part hereof. * * Schedule "A"RENTALS AND ROYALTIESRentals. -- To pay the lessor in advance on the first day of the month in which the lease issues a rental at the following rates:(a) If the lands are wholly outside the known geologic structure of a producing oil or gas field: (1) For the first lease year, a rental of 50 cents per acre.(2) For the second and third lease years, 164 no rental.(3) For the fourth and fifth years, 25 cents per acre.(4) For the sixth and each succeeding year, 50 cents per acre.(b) On leases wholly or partly within the geologic structure of a producing oil or gas field: (1) Beginning with the first lease year after 30 days' notice that all or part of the land is included in such a structure and for each year thereafter, prior to a discovery of oil or gas on the lands herein, $ 1 per acre.767 (2) On the lands committed to an approved cooperative or unit plan which includes a well capable of producing oil or gas and contains a general provision for allocation of production, for the lands not within the participating area an annual rental of 50 cents per acre for the first and each succeeding lease year following discovery.Minimum royalty. -- To pay the lessor in lieu of rental at the expiration of each lease year after discovery a minimum royalty of $ 1 per acre or, if there is production, the difference between the actual royalty paid during the year and the prescribed minimum royalty of $ 1 per acre, provided that on unitized leases, the minimum royalty shall be payable only on the participating acreage.Royalty165 on production. -- To pay the lessor 12 1/2 percent royalty on the production removed or sold from the leased lands.Section 7 of the Federal lease form permits cancellation of the lease by the lessor in the event of default by the lessee.None of the Federal leases issued in 1948 were within the known geological structure of a producing oil or gas field. Accordingly, no "bonus" as provided in section 17 of the Leasing Act of 1920, as amended, supra, was originally paid thereon.The Colorado, Wyoming, and Utah leases, on which the payments here in question were made by petitioner, were with few exceptions issued in the name of others than the petitioners. These leases were issued pursuant to the authority, respectively, of sections 59 and 61, chapter 134, Colorado Statutes Annotated, 1935, as amended; section 24-701 et seq., Wyoming Compiled Statutes Annotated, 1945, as amended, and section 86-1-18, et seq., Utah Code Annotated, 1943, as amended.The State of Colorado provides for competitive bidding on oil and gas leases on certain lands designated as "closed areas" and requires the payment of a bonus for leases on lands located within these areas. None of the Colorado166 leases here involved were obtained by competitive bid and, therefore, no bonus was paid.The payments to the lessor State of Colorado that are here in question were made by petitioners in pursuance of the second of the two below quoted provisions of the Colorado lease form:Whereas, The said lessee has filed in the office of the State Board of Land Commissioners an application for an oil and gas lease covering the land herein described, and has paid the sum of Dollars ($ ) filing fee, and a further sum of Dollars ($ ) fixed by the lessor as an additional consideration for the granting of this lease, and * * Therefore, For and in consideration of the premises as well as the sum of Dollars ($ ) per annum to be paid to lessor in equal semi-annual installments on the day of and the day of of each year, and of the covenants and agreements hereinafter contained, on the part of the lessee to be paid, kept and performed, the said lessor has granted and demised, leased and let, and by these presents does grant, demise, lease and let unto the said lessee, exclusively, for the sole and only purpose of exploration, development167 768 and production of oil and/or gas thereon and therefrom with the right to own all oil and gas so produced and saved therefrom and not reserved as royalty by the lessor * .Section 14 of the Colorado lease permits lessor to cancel the lease without notice in the event of default by the lessee, except that in the event of default "in the payment of rent or royalty payments" the lessor may not cancel unless the lessee has not remedied the default within 30 days after written notice. Section 15 provides that if no discovery of oil or gas in paying quantities is made during the primary term the lessee may renew the lease for another 5 years "by paying each year in advance, double the rental provided herein for the primary term."The States of Utah and Wyoming have no provision for competitive bidding and, therefore, no bonus was paid upon any of the Utah or Wyoming leases involved.The lease form under the terms of which petitioners made the payments in 1947 and 1948 to the lessor State of Utah that are here in question provides, inter alia, as follows:The Lessee in consideration of the granting of the rights and privileges aforesaid hereby covenants and agrees as follows: 168 FIRST: To pay to the Lessor an annual rental for each acre covered by this lease the sum of 50 cents per acre for the first year and per acre each year thereafter. All such annual payments of rental to be made in advance on the 2nd day of January of each year, except the [first year] rental, which is payable on the execution of this lease, such rental to be credited on the royalties to become due hereunder during the year for which said rental is paid.The lease form under the terms of which petitioner made the payments in 1947 and 1948 to the lessor State of Wyoming that are here in question provides, inter alia, as follows:SEC. 3. In consideration of the foregoing the LESSEE COVENANTS AND AGREES:* * * (c) RENTALS. Prior to the discovery of oil or gas in paying quantities to pay the lessor in advance, beginning with the effective date hereof, an annual rental of 25 cents per acre or fraction thereof.After the discovery of oil or gas in paying quantities to pay the lessor in advance, beginning with the first day of the lease year succeeding the lease year in which actual discovery was made, an annual rental of Dollars ($ ) unless changed by agreement. 169 Such rental so paid for any one year shall be credited on the royalty for that year.Both the Utah and Wyoming leases permit cancellation by the lessor upon the violation of any of their terms by the lessee.The granting clauses of the State leases are substantially similar to the granting clause in the Federal lease.769 In none of the leases herein involved was there a provision that the annual advance payments denominated as "rentals" should be terminated by, or otherwise bear any relation to, the commencement of drilling operations.Prior to and during the taxable years there was no production on any of the lands covered by the leases here involved.In years prior to 1948 the portion of the first-year payment deposited when the application for a Federal lease was filed by the petitioners was accounted for on the books of petitioners by entering the amount of the deposit in a suspense account entitled "Cash Advances" and thus the item was neither expensed nor capitalized at the time of the application. The petitioners followed the same practice in the years prior to 1948 of debiting "Cash Advances" with the amount of their contribution to the total deposit made on the applications170 of others with respect to Federal leases in which the petitioners had arranged for an interest.In years prior to 1948 when a lease was issued by the United States of America that portion of the first-year payment which the petitioners had deposited with an application filed by them or that amount which the petitioners had contributed to the total deposit made on applications filed by others was transferred from the "Cash Advances" account into an account entitled "Undeveloped Leases" and the balance of the first-year payment paid at the time of the issuance of the lease was entered directly into the "Undeveloped Lease" account. Therefore, the entire amount of the first-year payment was capitalized upon the issuance of the lease under the practice followed by the petitioners prior to 1948.In the year 1948, the petitioners initiated the practice, effective January 1, 1948, of transferring to "Rental Expense" the portion of the first-year payments deposited by them with applications filed in their name in prior years. The transfer was made upon the issuance of the lease. The balance paid in 1948, upon the issuance of the lease, was likewise charged off as rental expense. A like171 change in the petitioners' accounting practice was made, effective January 1, 1948, with respect to payments made on account of leases issued in the name of other applicants in 1948 and with respect to such portion of total deposits made on the applications of others as the petitioners had entered in the "Cash Advances" account.The payments made by the petitioners applicable to the first lease year of the Federal and State leases here involved were true rentals.OPINION.Petitioners contend that the payments made by them for the first year of the lease term of the Federal and State 770 oil and gas leases herein involved are "rentals" within the meaning of section 23 (a) (1) (A), 1 Internal Revenue Code, and therefore deductible as business expenses from gross income. Alternatively, petitioners assert that such payments are deductible as nonbusiness expense under section 23 (a) (2), Internal Revenue Code. 1 Respondent, on the other hand, contends that such first-year payments represent the cost of acquiring economic interests in oil and gas in place and are, therefore, nondeductible capital expenditures. Respondent relies principally upon Regulations 111, section 29.23 172 (m)-1 and section 29.23 (m)-10, which read in pertinent part, respectively, as follows:Sec. 29.23 (m)-1. Depletion of Mines, Oil and Gas Wells, Other Natural Deposits, and Timber; Depreciation of Improvements. -- * * An economic interest is possessed in every case in which the taxpayer has acquired, by investment, any interest in mineral 2 in place or standing timber and secures, by any form of legal relationship, income derived from the severance and sale of the mineral or timber, to which he must look for a return of his capital. * Sec. 29.23 (m)-10. Depletion -- Adjustments of Accounts Based on Bonus or Advanced Royalty. -- (a) * * In the case of the payor any payment made for the acquisition of an economic interest in a mineral deposit or standing timber constitutes a capital investment in the property recoverable only through the depletion allowance.It should be noted that Regulations 111, section 29.23 (m)-10 is specifically concerned with the treatment to be accorded "bonus" or "advanced royalty." Respondent, however, has not argued here that the payments in question were in the nature of "bonus" or "advanced royalty." His position appears to be that any payment, irrespective of its characterization by the parties, for the first year of the lease term of an oil and gas lease is a capital expenditure and hence nondeductible. It is our view that respondent is inconsistent when he asserts, on the one hand, that first-year payments represent the cost of acquiring economic interests in property which should be capitalized 771 and, on the other hand, concedes the deductibility of payments for subsequent lease years and of so-called delay rentals.The typical delay rental is normally paid at the end of the first year and of each subsequent year during which drilling has not commenced. Once drilling has begun the lessee is free to exploit the property for174 its mineral content without having to make any further payments of this kind. Delay rentals have been described in J. T. Sneed, Jr., 33 B. T. A. 478, 482, as being "* * * in the nature of liquidated damages or penalties for failure to drill upon, or exploit, the properties" and in Commissioner v. Wilson, 766">76 F. 2d 766, 769, as accruing "* * * by the mere lapse of time like any other rent." In contrast to royalties, which are not paid for time but for oil and gas taken or to be taken out of the ground, delay rentals are not subject to depletion by the payee, J. T. Sneed, Jr., supra; Commissioner v. Wilson, supra, and are deductible by the payor as a business expense, Charles H. Merillat, 9 B. T. A. 813. Respondent would have us distinguish between delay rentals and the first-year payments involved in this proceeding. It is our opinion, however, that the two differently styled payments are nevertheless in substance the same. Both are fixed sums paid in advance to secure for the payor the right to hold the lease for the succeeding175 year or designated period without the necessity of drilling wells or making further payments, except royalties on the mineral produced. Neither payment is deemed compensation for the mineral extracted from the soil, although, in the event of production, the first-year payment may be credited against current royalties. 3 But that would be true also of payments for subsequent lease years, which payments respondent here concedes are deductible. Moreover, even if it is true, as respondent alleges, that a lessee acquires an economic interest in oil or gas in place upon making a first-year payment, it is, in our opinion, equally true that a lessee retains a similar interest on paying a delay rental. It would seem then that the delay rentals possess no fewer attributes of a "capital investment" than do the annual payments in the case at bar. Yet for tax purposes it is undisputed that delay rentals are deductible by the payor and nondepletable by the payee. In this connection, it is interesting to note the applicability to the first-year payments here in question of the rationale behind the nondepletability of delay rentals as set forth in the following excerpt from Revenue Ruling 16, 1953-1 C. B. 173, 174:176 Such payments are nondepletable items of income to the lessor, since the requisite diminution in the value of his capital interest in the leased property, resulting from a conversion of capital into income to give the depletion provisions operative effect, did not occur upon such payments. Certainly, there was no diminution 772 in value attributable to the extraction and sale of the natural resource content of the land as occurs in the case of ordinary production royalty payment. Nor can such payments qualify as advance royalty payments to establish the requisite diminution in value in the lessor's interest resulting from such payments as in the case of either (1) a bonus payment upon the execution of a lease (which presumptively reduces future production royalty payments to the lessor), or (2) royalty payments in advance of production, such as minimum royalty payments which may be credited as royalty payments on production in future years. 4See also I. T. 3401, 1940-2 C. B. 166, wherein it was stated that " * * for Federal income tax purposes [quoting from G. C. M. 11197, XII-1 C. B. 238] 'there is no distinction177 between the term "rent," in the sense in which that term ordinarily is used, and "delay rentals".'" It should also be noted that, in both Charles H. Merillat, supra, and Continental Oil Co., 36 B. T. A. 693, annual payments that could not have been avoided by drilling were nevertheless treated in the same way as the typical delay rental.With respect to the Federal leases herein involved, petitioners' case is strengthened by the fact that Congress expressly characterized the first-year payment as "rental" and clearly distinguished it from the "bonus" that a lessee of a competitively bid lease was required to pay in addition to the "rental." Furthermore, it is not reasonable that 178 the Congress, presumably familiar with the provisions of section 23 (a) (1) (A), Internal Revenue Code, would denominate a payment "rental" without intending it to be a deductible expense as in the case of the ordinary rental. The leases issued by the various States are similar to the Federal leases in scheme and substance. All provide for annual payments in advance of a fixed sum and all describe such payments as "rentals." We, therefore, conclude that the first-year payments made pursuant to the leases here involved were true rentals and are deductible under section 23 (a) (1) (A).Since these payments were made in the ordinary course of petitioners' business, we need not consider their alternative contention under section 23 (a) (2).It should be emphasized that our decision here is not necessarily dispositive of a case in which the payment claimed by the taxpayer as a deductible expense (or determined by the Commissioner as nondepletable income) is made in respect of a year in which the mineral is produced in paying quantities. See sec. 114 (b) (3), I. R. C.; James Lewis Caldwell McFaddin, 2 T.C. 395">2 T. C. 395.Decisions will be entered under Rule 50179 . Footnotes1. Payments were also made for subsequent years of such lease terms, but they are not tabulated here since respondent has conceded their deductibility.↩1. SEC. 23. DEDUCTIONS FROM GROSS INCOME.In computing 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 * * rentals or other payments required to be made as a condition to the continued use or possession, for purposes of the trade or business, of property to which the taxpayer has not taken or is not taking title or in which he has no equity.* * * *(2) Non-trade or non-business expenses. -- In the case of any individual, all the ordinary and necessary expenses paid or incurred during the taxable year for the production or collection of income, or for the management, conservation, or maintenance of property held for the production of income.↩2. "Minerals" are defined in Regs. 111, sec. 29.23(m)-1(d↩) to include oil and gas.3. Of the leases here involved only the Colorado lease fails to provide for the crediting of rental against current royalties.↩4. Note that the minimum royalty payable on the Federal lease following discovery and in advance of production is not applicable to future royalties.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621912/	William H. Kinch v. Commissioner. Samuel J. Dark v. Commissioner.Kinch v. CommissionerDocket Nos. 106843, 109275.United States Tax Court1942 Tax Ct. Memo LEXIS 67; 1 T.C.M. (CCH) 147; T.C.M. (RIA) 42613; November 28, 194267 H. A. Mihills, C.P.A., 917 Munsey Bldg., Washington, D.C., for the petitioners. Loren P. Oakes, Esq., for the respondent. STERNHAGEN Memorandum Opinion STERNHAGEN, J.: The Commissioner determined deficiencies in 1938 income tax of $3,398.05 as to Kinch and $1,490.98 as to Dark. The petitioners owned all the preferred and common shares of a corporation, and contend that part of a distribution to them which exceeded the corporation's available earnings should be treated as a reduction of cost of the preferred shares and not as capital gain, as respondent treats it. The facts are all stipulated and are hereby found as stipulated. Both returns were filed in the 28th District of New York. Rock Asphalt & Construction Co., Inc., had outstanding 6,000 7 per cent preferred and 3,000 common shares. Each petitioner was an officer and director and owned one-half the shares of each class. The corporation's earnings available for dividends were $173,336.14. Dividends were declared and paid of $42,000 on the preferred and $150,000 on the common of which each petitioner received half. The total of these dividends exceeded the available earnings by $18,773.86. The cost to each petitioner of his 68 preferred shares was $300,000, and none of this had been recovered by him through capital distributions; the entire cost of the common had been recovered through earlier distributions in excess of earnings and "accumulated surplus." The petitioners argue that, since they were the only shareholders, the amount of $18,773.86, which was distributed to them in excess of available earnings, must be regarded, not as a dividend on common, as it was declared to be (albeit excessive), but as a recovery by them of part of the cost of their preferred. This theory cannot be supported on the evidence. There is no evidence of the financial or operating condition of the corporation, no explanation for the dividends, and no explanation of the earlier recovery of the cost of the common and not of the preferred. Petitioners simply argue that because the distribution on the common was in excess of earnings, the excess should, as a matter of law, be held to be a partial capital distribution on the preferred. This would reduce the tax basis of their preferred for the determination of future gain or loss. The argument upon the rights of the preferred shares is made as if this were a lawsuit to determine69 whether the common shareholders or the directors should be required to account for an improper distribution in derogation of the rights of the preferred shareholders. What might be the claims or defenses in such a suit could only be the subject of speculation; but if the evidence were no more than is here stipulated, the petitioners' demands would not necessarily be sustained, or petitioners' rationale adopted. The facts stipulated are squarely within section 115 (d), Revenue Act of 1938, upon which respondent relies. The distribution of $150,000 made by the corporation to its common shareholders was not made in partial or complete liquidation, not out of pre-1913 increase in value, not, as to $18,773.86, a dividend in the statutory sense; and since the basis is, because of prior distributions, nil, and the $18,773.86 is therefore in excess of the basis, each shareholder's part of "such excess shall be taxable in the same manner as a gain from the sale or exchange of property." Whether petitioners, who controlled the corporation, were free to cause the distribution of the excessive amount as a liquidation of preferred, is speculative, as we have said; for the preferred was receiving70 its 7 per cent dividend, and perhaps, under the circumstances, that was all it was entitled to. From the bare figures alone, one could not conclude that the corporation's capital was being impaired. The determination is sustained. Decision will be entered for the respondent.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621913/	HOLLY DEVELOPMENT COMPANY, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Holly Development Co. v. CommissionerDocket No. 99618.United States Board of Tax Appeals44 B.T.A. 51; 1941 BTA LEXIS 1395; April 3, 1941, Promulgated 1395 Interest paid during the taxable year on Federal income tax deficiencies for prior years, held, to reduce the "net income of the taxpayer * * from the property" for purposes of computing the deduction for percentage depletion under section 114(b)(3) of the Revenue Act of 1934. Bayley Kohlmeier, Esq., for the petitioner. E. A. Tonjes, Esq., for the respondent. BLACK 52 OPINION. BLACK: The Commissioner has determined a deficiency of $2,103.76 in petitioner's income tax liability for the year 1935. The deficiency is due to certain adjustments made by the Commissioner in petitioner's income tax return for 1935 as follows: Unallowable deductions:(a) Depletion$13,745.49(b) Depreciation1,554.55Total15,300.04The petitioner does not contest adjustment (b). By an appropriate assignment of error petitioner does contest adjustment (a). Thus there is presented for our decision only one issue, namely, whether the respondent erred in deducting $23,667.03 interest paid by petitioner during the year 1935 on Federal income tax deficiencies for seven prior years as a part of petitioner's overhead expense in determining1396 the net income from petitioner's oil properties for the purpose of computing the deduction allowable for depletion for the year 1935 under the provisions of section 114(b)(3) of the Revenue Act of 1934. This section is as follows: (3) PERCENTAGE DEPLETION FOR OIL AND GAS WELLS. - In the case of oil and gas wells the allowance for depletion under section 23(m) shall be 27 1/2 per centum of the gross income from the property during the taxable year, excluding from such gross income an amount equal to any rents or royalties paid or incurred by the taxpayer in respect of the property. Such allowance shall not exceed 50 per centum of the net income of the taxpayer (computed without allowance for depletion) from the property, except that in no case shall the depletion allowance under section 23(m) be less than it would be if computed without reference ot this paragraph. [Italics supplied.] In computing the "net income of the taxpayer * * * from the property" the respondent deducted from the gross income from the property the $23,667.03 interest paid on income tax deficiencies for prior years. Petitioner contends that no part of the interest should have been so deducted. 1397 The facts were stipulated. We adopt the stipulation as our findings of fact and set forth herein only those facts which are necessary to an understanding of the issue involved. Petitioner is a corporation, with its principal office at Huntington Beach, California. It is engaged principally in the business of producing and selling oil and other petroleum products. Its income tax return for the taxable year 1935 was filed with the collector of internal revenue for the sixth district of California. During the year 1935 petitioner paid additional income taxes for the years 1925, 1926, 1927, 1930, 1931, 1932, and 1933. At the time these 53 additional taxes were paid, petitioner paid interest thereon in the total amount of $23,667.03. During the year 1935 petitioner operated five oil properties, known as the Turley lease, Harvey lease, De Francis lease, Barnett lease, and Miller lease, and derived a total gross income of $101,404.23 from the production and sale of oil and gas from these properties. It also received income from other sources as follows: Interest$1,529.07Rents600.00Sales of securities6,240.00Dividends$125.00Tax exempt interest3,002.44Sale of miscellaneous items2,205.241398 On December 31, 1927, petitioner carried on its books of account an account designated reserve for Federal income taxes. Certain amounts were added to this account from 1928 to 1934, inclusive. The additional taxes for prior year and the $23,667.03 interest thereon paid by petitioner during the year 1935 were charged against this reserve account. In its income tax return for the year 1935 petitioner took a deduction for depletion of its oil properties in the total amount of $26,813.29. The respondent in determining the deficiency disallowed $13,745.49 of the amount deducted and in explanation thereof said: (a) Depletion of $26,813.29 deducted in the return has been reduced to $13,067.80, in accordance with the provisions of Section 114(b)(3), Revenue Act of 1934. Petitioner now contends that the correct deduction for depletion of its oil properties for the year 1935 is the toal amount of $24,372.45 instead of $26,813.29 as originally claimed and instead of $13,067.80 as allowed by the respondent. If the above mentioned interest in the amount of $23,667.03 should be deducted from the gross income from the properties in determining the "net income of the taxpayer * * 1399 from the property", then the respondent's determination must be sustained; and if the interest should not be so deducted, then the correct allowance for depletion is the amount of $24,372.45, as contended for by petitioner. Section 114(b)(3) of the Revenue Act of 1934, as far as the above italicized portion is concerned, is identically the same as section 114(b)(3) of the Revenue Act of 1928, which was involved in . The question in that case was whether the Wilshire Oil Co. in computing its net income for 1929 and 1930 for the purpose of applying the 50 percent limitation on depletion allowable under section 114(b)(3) of the Revenue Act of 1928, was required to deduct certain development expenditures where it had deducted those expenditures in computing its taxable net income. The Supreme Court, in holding that the development expenditures there involved must be deducted in computing 54 the "net income of the taxpayer * * * from the property", laid special emphasis on the power of the Commissioner to promulgate regulations relative to the computation of the depletion allowance. 1400 It held valid the regulations promulgated under the 1928 Act, which regulations in so far as the present question is concerned, are substantially the same as the regulations promulgated under the 1934 Act. Article 23(m)-1 of the latter regulations provides: (h) "Net income of the taxpayer (computed without allowance for depletion) from the property," as used in section 114(b)(2), (3), and (4) and articles 23(m)-1 to 23(m)-28, inclusive, means the "gross income from the property" as defined in paragraph (g) less the allowable deductions attributable to the mineral property upon which the depletion is claimed and the allowable deductions attributable to the processes listed in paragraph (g) in so far as they relate to the product of such property, including overhead and operating expenses, development costs properly charged to expense, depreciation, taxes, losses sustained, etc., but excluding any allowance for depletion. Deductions not directly attributable to particular properties or processes shall be fairly allocated. To illustrate: In cases where the taxpayer engages in activities in addition to mineral extraction and to the processes listed in paragraph (g), deductions1401 for depreciation, taxes, general expenses, and overhead, which can not be directly attributed to any specific activity, shall be fairly apportioned between (1) the mineral extraction and the processes listed in paragraph (g) and (2) the additional activities, taking into account the ratio which the operating expenses directly attributable to the mineral extraction and the processes listed in paragraph (g) bear to the operating expenses directly attributable to the additional activities. If more than one mineral property is involved, the deductions apportioned to the mineral extraction and the processes listed in paragraph (g) shall, in turn, be fairly apportioned to the several properties, taking into account their relative production. Petitioner and respondent are in agreement upon the "gross income from the property" as that phrase is used in the above quoted regulations. They differ on whether the $23,667.03 interest item is a deduction attributable to the mineral properties. Petitioner contends that the interest in question was in no way related to or attributable to the production of oil or the operation or development of any of its oil properties. The respondent contends1402 that the interest was attributable to the mineral properties as a part of petitioner's overhead expenditures. In , we held that interest on money borrowed for development and equipment expenses and amounts paid for capital stock taxes were clearly overhead expenditures which bore a direct relation to the taxpayer's mineral operations and the production therefrom, and must therefore be deducted in computing the "net income of the taxpayer * * from the property." In , we held that interest paid on money borrowed to purchase part of the property from which oil and gas was produced must likewise be deducted. 55 In , we held that the payment of silicosis claims must be placed in the same category as the development expenses involved in And in , we held that income taxes paid to the State of Oklahoma were no less attributable to the oil property upon which depletion was claimed than development expense. 1403 See also . In the instant proceedings it was stipulated that petitioner also received income from other sources, such as interest, rents, dividends, and profit from sales of securities and miscellaneous items. Notwithstanding this stipulation, petitioner makes no contention that it was engaged in "activities in addition to mineral extraction" as that phrase is used in the above quoted regulations so as to bring into operation that portion of the regulations providing that "Deductions not directly attributable to particular properties or processes shall be fairly allocated." Cf. ; . Petitioner merely contends that the interest was in no way related to or attributable to the production of oil or the operation or development of any of its oil properties. It is our opinion that the interest here involved must be regarded as an overhead expenditure. To what was it attributable? If petitioner's only business activity was that of producing and selling oil, and it seems clear that it was, then we think it would necessarily be1404 attributable to those operations. We can not find from the evidence, nor do we understand petitioner to contend, that there were any substantial activities other than its business of producing and selling oil and other petroleum products. We, therefore, hold that the interest in question was overhead expense and attributable to the mineral properties upon which depletion is claimed, and that under the regulations above quoted it should be deducted from the "gross income from the property" in computing the "net income of the taxpayer * * from the property" as those phrases are used in section 114(b)(3), supra.In its brief petitioner says it should be noted that the interest was not paid out of current earnings, but was paid with funds accumulated for that purpose during prior years and charged to the reserve for Federal income taxes account. We think this is not controlling. The expenditure was an allowable deduction during the taxable year, and it makes no difference out of what funds it was paid. Cf. The respondent's determination is approved. Decision will be entered for the respondent.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621914/	Gilmore C. Gulbranson v. Commissioner.Gulbranson v. CommissionerDocket No. 4048-66.United States Tax CourtT.C. Memo 1968-149; 1968 Tax Ct. Memo LEXIS 149; 27 T.C.M. (CCH) 738; T.C.M. (RIA) 68149; July 16, 1968, Filed Gilmore C. Gulbranson, pro se, 12333 S.LaSalle St., Chicago, Ill James F. Hanley, Jr., for the respondent. MULRONEY Memorandum Opinion MULRONEY, Judge: Respondent determined a deficiency in petitioner's 1962 income tax in the amount of $510.16. The only question is whether petitioner, a resident of Chicago, is entitled to deduct from his gross income the amounts he admittedly spent for tuition and books (totalling $317.77) in 1962 while attending night school. Petitioner had claimed this deduction in his income tax return filed for that year with the district director of internal revenue at Chicago and respondent has disallowed same. Petitioner had claimed similar deductions for educational expenses for the years 1959 and 1960, under section 162, Internal Revenue Code of 1954, on the150 ground that his attendance at school was to maintain or improve skills required in his employment and hence the educational expenses were deductible under section 1.162-5(1), Income 739 Tax Regs. When respondent disallowed these claimed deductions petitioner filed petitions with this Court contesting the deficiencies and after rather lengthy trials and extended briefs and arguments we upheld respondent's determinations. See Gilmore C. Gulbranson and Dorothy L. Gulbranson, T.C. Memo. 1963-205 (July 31, 1963), and Gilmore C. Gulbranson and Dorothy L. Gulbranson, T.C. Memo. 1964-313 (Dec. 2, 1964). In the instant case there was a stipulation of facts and there was no testimony by witnesses though petitioner did offer some documentary evidence consisting of a pamphlet containing the Description of Courses at the night law school he attended, the 1961 Statistical Report of the American Bar Foundation, the copy of an address by an insurance adjuster, a publication reciting the appointments, qualifications, and duties of an Illinois Notary Public, the American Bar News, Vol. 6, No. 1, several pamphlets and brochures from insurance companies and a Reader's Digest151 article (page 132 of 1967 Digest). The stipulation of facts filed in this case contains the following pertinent paragraph: 3. The transcripts of the proceedings of the cases of Gilmore C. Gulbranson and Dorothy L. Gulbranson, T.C. Memo. 1963-205 and Gilmore C. Gulbranson and Dorothy L. Gulbranson, T.C. Memo. 1964-313, are incorporated herein and made a part hereof. The testimony of the witnesses in said proceedings may be used in this case as though the several witnesses had appeared in this case and testified. Petitioner has filed no brief or written argument in this case. As indicated above, this identical issue has been twice decided against petitioner. The material facts in this proceeding do not differ from those in the other two proceedings, only the tax year and the amount expended provide a variance. No useful purpose would be served by again reciting the facts on which we based our conclusions in the former cases. It is enough to state we have reviewed all of the facts and we reach the same conclusion that, on the record presented, the educational expenses do not constitute allowable deductions. Decision will be entered for the respondent. *152	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621915/	Stormfeltz-Loveley Company Trust, Detroit Trust Company, Trustee for Owners of Beneficial Interests v. Commissioner.Stormfeltz-Loveley Co. Trust v. CommissionerDocket No. 110662.United States Tax Court1943 Tax Ct. Memo LEXIS 282; 2 T.C.M. (CCH) 183; T.C.M. (RIA) 43251; May 27, 1943282 1. Held, petitioner is a trust operating an office building until ultimate liquidation and is taxable as provided by sections 161 and 162, Revenue Act of 1938, and the same sections of the Internal Revenue Code, and is not a mere agency for former bondholders for whose benefit it purchased certain property at foreclosure sale in 1936, as contended by the taxpayer; held, further, the income of the trust was not paid or credited to the holders of the beneficial certificates of the trust in either of the taxable years and petitioner is not entitled to a credit under the provisions of section 162 (c); held, further, section 167, Revenue Act of 1938, and of the Internal Revenue Code, is not applicable to the facts of the instant case. 2. The fair market value of depreciable property acquired at foreclosure sale by a mortgagee constitutes the basis for depreciation allowances after date of acquisition rather than the bid-in price, where the evidence shows clearly that such fair market value is substantially greater than the bid-in price. Palm Springs Holding Corporation v. Commissioner, 315 U.S. 185">315 U.S. 185Held, the fair market value of the 283 building involved in the instant case was substantially greater than the bid-in price and such fair market value is determined for the purpose of fixing taxpayer's base for depreciation to be used in each of the taxable years. C. Frederic Stanton, Esq., 5-214 General Motors Bldg., Detroit, Mich., for the petitioner. Paul A. Sebastian, Esq., for the respondent. BLACK Memorandum Findings of Fact and Opinion The Commissioner has determined deficiencies in petitioner's income tax for the years 1938 and 1939 as follows: $6,661.30 for 1938, and $2,451.09 for 1939. The deficiency for 1938 is due to three adjustments which the Commissioner has made in the return filed by petitioner for that year on form 1041, as follows: Unallowable Deductions andAdditional Income: (a) Rental income$ 9,298.27(b) Taxes32,418.90Total41,717.17Nontaxable Income andAdditional Deductions: (c) Loss Distribution1,826.81Net income as adjusted$39,890.36The Commissioner explained the foregoing adjustments in his deficiency notice as follows: (a) Rental income is increased by the disallowance of excessive building depreciation in amount of $9,298.27 under Section 23 (1), Revenue 284 Act of 1938. The basis herein of the Boulevard Building is the bid-in-price, including foreclosure costs, plus back taxes, a total of $318,345.42 of which $127,338.17 is allocated to land and $191,007.25 is allocated to building. * * (b) Taxes of prior years in amount of $32,418.90, which constitute part of the cost bases of the Boulevard Building property, are not deductible under section 23 (c) of the Revenue Act of 1938. (c) The income tax return as filed discloses an operating loss of $1,826.81 which amount is shown as distributable to the owners of certificates of beneficial interest. Since the adjusted net income herein is considered entirely taxable to the fiduciary the negative deduction of $1,826.81 is reversed. Under the trust indenture no part of the net income was required to be distributed currently to beneficiaries as contemplated by section 162 (b), Revenue Act of 1938. The deficiency for 1939 is due to two adjustments made by the Commissioner in the return filed by petitioner for that year on form 1041 as follows: Unallowable Deductions andAdditional Income: (a) Rental income$ 9,505.43(b) Distribution to benefi-ciaries12,647.40Net income as adjusted$22,152.83285 The foregoing adjustments were explained by the Commissioner in his deficiency notice as follows: (a) Excessive building depreciation in amount of $9,505.43 is disallowed under section 23 (1) of the Internal Revenue Code. See item (a) for the year 1938 * * (b) Net income of $12,647.40 reported from operations was deducted as distributable to beneficiaries, the owners of certificates of beneficial interest. Under the provisions of the trust indenture no part of the net income was currently to be distributed by the fiduciary to the beneficiaries, as contemplated by section 162 (b), Internal Revenue Code. The petition contains assignments of error which contest the correctness of the foregoing adjustments and petitioner in its brief states the issues to be as follows: (1) Where title to property held by the Detroit Trust Company as Trustee under Power of Attorney had for its primary purpose the sale of the property, the relationship between the trustee company and bondholders is principal and agent rather than trustee and beneficiary. (2) If the Board [Court] finds that a true trust was created then the beneficial owners of the property, i.e., the former bondholders, were the286 grantors thereof, and the income received by the trustee, having been used to pay back taxes and for the purpose of making improvements, all of which inured to the benefit of the former bondholders, is therefore taxable to them under the provisions of section 167 Revenue Act of 1938, and the Regulations promulgated thereunder. (3) The fair market value of the Boulevard Building as of the date of acquisition on November 26, 1936, was not less then $570,000.00, and not greater than $620,000.00, of which not less then $380,000.00, nor more then $457,500.00 should be allocated to the building, and not less then $162,000.00, and not more then $190,000.00 should be allocated to the land. Findings of Fact The petitioner is a trust with offices at 201 West Fort Street, Detroit, Michigan. For the calendar years 1938 and 1939, petitioner executed fiduciary income tax returns on form 1041 and filed them with the Collector of Internal Revenue for the District of Michigan at Detroit, Michigan. On November 1, 1926, the Stormfeltz-Loveley Company, a Michigan corporation, was the owner of improved property situated at the northeast corner of Woodward Avenue and Grand Boulevard in the City of 287 Detroit, Michigan, and hereinafter referred to as the Boulevard Building. On November 1, 1926, the Stormfeltz-Loveley Company borrowed $1,000,000 from the Detroit Trust Company. On that date, the Stormfeltz-Loveley Company executed and delivered to The Detroit Trust Company as mortgage trustee a trust mortgage on certain property to secure a bond issue in the principal amount of $1,000,000. The bonds issued on the said mortgage were issued to numerous persons and were to mature serially and to bear interest at the rate of five per cent per annum, payable semiannually on May 1st and November 1st of each year. The mortgage given was duly recorded at the office of the Register of Deeds for Wayne County. The trust mortgage became in default with respect to interest payments due November 1, 1930 and thereupon the trustee under the mortgage declared the entire amount of principal and interest to be payable. On January 3, 1931, a bill of complaint was filed in the Circuit Court for the County of Wayne in Chancery asking that the mortgage be foreclosed and the property sold to satisfy the above mentioned bonded indebtedness. Thereupon, the Court ordered the sale of the property to satisfy288 the indebtedness. A sale was held on May 25, 1936, pursuant to the Court order and The Detroit Trust Company, Trustee, acting under authority of and for the bondholders, bid the property in for a bid price of $207,296.70. There was at that time a lien on the property for back taxes of $111,048.92. The purchase price was paid in mortgage bonds. On May 25, 1936, the property was duly conveyed to the Detroit Trust Company, as trustee, under the mortgage for the benefit of the bondholders by a Circuit Court Commissioner's deed bearing the said date and duly recorded in the office of the Register of Deeds for Wayne County. The mortgagor's equity of redemption expired on November 25, 1936, and on that date title to the property became absolute in the petitioner as trustee for the former bondholders. At the time of the foreclosure sale there was outstanding $799,000, principal amount of bonds, plus interest due thereon. On December 1, 1938, the Detroit Trust Company executed a formal declaration of trust, and all moneys collected from November 25, 1936, and subsequent to December 1, 1938, were collected by the petitioner in its capacity as trustee according to the provisions of said declaration289 of trust. The declaration of trust is in evidence herein and is incorporated as a part of these findings by reference. The Detroit Trust Company operated the Boulevard Building in the manner and with the same relation to the bondholders during the period November 25, 1936, to November 30, 1938, as the date after the declaration of the formal trust on December 1, 1938. The Detroit Trust Company on May 25, 1936, assumed the payment of the delinquent taxes in the amount of $111,048.92, making a total consideration for the property in the amount of $318,345.62. Of the total consideration for the property sixty per cent or $191,007.25 was allocated by the Commissioner as representing the bid-in price of the building, and the balance of forty per cent or $127,338.17 as representing the bid-in price of the land. There seems to be a discrepancy of 20 cents in this allocation but no point is made of this. No part of the income of the trust for the year 1938 or 1939 was paid or credited to the beneficiaries. The fiduciary income tax returns for 1938 and 1939 filed on form 1041 show the net loss and net income respectively for those years allocated to the individual beneficiaries. The petitioner290 during the calendar years 1938 and 1939 used the income derived from the operation of the Boulevard Building after the deduction of necessary expenses of operation to discharge taxes which had accrued prior to the date of the acquisition of said property by The Detroit Trust Company and to make improvements and other capital expenditures. The Boulevard Building is a building located on the northeast corner of Woodward Avenue, the main thoroughfare of the City of Detroit, and the Boulevard. It is located on the edge of a good shopping center, known as the Milwaukee Woodward Boulevard Center. Here many of the leading chain store owners have had stores for years. It is a block away from the General Motors Building, the Fisher Building, the New Center Building the Stephenson Building and other similar buildings. It is well serviced by transportation, there being a street car service on Woodward Avenue, a bus service on East and West Grand Boulevard, a street car service west on Milwaukee and east on Baltimore, and there are also other bus lines in the vicinity. The building was originally built by the Ford Motor Company in 1912, as a sales and service station, the first part of it 291 being three stories high and 100 feet long and 97 1/2 feet wide, of very heavy construction. In 1914, the building was enlarged to a total length of 320 feet, and was increased to eight stories in height. It is a heavy duty building built for industrial purposes with a floor capacity of 250 pounds per square foot. It has a white exterior. In 1920, the building was sold to the Stormfeltz-Loveley Company for a million dollars, which in turn leased it to the Fisher Body Company for a period of five years. In 1925, the building was converted by the Stormfeltz-Loveley Company for office building use at a cost of approximately $580,000. Improvements were made throughout the period of operation. The present dimensions of the building are 97 1/2 feet by 320 feet, and eight stories high. The building is in good physical condition. At the present time it is occupied by a variety of commercial tenants, stores being on the ground floor, offices on the upper floors. It has good elevator service including six passenger, a large freight elevator, a freight hoist from the basement to the first floor, and an ash hoist. The heating system consists of three special boilers, two of which are equipped292 with stokers. The floors were of terrazzo in the halls, marble floors on the first floors, marble wainscoting in the front of the building, and none of the floors in the building were constructed of wood. There is a total of 188,777 square feet of floor space in the building. The average rental rate in 1936 for the then rentable floor space was a $1.00 for store space and a $1.05 for office space. The present average rental rate is in excess of $1.18 per square foot including all rental area. The actual expense of operating the building in 1936 was $.53 per square foot and the present expense is $.66 per square foot. The building was occupied in 1936 to the extent of 80 per cent of the then rentable floor space. In 1936, the 5th, 6th and 8th floors had not been improved, but were improved in the year 1941. The building is at the present time 97 to 98 per cent occupied. The net income, or losses as the case may be, from the operation of the building for the years 1933 to 1941, inclusive, are as follows: Loss1933$24,635.42193415,317.0919356,854.79Net Income1936$ 6,234.88193718,045.52193824,543.49193938,998.52194051,286.93194154,845.01293 The losses and net income shown in the table above do not reflect deductions for depreciation and Federal income taxes. The assessed valuation of the building for the years 1933 to 1941, inclusive: 1933$1,176,000.0019341,176,000.0019351,176,000.0019361,097,400.001937985,000.001938842,820.001939734,750.001940559,360.001941559,360.00Real estate taxes imposed against the land and building for the years 1933 to 1941, inclusive, were: 1933$32,000.00193432,000.00193532,806.00193631,813.00193729,694.00193827,567.00193923,826.00194018,606.09194118,325.25The fair market value of the land and building at the time it was acquired at foreclosure sale in 1936 by Detroit Trust Company for and in behalf of the bondholders was $570,000. A proper allocation of this valuation as between land and building is $190,000 as the fair market value of the land and $380,000 as the fair market value of the building. Opinion BLACK, Judge: The issues have already been stated and it will be unnecessary to restate them at this juncture. We will first take up and decide petitioner's issues 1 and 2 as stated in its brief and quoted above. 294 The question presented by issue 1 is whether the respondent erred in determining that during the years 1938 and 1939 the petitioner was a liquidating trust subject to tax as provided by sections 161 and 162, Revenue Act of 1938, and the same sections of the Internal Revenue Code applicable to the year 1939, or was, as contended by the petitioner, a mere agent for the bondholders and not taxable as a separate entity at all. The petitioner also contends in the alternative in issue 2, that if this Court should hold that the taxpayer is a true trust then the Commissioner erred in failing to determine that the trust's net income was used to pay back taxes and for the purpose of making improvements to the Boulevard building, all of which it is alleged inured to the benefit of the beneficiaries of the trust, the former bondholders. Therefore, argues petitioner, the income of the trust is taxable to the beneficiaries of the trust, the former bondholders, under section 167 and the regulations promulgated thereunder, and is not taxable to petitioner, the trust itself. The Board (now The Tax Court of the United States) had substantially the same issues raised by petitioner's issues 1 and 2295 presented to it in the proceeding of Apartment Garages, Inc., Detroit Trust Company, Trustee for Owners of Certificates of Beneficial Interests, Docket No. 104625, Memorandum Opinion, entered May 5, 1942. Respondent cites this case in his brief in main reliance for the determination which he has made. Petitioner concedes in its brief that the Apartment Garages, Inc. case was decided against the contentions which it is making in the instant case, but argues that the Board erred in its decision in that case. We have carefully considered petitioner's arguments and we do not agree that the Board erred in its decision in the Apartment Garages, Inc. case. The declaration of trust involved in the instant case is in evidence and it has been carefully examined. It seems clear that under the terms of the trust, it is not a mere agency for the bondholders nor is the income of the trust currently distributable to the beneficiaries of the trust. It is of course clear that the trustee had the power and discretion to distribute in any year the net income of the trust but the facts do not show that it made any distribution of the income in either 1938 or 1939 to the beneficiaries296 of the trust. It did not pay or credit the net income of the trust in either of the taxable years to the beneficiaries of the trust. Nor do we think that the facts in the instant case bring it within the provisions of section 167, Revenue Act of 1938 and of the same section in the Internal Revenue Code, as contended by petitioner. In the Apartment Garages, Inc. case, supra, it was held that the taxpayer was a taxable trust existing primarily for the acquisition and liquidation of certain property for the benefit of the beneficiaries of that trust and that it was subject to tax as provided by sections 161 and 162 of the Revenue Act of 1936, which were applicable in that case. Sections 161 and 162 of the Revenue Act of 1936 are the same as sections 161 and 162 of the Revenue Act of 1938 and of the Internal Revenue Code. We hold that these sections are applicable in the instant case, and that petitioner is taxable under section 161 and that it is not entitled to a deduction under section 162 (b), on the ground that the net income was currently distributable to the beneficiaries of the trust. We also hold that petitioner is not entitled to a deduction under section 162(c) because297 none of the net income of the trust was paid or credited to the beneficiaries of the trust in either of the years 1938 and 1939. We further hold that section 167 is not applicable in the instant case because the facts do not bring it within the provisions of that section. We, therefore, hold against petitioner as to issues 1 and 2 stated above. Petitioner's assignment of error with respect to the Commissioner's determination of the depreciation base reads as follows: That if any trust was taxable under the provisions of the Revenue Act of 1938 of which the Petitioner was Trustee and which existed during the years 1938 and 1939, with respect to the Boulevard Property, the trustee is entitled to a deduction for depreciation based upon the fair market value of the property at the date of acquisition by it, which, in this case is November 25, 1936. The basis of depreciation should be of a value of not less than $408,000 for the buildings, which valuation represents the fair market value of said buildings on that date. The Commissioner in his brief in respect to this issue, among other things, says: The cost of assets bid in by a mortgage creditor on foreclosure is to be determined298 by the fair market value thereof. Palm Springs Holding Corporation v. Commissioner (1942), 315 U.S. 185">315 U.S. 185. It is recognized that the "bid price" of property does not necessarily constitute the fair market value thereof. However, in the absence of clear and convincing evidence to the contrary, said price constitutes the fair market value of property. Respondent then argues that petitioner has not sustained its burden of proof on this issue. Thus it will be seen that this issue is not one of law between the parties but is one of fact. We think petitioner has sustained its burden of proof on this issue. Petitioner, amongst other evidence introduced on this point, introduced the testimony of Leonard Reaume and Alfred W. Palmer, who testified as to appraisals which they had made of the property as of the date of petitioner's acquisition of the property in 1936. These witnesses have had wide experience in appraising property situated in the City of Detroit and appeared well qualified to testify as experts in the valuation of Detroit real estate. Reaume testified that in his appraisal of the property he arrived at a valuation on the basic date of $620,000299 of which $162,500 should be allocated to the land and $457,500 should be allocated to the building. Palmer testified that the property had a value of $570,000 on the basic date of which $380,000 should be allocated to the building and $190,000 should be allocated to the land. We have carefully examined this testimony as well as all of the other testimony in the record and have found in our findings of fact that the value of the property on the basic date was $570,000, of which $190,000 should be allocated to land and $380,000 to buildings. We deem it unnecessary to go into a detailed discussion of the factors which led us to arrive at these valuations. The facts upon which they are based are stated in considerable detail in our findings of fact, and we think it is unnecessary to report them in this opinion. We realize that it is frequently difficult to arrive at property valuations retroactively. We are convinced, however, that the property here involved had a value of at least $570,000 on the basic date in question. We are not convinced that it had any higher value than that and we have, therefore, fixed that figure as the valuation of the land and building. The deficiencies should*300 be recomputed using in the depreciation base $380,000 as the value of the Boulevard building at the time it was acquired by petitioner in 1936. There seems to be no dispute as to the cost of capital improvements added to the building since the date of acquisition. Decision will be entered under Rule 50.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621916/	Sabino F. Ciorciari v. Commissioner.Ciorciari v. CommissionerDocket No. 90201.United States Tax CourtT.C. Memo 1963-162; 1963 Tax Ct. Memo LEXIS 182; 22 T.C.M. (CCH) 784; T.C.M. (RIA) 63162; June 11, 1963Sabino F. Ciorciari, pro se, 474 60th St., Brooklyn, N. Y., Stephen M. Miller for the respondent. RAUMMemorandum Findings of Fact and Opinion Respondent determined a deficiency in petitioner's income tax in the amount of $342.62 for the taxable year ended December 31, 1959. The sole issue is whether expenses incurred by petitioner, a Housing Assistant employed by the New York City Housing Authority, in taking graduate courses in housing and public administration are deductible under Section 162(a) of the Internal Revenue Code of 1954. Findings of Fact Some of the facts have been stipulated and are incorporated herein by this reference. Petitioner timely filed his Federal income tax return with the district183 director of internal revenue, Brooklyn, New York, for the taxable year ending December 31, 1959. Petitioner graduated from Brooklyn College, Brooklyn, New York, in June 1948, with the degree of Bachelor of Arts, after attending evening classes from January 1938 to June 1948. He worked for the Welfare Department of the City of New York from approximately October 1948 to July 1958. On July 21, 1958, he became employed as a Housing Assistant for the New York City Housing Authority at a gross salary of $4,227.74. A Bachelors Degree from an accredited college or university was the only educational requirement for this position. During 1959 petitioner enrolled in the New York University Graduate School of Public Administration as a candidate for the degree of Master of Public Administration. The courses taken by petitioner during 1959 were as follows: 1. Public Administration 2. Housing and Urban Renewal 3. Housing Law & Administration 4. Regional Planning 5. Principles of Organization & Management 6. Administrative Methods & Techniques 7. History of Administrative Ideas & Institutions The cost of the foregoing courses was $720, which petitioner duly paid in 1959 and184 deducted, along with an additional $87 expended for textbooks. Although taking courses in the housing field was though to be desirable and although it appears to have been the policy of the City of New York to encourage educational programs for its employees, the New York City Housing Authority did not require petitioner to take any courses or obtain a degree of Master of Public Administration as a condition to retention of salary, status or employment. During the taxable year in question it was not customary for Housing Assistants employed by the New York City Housing Authority to undertake such educational pursuits as petitioner undertook. There was no new position or substantial advancement automatically accruing to a person in petitioner's position who obtained an advanced degree; promotions were generally based upon performance on a written examination given by the New York City Housing Authority. The parties have stipulated that petitioner's duties as a Housing Assistant were primarily in the field of rent collection, but the record discloses that petitioner's duties normally encompassed a wide variety of welfare problems and liaison with other public agencies; the stipulation185 is to be interpreted in the light of these facts. Petitioner, in his Federal income tax return for the year in question, characterized the educational expenses in question as being for " * * promotional tests and advancement in the field of employment * * ". Petitioner is presently employed by the New York Housing Authority in the same job that he held in 1959, namely, that of Housing Assistant. Opinion RAUM, Judge: Petitioner, who is not a lawyer, appeared on his own behalf at the trial. Although this circumstance does not relieve him of the burden of proof, nor are the rules of evidence to be relazed in his favor for that reason, the evidence must nevertheless be evaluated in the light of the rather loose and informal way in which it was presented. 1If petitioner were taking the courses in question primarily for the purpose of obtaining a new and higher186 position, cf. Sandt v. Commissioner, 303 F. 2d 111 (C.A. 3); Namrow v. Commissioner, 288 F. 2d 648 (C.A. 4), affirming 33 T.C. 419">33 T.C. 419, certiorari denied, 368 U.S. 914">368 U.S. 914; Joseph T. Booth, III, 35 T.C. 1144">35 T.C. 1144, or if he were merely fulfilling general educational aspirations, the claimed deduction would plainly not be allowable. On the other hand, educational expenses in connection with courses reasonably thought to be related to one's job or profession and not taken primarily for the foregoing reasons may qualify as deductible expenses under our internal revenue laws. Cf. Cosimo A. Carlucci, 37 T.C. 695">37 T.C. 695; John S. Watson, 31 T.C. 1014">31 T.C. 1014. The problem herein is to evaluate the present record in the light of these settled principles. The issue is a close one, but we have concluded that petitioner undertook these courses for the principal purpose of improving his skills as a Housing Assistant, and that the claimed deduction should be allowed. Petitioner impressed us as a conscientious person, sincerely interested in doing a good job, who regarded seriously the official encouragement to take additional educational187 courses. The Government points out that the content of a number of the courses taken by petitioner had but very little direct relationship to his job. Perhaps this is so. But we think that the Government takes an unduly narrow view of the matter. A publication by the New York City Housing Authority entitled "Guide for the Housing Assistant" which petitioner submitted with his brief, refers to the job of Housing Assistant as a "professional one", states that to do the job properly "requires being alert to current developments and thinking in the housing field", and, after calling attention to the numerous university and college courses available in and around New York in relation to "city planning, public housing, urban renewal and related fields", states further that: The Authority believes that greater knowledge of the housing field will lead to greater interest, job satisfaction and competence in carrying out your job. While it is true that this pamphlet is technically not in evidence, much of what it sets forth is fairly inferable from the evidence before us. In any event, we are of the opinion that the conclusions there stated are sound. We think that, on the whole, the courses188 taken by petitioner were reasonably thought by him to be related to his job, that he took them primarily for that reason, and we hold that the contested expenses are deductible. Decision will be entered under rule 50. Footnotes1. Indeed in Devereaux v. Commissioner, 292 F. 2d 637↩ (C.A. 3), the Court of Appeals even disregarded a certain concession in a stipulation of facts in a pro se case involving a nonlawyer taxpayer as "being burdensome to the conscience of a court of justice, and one which we must reject." p. 640.. By official order of the Tax Court, dated July 12, 1963 and signed by Judge Raum↩, the statement "Decision will be entered for the petitioner" was deleted and the present wording substituted therefor.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621920/	FIFTH AVENUE BANK OF NEW YORK AS EXECUTOR OF THE ESTATE OF CETTIE G. SHEPHERD, DECEASED, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Fifth Ave. Bank v. CommissionerDocket No. 69166.United States Board of Tax Appeals32 B.T.A. 208; 1935 BTA LEXIS 983; March 7, 1935, Promulgated 983 Under a trust indenture decedent was given power to appoint by will those who should take the trust property at her death, but in default of such appointment her issue should take as remaindermen. Decedent died testate, leaving two children who were legatees under her will. They elected to take as remaindermen. Held, the trust property is not includable in the gross estate of decedent. A. P. Bachman, Esq., for the petitioner. Ralph E. Smith, Esq., for the respondent. SEAWELL208 This proceeding is prosecuted for the redetermination of a deficiency in estate tax of Cettie G. Shepherd, deceased, determined by respondent in the amount of $9,243.38. The deficiency is the result of the inclusion in decedent's gross estate of $241,768.99, the appraised value of an estate under a trust indenture in which decedent was given a power of appointment. FINDINGS OF FACT. The facts were stipulated, from which we cull the following, deemed sufficient for the understanding of the case. On November 22, 1918, Alice G. Vanderbilt, of New York, by a trust indenture assigned, transferred, and delivered certain valuable securities to Gertrude Vanderbilt984 Whitney, of New York, and 209 Reginald G. Vanderbilt, of Rhode Island, in trust, to hold, sell, invest, and collect the income and pay from the income the expenses and taxes and other charges and * * * to pay the balance of such income as the same shall accrue and be received to CETTIE GWYNNE SHEPHERD, during her life; and upon her death to convey, assign, transfer and deliver the principal of the trust to such person or persons as she shall by her last Will and Testament direct and appoint, or in default of such appointment to her issue in equal shares per stirpes and not per capita, or in default of such appointment and if she shall not leave issue surviving her, to the issue of said Alice G. Vanderbilt * * * The life tenant and donee of the power of appointment named in the trust indenture is Cettie G. Shepherd, the decedent herein, who died November 6, 1931, a resident of New York City, leaving surviving her two children, William E. Shepherd and Maude Shepherd Harrah. Alice G. Vanderbilt, the settlor, was alive November 6, 1931, and was still alive at the hearing of this matter before a division of the Board. The trustees having resigned, another was duly appointed985 and is the acting trustee. The decedent, Cettie G. Shepherd, left a last will and testament which was duly probated by the Surrogate's Court of New York County on November 17, 1931, and letters testamentary were duly issued by that court to the petitioner herein on November 19, 1931, who is now executor of the estate. It is expressly stipulated as follows: 12. That Cettie G. Shepherd, decedent herein, did not in express terms execute the power of appointment conferred by Trust Indenture, Exhibit D, but the Commissioner holds that such power of appointment was essentially exercised by the residuary clause of Exhibit A. The residuary clause of decedent's will, copied as Exhibit A in the stipulation, is as follows: 3. All the rest, residue and remainder of my estate, of every kind and wherever situated, I give, devise and bequeath unto my children share and share alike, hereby directing that if my said children join in a request that my real property be not sold by my executor, but shall pass to them as tenants in common, my executor shall execute and deliver proper deeds making conveyance accordingly. The attorney who prepared the will of decedent was not informed that986 there was a trust indenture, such as involved here, or of any power of appointment mentioned therein, and never knew of the trust indenture mentioned above until after decedent's death. It is also expressly stipulated as follows: 14. That William E. Shepherd and Maude Shepherd Harrah duly executed and filed with the Collector of Internal Revenue of the Third District of New York, their election to take as remaindermen under the Trust Indenture Exhibit D, as therein provided. 210 OPINION. SEAWELL: The section of the Revenue Act of 1926 here involved is as follows: SEC. 302. The value of the gross estate of the decedent shall be determined by including the value at the time of his death of all property, real or personal, tangible or intangible, wherever situated - * * (f) To the extent of any property passing under a general power of appointment exercised by the decedent (1) by will, or (2) by deed executed in contemplation of, or intended to take effect in possession or enjoyment at or after, his death, except in case of a bona fide sale for an adequate and full consideration in money or money's worth. 987 Heretofore there has existed irreconcilable conflict in some of the court decisions interpreting this statute, which has now been definitely cleared away. The United States Supreme Court, in a decision handed down on February 4, 1935, , dealing with said section of the law on a state of facts comparable to those in the instant case, said: The crucial words are "property passing under a general power of appointment exercised by the decedent by will." Analysis of this clause discloses three distinct requisites - (1) the existence of a general power of appointment; (2) an exercise of that power by the decedent by will; and (3) the passing of the property in virtue of such exercise. Clearly, the general power existed and was exercised; and this is not disputed. But it is equally clear that no property passed under the power or as a result of its exercise since that result was definitely rejected by the beneficiaries. If they had wholly refused to take the property, it could not well be said that the property had passed under the power, for in that event it would not have passed at all. Can it properly be said that because988 the beneficiaries elected to take the property under a distinct and separate title, the property nevertheless passed under the power? Plainly enough, we think, the answer must be in the negative. In the instant case petitioner does not admit that the power of appointment by will was exercised as in ; but even if so admitted, it nevertheless appears that the beneficiaries definitely rejected title in that way and took as remaindermen, as they had the right to do. It therefore appears that title did not pass under the power of appointment given in the trust indenture, and the value of the trust property should not be added to decedent's gross estate. We hold respondent was in error. Judgment will be entered for the petitioner.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4475249/	OPINION. HaRROn, Judge: The petitioner, pursuant to section 40B (e) of the Eenegotiation Act, as amended, seeks redetermination of its excessive profits, if any, under the Eenegotiation Act. The original determination by the Under Secretary of War was made on September 6, 1944. It was a unilateral determination. This proceeding was submitted for decision prior to the decision by the Supreme Court of the three cases which it decided in its opinion in Lichter v. United States, 334 U. S. 742. Among those cases was that of Alexander Wool Combing Co. v. United States, 66 Fed. Supp. 389; affd., 160 Fed. (2d) 103. Eeference to the issues involved in the Alexander Wool Combing Co. case will be made hereinafter. Since the Liehter case disposes of issues relating to the constitutionality of the Eenegotiation Act as applied to the petitioner, those issues will be discussed, as far as is necessary, after consideration of other issues. Issue 1. — The pleadings raise an issue relating to the validity of the determinations made by the Under Secretary of War under the method he employed during the renegotiation process. It is alleged that standards were erroneously applied and data was considered which were not disclosed to the petitioner, preventing its making rebuttal, and thatNKepetitioner did not receive a full and fair hearing by the Government administrative agencies. The petitioner contends that the administrative determination should be held to be void. In making the above contention, the petitioner concedes that a proceeding in this Court is a de novo proceeding. Petitioner is concerned chiefly with the question of burden, of . proof and seeks a ruling that the burden of proof is on the respondent with respect to both the original determinations as well as the affirmative allegation in the amended answer whereby claim is made for increase in the amount of the excessive profits. With this view, we do not_agree. See Nathan Cohen, 7 T. C. 1002. " In Lichter v. United State, supra, pp. 791, 792, the Supreme Court said that the original administrative determinations “were intended to serve primarily as renegotiations in the course of which the interested parties were to have an opportunity to reach an agreement with the Government,” in the absence of which a unilateral determination of excessive profit could be made; that the initial proceeding was not required to be a formal proceeding producing a record for review^ and that, in lieu of such review procedure, provision was made by tbe Congress for a redetermination of excessive profits, if any, de novo by the Tax Court. It is held that the alleged irregularities in the administrative procedure, do not render The unilateral determination' -"void: — The-petitioher has availed itself of the statutory remedy provided by section 403 (e) of the Renegotiation Act by filing a petition for a redetermination in this Court, and has received a hearing in this Court. The respondent has submitted evidence under his burden of proof. Upon all of the evidence adduced, we have made findings of fact, and have considered all of the issues presented by the pleadings. The ultimate decisions are made independently and upon the record made in this proceeding. See Bibb Manufacturing Co., 12 T. C. 665, 672. • Issue 8. — The general question under this issue is whether the petitioner was a subcontractor in 1942 under section 403 (a) (5) of the Renegotiation Act, as amended, which provides as follows: (5) The term “subcontract” means any purchase order or agreement to perform all or any part of the work, or to make or furnish any article, required for the performance of any other contract or subcontract. The term “article” includes any material, part, assembly, machinery, equipment, or other personal property. For the purposes of subsections (d) and (e) of this section, the term “contract” includes a subcontract and the term “contractor” includes a subcontractor. The petitioner strongly resists the respondent’s determination that it was a subcontractor in 1942. The argument advanced by the petitioner appears to be founded upon two conditions which existed in 1942, as follows: The petitioner was given raw wool in lots to process. No lot of wool, to jjg knowledge, was earmarked as destined for use in a particular contract, or if it was, the weaving mill could make allocations at will of the wool to be woven into textiles between civilian and Government orders. Therefore, the petitioner alleges it could not determine what the end use of the wool was. From this, the petitioner argues that it did not perform work on material “required” for the performañcéTy~otÍiers-orcoñSFacEs^rsífbcontracts wi&TtherGovernment; that the term “required” does not mean end use; and that it should not be classed as a subcontractor because others ultimately used some of the wool it processed to fill Government orders. To do so, it is argued, would be to ascribe to petitioner the status of subcontractor upon the basis of decisions relating to allocations of wool over which it had no control, and of which it alleges it had no knowledge until after the fact. The petitioner contends that the “Govern"ment cannot consistently with due process create a liability on the part of one person dependent upon the subsequent acts of other persons beyond his control,” and that the liability which the respondent’s ‘ determination imposed was in substance a penalty for acts “lawful” when done by reason of subsequent events; that the Congress can not retroactively impose upon persons a penalty for making sales of their property for public use at fair market values and at lawful prices. The petitioner contends, also, that the term “subcontract” in the amended provisions of section 403 (a), subsection (5), section 801 of the Revenue Act of 1942, Title VIII, enacted on October 21, 1942, can not be applied retroactively to contracts completed before that date consistently with due process. The petitioner contends that the term “subcontract” can not extend to the work it performed prior to October 21,1942, and that in the period between April 28 and October 21,1942, it had no reason to believe that any part of its business could be classified as renegotiable. The above are substantially all of the petitioner’s contentions under this issue. Those which are not set forth are of like tenor. All have been carefully and fully considered and none has been overlooked. See Stein Brothers Manufacturing Co.,7 T.C. 863, 878. Several questions are raised by the above contentions which are discussed hereinafter, as follows: Whether petitioner’s operations come' within the reach of the term.“subcontractor”; whether the facts support the petitioner’s contentions that it could not determine what proportion or part of its operations in 1942 constituted renegotiable business; and whether the Renegotiation Act as applied to the petitioner’s business in 1942 is constitutional. In Alexander Wool Combing Co. v. United States, 66 Fed. Supp. 389; affd. per curiam, 160 Fed. (2d) 103; affd., 334 U. S. 742, the plaintiff contended, inter alia, that it was not a subcontractor under the act because it had no direct contracts with any Department of the Government, but combed wool only for different private companies, and because although it knew that some of the wool it combed was destined for use in Government contracts, it was ignorant as to the destination of other wool. The United States District Court held that it did not have jurisdiction to consider the question, since the proper procedure, of whiclVthe-petitionef'did not avail itself, was to resort to the Tax Court (Macauley v. Waterman Steamship Corporation, 327 U. S. 540). The Supreme Court sustained this ruling in the Lichter case, supra, p. 792. There is evidence in this proceeding which shows that the Alexander Wool Combing Co. was engaged in the same business as the petitioner, that its stock, like that of the petitioner, was owned by members of certain families who owned stock of NCo; and that some of its stockholders owned some of the petitioner’s stock. This indicates to us that the questions under the present issue are closely similar to those which Alexander Wool Combing Co. attempted to raise in the United States District Court for Massachusetts, as the report in the above cited case shows. Since those questions. were not considered by either the District Court or the Supreme Court, they are now considered for the first time, and they appear to be questions of first impression, under the particular facts, in this Court. We believe that the rationale of the Supreme Court’s decision in the Liehter case disposes of the constitutional questions presented in this proceeding, but we shall refer briefly to them, later. We reach the ultimate conclusion that the general contention of the petitioner that it was not a subcontractor within the coverage of the Eenegotiation Act is not well founded; that petitioner was a subcontractor in 1942 and that, accordingly, the profits from its renegotiable business were subject to renegotiation; and that renegotiation of petitioner’s profits from renegotiable business does not violate the due process or just compensation provisions of the Constitution. (a) Petitioner was within the scoye of the term “subcontractor” dwring 19J$. In considering the questions presented under this issue, a thorough search has been made of the available public records which throw light upon the reasons for and the intent of the Congress in including the terms “subcontractor” and “subcontract” in the original provisions of section 403 of Public Law No. 528, known as the Eenegotiation Act, and for amending section 403, on October 21,1942, to include a definition of “subcontract” under new subsection (5) of section 403 (a), because in this proceeding the question of whether or not the petitioner comes within the coverage of the act has appeared to be, in the first instance, a difficult and close question. The combing of wool is the -.^first fabrication_of-a raw material, and the petitioner performed its services"fdFaTprivate concern which had no direct contracts with any Government Department. Since the petitioner is far down the line of production, the questions it has raised must receive the most careful consideration, and, therefore, the legislative background of the provisions in the Eenegotiation Act relating to subcontractors has been reexamined at the expense of some duplication of the review which was given of the legislative background in National Electric Welding Machines Co., 10 T. C. 49. Consideration of the intent of the Congress has been given with particular recognition of the nature of the petitioner’s business as far as is disclosed by the record in this proceeding. The provisions of section 403, as originally enacted, applied to all contracts with a Government Department, and to all subcontracts thereunder, whether or not any of them contained -a renegotiation clause and even though made prior to April 28, 1942, provided that final payment under a contract or subcontract had not been made prior to that date, if, in the opinion of a Secretary of a Department of the Government, excessive profits had teen realized, or were likely to be realized. Subsection (c) of section 403. Under this wording, the coverage of the act was very broad. Where contracts or subcontracts were to be renegotiated, it was the intent of the Congress that they should be “renegotiated all the wav down the line,” and that the act would apply to contracts already made. (Cong. Rec., Apr. 7, 1942, pp. 3480, 3481, 3482.) The original proposal for renegotiation of war contracts, the Case amendment to the Sixth Supplemental Defense Appropriation bill, did, not apply to subcontractors. (Sec. 402A, H. R. 6868, 77th Cong., 2d sess.; Cong. Rec., March 28, 1942, p. 3228.) To the omission of subcontractors, the Secretary of the Navy expressed objection to the Senate Subcommittee on Appropriations, as follows: “This section would cover only prime contractors and thereby exclude subcontractors as.now covered under the Vinson-Trammell Act.” Hearings before the Subcommittee of the Committee on Appropriations, U. S. Senate, 77th Cong., 2d sess., on H. R. 6868, March 31, 1942, p. 69. Other objections to the wording of the Case amendment led to the drafting of a substitute amendment by representatives of the Departments of the Army and the Navy, and the Maritime Commission, at the request of the chairman of the Senate Subcommittee on Appropriations, who presented it to the Senate, and which was finally enacted as section 403 of Public Law No. 528. Cong. Rec., Apr. 7,1942, p. 3480. The statute was “Somewhat crude in its initial statutory simplicity,” Lichter v. United States, supra, p. 766, and in September of 1942 the Departments charged with the administration of the Renegotiation Act brought to the attention of the Senate Committee on Finance the need for clarifying amendments based upon their experience since April 28,1942, which would “clarify” but not change the purpose and policy of the act. Hearings before the Senate Committee on Finance on section 403 of Public Law No. 528, 77th Cong., 2d sess., Sept. 22, 23, 1942. Among the clarifying amendments which were indicated to be necessary was one to define the term “subcontracts.” Two of the reasons which caused the recommendation were (1) the obligation of contractors under section 403 (b) to insert a renegotiation clause in subcontracts, and (2) a decision by the Board of Tax Appeals, on August 13, 1942, in Aluminum Co. of America, 47 B. T. A. 543; reversed, 142 Fed. (2d) 663; certiorari denied, 323 U. S. 728, that a supplier to a prime contractor, under the Vinson-Trammell Act of fabricated or semifabricated materials which were either regular commercial products, catalogued for ordinary commercial use, or required additional fabrication, was not a “subcontractor” under the Vinson Act. The Vinson Act did not define the term “subcontractor.” As a result of the above decisioh^doubt arose6 asto the propriety of the Price Adjustment Board’s interpretation of the term “subcontract” in the Renegotiation Act, which interpreted the term as including any purchase order from a contractor “ (iii) to make or furnish any article destined to become a component part of any article covered by this contract, or (iv) to make or furnish any articles acquired by the contractor primarily for the performance of this contract,” and which defined “articles” to include any supplies, materials, machinery, equipment, or other personal property. A subcommittee of the Finance Committee considered several proposed clarifying amendments of section 403, and, in ¡the course of its hearings on September 29 and 30,1942, the meaning of the term “subcontract” was given extensive consideration. The definition of subcontract which was finally agreed upon by the Departments of War' and Navy, and the Maritime Commission, and which became subsection 5) of section 403 (a), as amended by section 801 of the Revenue Act of 1942, approved~Octobef 21,1942, emerged out of discussions of narrow and broad interpretations of the term “subcontract,” exemptions from the act, the necessity for reducing the costs of all materials flowing into war production, and considerations of various proposed definitions of “subcontract.” All participants in these discussions were agreed upon one principle — that the term “subcontract” in section 403 as originally enacted was intended to have the broadest meaning — to include all subcontracts. The question was whether to adhere to that broad scope or to narrow the scope, as the War Department alone favored. The War Department proposed that “subcontract” be defined to mean “any purchase order or agreement to perform all or any part of the-work, or to make or furnish ány~article required for the performance of another contract-e?fc&W^ . * * (i) raw materials, (ii) standard commercial fábncateáor serm-fábricated articles ordinarily sold for civilian use. * * ” (Italics supplied.) It was stated in a memorandum to the subcommittee that the exception of “standard commercial fabricated or semi-fabricated articles” from the proposed definition reflected the view expressed by the Board of Tax Appeals in the Aluminum, Co. case, supra, would exclude material-men, and would leave prices of raw materials and standard articles ordinarily sold for .civilian use “for regulation by the Office of Price Administration.” Hearings on section 403 of Public Law No. 528, before the Senate' Subcommittee on Finance, 77th Cong., 2d sess., September 29, 30,1942, p. 54. The Navy submitted a broader definition of “subcontract” which is set forth in the margin,7 and expressed the view that “it was the intention of Congress that excessive profits should be removed from all war contracts, irrespective of whether such contracts were of the character referred to in (1) and (2) above [raw materials and standard commercial articles]. For this reason, the Navy Department has proposed a definition of subcontract which includes virtually all contracts made with prime contractors of the Government.” Page 58 of the Hearings before the Subcommittee on September 29, 30, 1942, supra. The Maritime Commission made the following objection: “If the Congress were now to exclude materialmen in defining ‘subcontract’ for the purposes of Public Law No. 528, section 403, it would seriously impede the administration of the recapture provisions of laws previously enacted.” Hearings before the Subcommittee, Sept. 29, 30, 1942, p. 124. Certain coal and lumber associations proposed that there should be exempted subcontracts for “any general commercial commodity subject to a ceiling price,” and consideration was given to exempting certain raw materials, principally minerals. Finally, the War and Navy Departments and-the Maritime Commission agreed upon a definition of subcontract which was broad in its scope, which rej ected the narrow definition of the War Department, and which went further than the proposal of the Navy Department in that it covered any purchase order to furnish or make any article required for the performance of any other contract or subcontract, thus going beyond the first tier of subcontracts. The definition tvhich was agreed upon was in certain respects about the same as the definition which the War Department Price Adjustment Board had adopted in its interpretation of section 403 as originally enacted, in “Principles, Policy and Procedure To Be Followed in Renegotiation, [p. 7]”8 dated August 10, 1942, which is in evidence in this proceeding, and which was submitted to the Finance Committee. However, the definition agreed upon was broader than the administrative definition because it included subcontracts beyond the first tier of subcontractors. The Hearings of the Finance Committee on September 22, 1942, and of the Subcommittee on September 29, 30, 1942, show that among the reasons which led to agreement upon the broad definition of subcontract which became part of section 403 (a), as subsection (5), were the following: The purpose of reaching out as far as possible to limit profits (Hearings, Sept. 29, 1942, p. 127). Reduction of costs of goods ultimately paid for by the Government as a basic means for reducing excessive profits; elimination of “piling up” costs, “padding” costs, “inflating” costs, and control of costs “from the beginning until it is produced.” Pages 9, 10, 11, 12, 13, 14, 15, 33, 35, 37, 38, 40, 41, 42, 50, 51 of the Hearings on September 22, 1942; page 8309 Congressional Record, Oct. 10, 1942; and pages 7, 127 of the Hearings on September 29, 30, 1942. And that O. P. A. ceiling prices would not control excessive profits because O. P. A. prices contemplated a relatively normal volume of sales, and they did not achieve the purpose where increased volume resulted in lower costs. In this connection, it was pointed out that articles ordinarily sold for civilian use were being sold in great volume for war purposes, and that large volumes of sales even at O. P. A. ceiling prices brought in excessive profits. Pages 124, 125 of Hearings on September 29, 30, 1942. See also pages 68, 123-5, 127, 128, 135, 136, 147, 148, Hearings on September 29, 30, 1942, supra. Because of the broad scope of the definitionof “subcontract” which was agreed upon and which by itself eveiV included..raw-materials, a new section was enacted in the amendments of October 21, 1942, to authorize exemptions from renegotiation, new subsection (i). Subsection (i) (1) (ii) exempted certain raw materials, mineral, and natural deposits and timber. But it was not until the reenactment of the Renegotiation Act, Title VII of the Revenue Act of 1943, on February 25, 1944, called the Second Renegotiation Act, that provision was made for exempting agricultural commodities in their raw or natural state. See subsection (i) (1) (C) of section 403, as amended by section 701 of the 1943 Revenue Act.9 This amendment was made retroactive to the date of the original Act, April 28, 1942; section 701 (d), 1943 Revenue Act. At no time in its considerations of the various proposals to amend the act, including the amendments of February 25, 1944, did the Congress authorize exemption from renegotiation of “standard commercial fabricated or semifabricated articles ordinarily sold for commercial use,” even though repeated requests were made. In the report of the House Naval Affairs Investigating Committee on Renegotiation of October 7,1943, 78th Cong., 1st sess., H. Rep't. No. 733, pp. 14 — 16, the matter was reported to the House, and it was recommended that “It seems preferable that the claims of particular industries, such as the textile industry, the shoe industry, and the lumber industry, be resolved by administrative action rather than by preferential legislation.” In view of the fact that the same contentions as are made in this proceeding were made to the “Departments” and to Congressional committees, and to the House of Representatives, but were not considered to be sound, in the end, there is set forth in the margin a rather full quotation from the above report.10 In the Second Renegotiation Act, which applies to fiscal years ending after June 30, 1943, excepting for certain amendments made retroactive to April 28, 1942, a new subsection was enacted which defined “standard commercial article,” and the War Price Adjustment Board was authorized to interpret by regulation that definition, but the new subsection was not made retroactive to April 28, 1942, but applied only to fiscal years ending after June 30, 1943. See sections 403 (a) (7), and 403 (i) (2) of the act as amended by section 701 (b) of the Revenue Act of 1943, and section 701 (d) of the Revenue Act of 1943. Two other points should be made clear. The Congress was advised of the War Department Price Adjustment Board’s interpretations of the original act, dated August 10, 1942, and of the administrative procedures which it had developed and followed, when the Congress enacted the amendments of October 21, 1942, and those amendments were enacted “in the light of the above mentioned directive and without restricting its effect.” Lichter v. United States, supra, p. 783. The “Departments” promulgated a further Joint StatemenCof— Purposes, Principles, Policies and Interpretations,” dated March 31,1943, under the Renegotiation Act, as amended October 31, 1942, which set forth interpretations of the act and the administrative policies. In this Joint Statement the scope of the term “subcontract” was set forth at pages 10 and 11. Some of the pertinent part of it is set forth in the margin.11 In the Joint Statement the principle for making allocation between renegotiable and nonrenegotiable sales was set forth. It was, briefly, that allocation of sales would be made on the basis of use, and sales of articles having a war end use, i. e., incorporated into the end product made under a Government contract or subcontract, would be subject to renegotiation. The extent to which the production' of the ;■purchasers to whom sales were made was renegotiable would be the test to be applied in making allocation between renegotiable and nonrenegotiable sales.12 In 1943 there were further amendments of the original act, and in the early part of 1944 the act was reenacted as Title VII of the 1943 Revenue Act. See Public Laws 108 and 149, of July 1, 1943, and July 14, 1943, 78th Cong., 1st sess.; and the 1943 Revenue Act. The Joint Statement of March 31, 1943, was made known to the appropriate Congressional committees. Hearings before the House Committee on Naval Affairs, 78th Cong., 1st sess., vol. 2, pp. 469, et seq., 1025-1039, especially 1030 (1943). And it was “substantially incorporated into the statute” enacted on February 25, 1944. Lichier v. United States, supra, p. 783. The Joint Statement thereby “became an express Congressional definition of the factors appropriate for consideration” in construing the scope of the definition of “subcontract,” subsection (5) of section 403 (a), and in applying the definition. Lichter v. United States, supra, p. 783. When subsequent amendments of the act were considered in 1943 and 1944, some proposals were made to reduce the area of renegotiation, but with one or two exceptions not pertinent here, they were rejected and the definition of “subcontract,” enacted in October, 1942, remained the same in the Second Renegotiation Act. The appropriate Congressional committees were advised of objections of the textile industries and. of the Boston Wool Trade Association to renegotiation. The latter association submitted a brief in which the same contentions which are made in this proceeding were made.13 Review of the considerations of the Congress after October 21, 1942, show that it was understood that the term “subcontract” extended to orders for materials which were to be a component part of, or incorporated into an article which was made under Government contracts. From all of the voluminous records of the legislative considerations of the meaning of the term “subcontract,” and the scope of the definition which was adopted as a clarifying amendment, it must be concluded that the administrative practices with respect thereto were approved by the Congress as coming well within the scope of the Congressional intent and policy. If they had not been so approved, further amendments by the Congress would have been enacted to rectify administrative error. Eeview of the legislative hearings which preceded and attended the adoption of the definition of subcontract convinces us that in this proceeding it is correct to adopt the views previously expressed by this Court that “The statutory definition of a subcontract is extremely broad,” Grob Brothers, 9 T. C. 495, 501; and that “the mischief at 'wliicE'the legislative remedy was aimed required that the term ‘subcontract’ be used so as to sweep into the scope of the legislation all activities directly related to production for the war-making Departments”; and that this could not be done without including articles “bought primarily for the purpose of producing products with a war-end use." (Italics added.) National Electric Welding Machines Co., supra, p. 60. Under section 403 (i) (1) (C) of the Second Eenegotiation Act, defining exempt agricultural commoditleSptírerWaFPrice Adjustment Board, as authorized under subsection (i) (2), in the Joint Eenegotiation. ManualJor fiscal years ending prior to June SOj lSlJjlhEerp1'6^ subsection (i) (1). (C), as it applied to wool, to mean that the last form or state to which the exemption applied was grease wool, as clipped from live animals. Joint Eenegotiation Manual, secs. 343.3 and 844.14 Under this interpretation, the processes which the petitioner performed were not exempt. Resort has been made to the legislative background because the question ds one of first impression and, as stated before, is a close one. Our conclusion is that the petitioner’s operations under orders to sort, scour, and comb wool come within the scope of the term “subcontract.” Wool tops and noils are the basic material in the yarns which are woven into textiles, and are materials which become incorporated in and are the component part of textiles. Although a processor, the petitioner’s work was so essential to that which the seller of tops and noils sold, the seller being a materialman, that the petitioner was also a materialman in the broadest sense of that term. The petitioner’s processes yielded a semifabricated article. There is' no doubt that the Congress intended to and did define the term “subcontract” so broadly that it covers the petitioner. Proposals to exempt materialmen and suppliers of semifabricated articles which customarily are used in the production of civilian goods were rejected by the Congress when it enacted on October 21, 1942, the amendment which clarified the meaning of “subcontract” in the Renegotiation Act. Finally, we are unable to conclude from anything in the record before us that the administrative interpretation of exempt agricultural products was unreasonable or wrong as applied to wool. It is concluded, therefore, that the petitioner’s processing was not within the exemptions allowed by subsection (i) of section 403, as amended. The question of whether the sorting operation was exempt will be considered hereinafter. There is the further question of whether the petitioner’s operations on orders for which payment was completed prior to October 21,1942, did not come within the coverage of the act because the term “subcontract” was not defined in the act until the amendment was enacted on the above date. Having reviewed and having set forth at length above the legislative intent with respect to the meaning of the term “subcontract” in the original act, it is concluded in this proceeding that the amendment which inserted a definition of “subcontract” only clarified and declared beyond doubt the meaning of that term in the original act, and did not represent a change in, the existing statute. The term “subcontract”"was used from the beginning with a breadth sufficient to cover the work and processes of the petitioner upon orders in existence but not finally paid for on April 28, 1942, and upon orders received thereafter and paid for before October 21, 1942. National Electric Welding Machines Co., supra, pp. 60, 61, 62. We are asked to construe the meaning of the word “required” ,in the definition of “subcontract” — “required for the performance of any other contract or subcontract.” The petitioner contends that under the facts in this proceeding the fact that material which it processed was used by others in filling orders under Government subcontracts or contracts is not determinative of the general question whether the petitioner is subject to renegotiation. In other words, the petitioner objects to the test, which the respondent has applied, of the “end-use” of the materials which it processed during 1942. The interpretation of the term “subcontract” which was made by the War Price Adjustment Board, which has been quoted above (footnote 10), was that the definition included “contracts with contractors and subcontractors (a) for the sale or processing of an end product or an article incorporated therein.” It has been pointed out above that Congressional approval was given to the Joint Statement of March 31, Í94-3. The expression “end-use” appears to be a convenient and voluntary expression which may have been generally used, but the administrative interpretation has consistently referred to “an end product or an article incorporated in an end product by chemical, physical or mechanical methods” (section 333.3, Joint Renegotiation Manual for fiscal years ending on or prior to June 80,1943.) The term “required” was intended to mean directly related to the production of goods under any subcontract or contract for,the production of goods under Government orders. This is clear from the reports of various Congressional committees which considered the various amendments which were made to the Renegotiation Act. If the dictionary definition is helpful, the verb “require” is' defined to mean “to render or find indispensable.” The legislative background which has been reviewed shows that the principle of “over-all” renegotiation was intended by the Congress ; that the definition of “subcontract” was not limited to the first tier of subcontractors; and that the definition of “subcontract” refers to any purchase order or agreement to perform all or any part of the work, or to make or furnish any article, required for the performance of another contract or subcontract. Section 403 (c) authorized the Secretary of each Department and directed him to require a contractor or subcontractor to renegotiate the contract price whenever in his opinion “excessive profits have been realized, or are likely to be realized, from any contract with such Department or from any subcontract thereunder.” It is concluded, therefore, that the determination of the respondent in this proceeding was not in error because he held that the petitioner, in 1942, performed work on orders for materials which, in fact, were incorporated in, by mechanical methods, an end product which was produced under other subcontracts and contracts to fill Government orders. In other words, the word “required” is properly construed to cover purchase orders or agreements to perform work or furnish an article the end use of which is required for the performance of another contract or subcontract. The question raised by the petitioner is, rather, whether the procedure followed by the War Price Adjustment Board in making allocation of a subcontractor’s sales and profits between his nonrenego-tiable and bis renegotiable business is reasonable and proper under tbe act. That is the real point at issue under the petitioner’s objection to the test of “end-use” in determining whether any of the profits from its business are renegotiable. This point is not discussed in the petitioner’s brief, but we perceive it to be the crux of the matter, and therefore consider this question. At various times in the hearings held by appropriate Congressional committees, representatives of the War Price Adjustment Board appeared and discussed the administrative procedures which had been developed under the Renegotiation Act; and the method of making allocation between nonrenegotiable and renegotiable business was presented to the committees. That procedure is also described in the Joint Statement of March 31,1943, pages 10 and 11 (see footnote 12), which was approved by the Congress. The Joint Renegotiation Manual, applicable to years ended before June 30,1943, provided the same procedure for determining the amount of renegotiable business as distinguished from nonrenegotiable business. . The question is whether these procedures were reasonable, and were within the intent and policy of the Congress under the Renegotiation Act. The following interpretations and procedures appear in chapter III, Section 3, of the manual: 533.4. General Effect of Intekpbetatton. (1) In general it is intended to include as subject to statutory renegotiation the sale of all machinery, equipment, materials and other articles which contribute directly to the actual production of an end item or an article incorporated therein, in connection with the physical handling of the item from the time of entry of the component materials to departure of the item from the plant in question. * * iÜ * * * (3) It is not intended, however, to exclude from renegotiation any articles sold directly to a Department, or to a contractor when the items are to be ultimately resold to a Department either as end products or as component parts included therein. 333.5. Allocation of Sales. Sales of such machinery and equipment are allocated on the basis of the use thereof (i. e., for renegotiable or non-renegotiable production) ; and when the extent of the use can hot be readily established, such sales are considered renegotiable in substantially the same proportion as the production of the purchasers of the machinery and'equipment is subject to renegotiation. It was part of the duty of those administering the Renegotiation Act to apply the provisions of the act to the lower tier subcontractors, and the problems involved are reflected in the statement in paragraph 320 of section 2, chapter III, of the Manual, as follows: * * * but in practice, the difficulty of tracing and identifying all sales with exactness, especially under lower-tier subcontracts, often necessitates the use of general methods of segregating renegotiable and non-renegotiable business and expenses. In the first instance, the subcontractor himself was called upon, in all cases, to make the segregation of sales and the allocation of costs between the two types of business. Under section 403 (c) (5) of the Renegotiation Act contractors and subcontractors could file statements of costs with the Departments concerned. Also, all companies engaged in war production had to file with the War Production Board reports for their particular raw materials, and most of these reports required a segregation of shipments between products ultimately used for the war effort and products consumed for civilian purposes. Various methods of making segregation are set forth in the Manual (par. 322.4); but,.in the instances where a contractor might not be able “specifically to identify all or part of his sales as subject or not subject to renegotiation,” other methods were suggested which were “calculated to provide a reasonable and equitable division between renegotiable business and nonrenegotiable business.” (Par. 322.3.) It is to be noted also that the Renegotiation Act covered subcontracts which did not have a renegotiation clause in the contract. Altogether, we can not say that the War Price Adjustment Board, in the Joint Renegotiation Manual, did not provide reasonable procedures for the determination of allocations between nonrenegotiable and renegotiable business. Nor can we say that these administrative procedures were not within the scope of the act and of the policy and intent of the Congress; or that they were unreasonably applied to the petitioner, from the record which is before us. It is concluded, therefore, that the respondent did not err in the allocation which he made of the petitioner’s business in 1942 between its nonrenegotiable business and its renegotiable business on the basis of facts which showed the “end-use” of the materials which the petitioner processed during 1942. The foregoing relates to the questions of law presented which are concerned with the coverage of the act as applied to the business of the petitioner. Under this particular part of the issue, all of petitioner’s contentions are overruled. The next question to be considered is a fact question, whether the evidence in this proceeding supports the petitioner’s contention that no part of its operations in 1942 constituted renegotiable business. (b) TJnder the facts, part of petitioner's 1942 business is renegotiable business. The petitioner has stipulated that for the purposes of this proceeding all of its business for which final payment was received after April 28, 1942, came from NCo, that its receipts from sales of wool grease came from three customers of NCo who advised it that $19,240.37 of such sales was ultimately used in the performance of Government contracts ; and that customers of NCo who paid petitioner for the process of cutting (only) wool tops, advised petitioner that $1,085.13 of such cuttings were ultimately used in the performance of Government contracts. The petitioner has stipulated that customers of NCo who purchased wool tops and noils which the petitioner combed in 1942 advised NCo that of the work petitioner performed in sorting, scouring, and combing wool, charges aggregating $274,746.85 were for the work of petitioner on material which was ultimately used in the performance by them of Government contracts. NCo obtained the information upon which the above stipulations are based from its customers. NCo appears to have been a subcontractor, itself, selling material in 1942 to others who incorporated the material in goods which were made to fill Government contracts. Two officers of NCo gave testimony in this proceeding. Presumably they knew who their customers were in 1942, who paid for wool tops and noils after April 28, and what the information was which NCo received upon inquiry about the civilian and Government orders for which materials purchased from NCo were used. Nevertheless, the petitioner failed to offer any evidence to support, explain, or qualify the stipulations it made, as set forth above and in the findings of fact. For example, it seems reasonable to believe, in view of petitioner’s stipulations, that the petitioner could have produced more detailed evidence about the customers who purchased the wool products which the petitioner processed in 1942, the extent of the nonrenegotiable .and of the renegotiable business of those customers, whether they had furnished reports to the War Price Adjustment Board showing the amount and source of the wool tops and noils which they used in both nonrenegotiable and renegotiable business in 1942 or early in 1943, and whether the goods into which they incorporated the materials which the petitioner processed in 1942 were made to fill Government orders then in existence. But the petitioner failed to introduce any evidence about these matters. The record in this proceeding does show that in 1942 weaving mills were unable to keep on hand an inventory of wool tops or wool noils because the demand for wool textiles was so great; that it required about two weeks for the petitioner to comb wool under orders; that the Government contracts in 1942 called for wool tops of grade 64 and 62, only, which were the grades petitioner combed in 1942; and that the petitioner “surmised” in 1942 that wool it combed was to be used in making textiles under Government orders. The petitioner, in our opinion, has failed to make a case for itself under the fact question, and we can not sustain its contention that none of its profits in 1942 are renegotiable upon the ground of mere allegation that it could not ascertain whether the wool it processed in 1942 was incorporated in goods made under Government contracts. The stipulation is specifically that the petitioner received payment in 1942, after April' 28, of $295,022.35, and profit therefrom of $95,643.25, for work on materials which were ultimately used by others in filling Government contracts. Petitioner has taken the position that it is willing to rest upon the stipulations rather than go forward and present direct evidence about the orders under which it processed materials, if the question of whether it was within the coverage of the act in 1942 is determined by this Court in the affirmative. The question of coverage in this proceeding is a mixed question of law and of fact. It has been held above that the definition of “subcontract” is broad; that “required” includes materials directly used as a component part of articles made under Government contracts or subcontracts ; and that the respondent had the duty and power to make allocations, under the act, between nonrenegotiable and renegotiable business. Under the fact question, it is held that the petitioner has failed to show that it did not have renegotiable business or sales in 1942 for which it received payments after April 28 in the gross amount of $295,022.35. The stipulations support the conclusion that petitioner had renegotiable business in that gross amount. The petitioner has agreed that the renegotiable profit amounted to $95,643.25. The respondent presumably made allocation between the nonrenegotiable and the renegotiable business of the petitioner upon the basis of information which was provided by NCo. If the respondent’s determination was wrong, arbitrary, or unreasonable, the petitioner should have, and we believe could have, demonstrated the above matters in this de novo proceeding through the officers of NCo, or through customers of NCo. These things, petitioner did not do. It is concluded, under the stipulations and evidence in this proceeding, that the respondent did not err in determining that petitioner’s renegotiable business in 1942 was in the gross amount of $295,022.35, and that the profit realized was $95,643.25. We have given consideration to other contentions, namely, that the petitioner may not have ascertained until after it completed work on orders in 1942, and received final payment, what proportion of the semifabricated material which was produced by its processing was required for the performance of other subcontracts or contracts with the Government; that renegotiation was not made of its 1942 renegotiable business until 1944; that there were no clauses in any orders or agreements under which it did work in 1942, providing for renegotiation; that it may have been difficuit to identify and trace specific lots of'wool tops and noils which petitioner processed in 1942 to their incorporation in other materials which were made under Government oi'ders; and that customers could allocate the semifabricated or fabricated wool, at will, to materials made for civilian consumption requiring the same type and grade of wool as materials to be made under Government orders. These points are answered, briefly, as follows: Section 403 (c), as originally enacted, and as amended, provided that the Act “shall be applicable to all contracts and subcontracts hereafter made and * * * heretofore made,” whether or not they contained a renegotiation clause. The legislative history shows that in the Congressional debates it was recognized that renegotiation would be made of existing contracts, and of completed contracts, and the provisions of section 403 (c) were enacted over express objections thereto because the statute was intended to be a repricing statute and its purpose was to reduce to reasonable amounts all 'ultimate costs to the Government for materials purchased in pursuance of the war effort. The same general questions were presented in National Electric Welding Machines Co., supra, which involved the renegotiation of profits realized in 1942 under contracts with Defense Plant Corporation created by E. F. C., which was not a “Department” covered by the act originally. It was not until July 1, 1943, that, by amendment, the Eenegotiation Act included among renegotiable contracts, those made with the Defense Plant Corporation. We held that the July 1, 1943, amendment had retroactive force to the date of the original act, and that, so applied, the retroactive provisions were not unconstitutional. We held, also, that the fact that the contracts were paid in full before July 1, 1943, presented a distinction in fact, but no difference in principle from our holdings in Stein Brothers Manufacturing Co., supra; and that the petitioner was a “subcontractor,” since the machines it sold were used primarily to produce products with a “war-end use.” The rationale of the National Electric Welding Machines Go. case controls certain questions raised here. See, also, Lichter v. United States, supra, pp. 788, 789. With respect to the alleged difficulties of tracing the semif abricated product into the materials of which they became a component part, it was the intent and the policy of the Congress that the detailed administration of the act should be delegated to the “Departments”; that the act should include the lower tier subcontractors who provided materials for other subcontractors; and that renegotiation involved making allocations between nonrenegotiable and renegotiable business because standard articles, customarily and ordinarily made for civilian use were being purchased in very large quantities for Government use. Objections to the broad definition of “subcontract” included those about which petitioner complains, namely, the difficulty of tracing standard commercial semifabricated articles ordinarily made for civilian use into Government orders, where the same articles were also purchased to fill civilian orders. Such articles were not exempted under the act. The Eenegotiation Manual provides methods for making segregation where specific segregation is not feasible. The administrative methods set forth in the Manual have not been shown to be unreasonable or arbitrary in this proceeding, particularly in view of the stipulations of the parties. As has been stated in Lichter v. United States, supra, p. 785: It is not necessary that Congress supply administrative officials with a specific formula for their guidance in a field- where flexibility and the adaptation of the Congressional-policy to infinitely variable conditions constitute the essence of the program. It may be said in this proceeding, with equal validity, as was said in the Liohter case by the Supreme Court, that the purpose of the act, its factual background, and the legislative policy as disclosed by the records of the Congress, establish a sufficient meaning for the clause “required for the performance of another contract or subcontract” as it is used in the definition of “subcontract.” There was a sufficient expression of the legislative standard to be applied. It is concluded that the respondent’s segregation of the renegotiable business of the petitioner from its nonrenegotiable business was valid and was not unconstitutional. The petitioner has contended that it is not subject to renegotiation because its charges for all services performed in 1942 did not exceed the rates allowed by O. P. A. The legislative background of the act shows beyond doubt that the Congress intended that the Eenegotiation Act should cover articles sold at prices within O. P. A. ceiling prices, because of the policy of the Congress to reduce costs all down the line of production.15 The contention is rejected. National Electric Welding Machines Co., supra, p. 62. Issue 3. — The question under this issue is whether the provisions of section 403 (i) (1) (C), exempt petitioner’s profits from charges for sorting wool from renegotiation.16 Under issue 2 reference has been made to the limitations of the exemption provisions. See footnote 14. Petitioner does not deny that wool was “actually sold” or had an “established market in its raw or natural state.” However, petitioner argues that the sorting of grease wool, for which petitioner made a separate charge, involved only the handling of raw wool, without any processing, and that the sorting charges are exempt as a “contract or subcontract for an agricultural commodity in its raw or natural state.” We do not agree with this contention. Wool was purchased by the top maker on an established market. It was then brought to petitioner to be combed into tops and noils. There is no evidence that any wool was brought to petitioner for the purpose of sorting, only. The production of tops and noils required that the grease wool be sorted, first, in preparation for succeeding steps in the entire process. After it was sorted it was scoured, carded, back-washed, gilled, and combed. Sorting was only one of the several steps in the entire process, and the proper performance of each step was essential to the performance of the succeeding step and of the total operation. Although petitioner made a separate charge for sorting wool, which appears to have been customary, this is immaterial in view of the integrated nature of its processing. It is held that petitioner’s profits from charges for sorting are properly subject to renegotiation.17 The War Price Adjustment Board was authorized under subsection (i) (2) to interpret subsection (i) (1) (C), and to determine at what point the exemption of various raw materials ended. In the case of wool, the Board determined that the last state of raw wool to which the exemption applied was grease wool. During hearings of the Senate Committee on Finance on proposed amendments of section 403, which were enacted in the 1943 Revenue Act (footnote 17), consideration was given to a request of the Boston Wool Trade Association that the exempt state of wool should include the first processing of raw wool through combing, rather than end at grease wool. Further exemption was requested, but it was admitted that “Wool is sold in its raw or natural state.” The War Price Adjustment Board informed the Finance Committee that it understood that the Congressional intent was to grant exemption of agricultural products only up to the point where the product “left the hands of the original producer and where it got away from the farm, or away from the ranch,” but that “once it got into industry there is no reason for extending the exemption beyond that point.” The chairman of the Finance Committee observed that the first processing which came after the sale of wool was “not necessary for the sale of wool.” The only inference which can be made is that, when new (C) was being considered by the Congress for inclusion in subsection (i) (1), consideration was given to the proposal to make the exempt status of wool broader than the administrative officials considered proper, but the proposals were rejected. The refusal of the respondent to exempt petitioner’s profits from sorting charges was correct under his administrative construction. Petitioner has failed to make a case under this issue; it has not introduced evidence to show that the construction of the exemption , clause as applied to wool was unfair, inequitable, unreasonable, or improper. Therefore, in the light of the record of the considerations of the Finance Committee we are unable to hold that the respondent erred in renegotiating profits from charges for sorting wool. Issue If,. — There remain for consideration questions about the constitutionality of the Benegotiation Act as applied to the petitioner’s profits for 1942. In Lichter v. United States, supra, pp. 189, and 792, the Supreme Court held that the October 21, 1942, amendments were retroactive to April 28, 1942, and that the contracts with private parties made by the Alexander Wool Combing Co. between April 28 and October 21,1942, came within the scope of the act. We make the same holding in this proceeding. In concluding above that the petitioner is a “subcontractor,” we. have reexamined many reports of Congressional committees to ascertain the Congressional intent. Having found clear indication of the legislative intent, the rationale of the Lichter case is applicable, in our opinion, to the questions of constitutionality presented here, and disposes of them specifically in some instances, and impliedly in others. The renegotiation of the petitioner’s profits from its renegotiable business in 1942 was not a taking of private property for public use; recapture of part of its profits is not in the nature of a penalty; and the term “excessive profits” was a sufficient expression of legislative policy. Lichter v. United States, supra, pp. 783, 788; National Electric Welding Machines Co., supra, p. 59. In Lichter v. United States, supra, pp. 758-772, the Supreme Court held that “the Benegotiation Act was a law ‘necessary and proper for carrying into execution’ the war powers of Congress and especially its power to support armies.” The Supreme Court pointed out that controversies under the act were not so much concerned with the general effect of the “plan” of the statute as with “alleged abuse of discretion in its administration,” p. 772. In this proceeding, petitioner’s contentions about the constitutionality of the act are directed at the administrative interpretations and application of the act as applied to its business. Consideration has been given to questions of the validity of the delegation of authority to the “Departments” in construing and applying subsections (a) (5) and (i) (1) (C) of section 403, and to the statutory language thereof with respect to the adequacy of the expression of a legislative standard. Under issue 2 supra, we have discussed the legislative intent. Under the rationale of the Lichter case, we conclude that the term “subscontract” is a sufficient expression of legislative policy and standards to render it constitutional as applied to the petitioner, and that the delegation of administrative authority involved in construing and applying the provisions of the subsections in question was not an unconstitutional delegation of power. We are unable to hold that the administrative interpretations of “subcontract,” and of the last state of an exempt agricultural product — wool—were unreasonable or outside of the Congressional intent and policy. It is held, therefore, that the act as applied to the petitioner is constitutional.18 Lichter v. United States, supra, pp. 757, 758, 765, 770, 771, 778, 783, 787, 188. See, also, United States v. Pownall, 65 Fed. Supp. 147; and Alexander Wool Combing Co. v. United States, 66 Fed. Supp. 889; both affirmed by Lichter v. United States, supra; Spaulding v. Douglas Aircraft Co., 154 Fed. (2d) 419; Welch v. Henry, 305 U. S. 134,147; and National Electric Welding Machines Co., supra. Issue S. — The final question is whether any part of the petitioner’s profits in 1942 from its renegotiable business was excessive within the meaning of that term in the act. Each of the elements to be considered in deciding whether profits are excessive which are set forth in section 403 (a) (4) (A) of the act, as amended, has been considered. It is concluded that part of petitioner’s profits for 1942 were excessive. Petitioner, in processing wool owned by the top maker had no inventory risk, and its profit margin eliminated virtually all risk from its own pricing policy. Petitioner’s total receipts during 1942 amounted to $698,872.96 and its profits before taxes were $226,567.31, which was 32.4 pér cent of both its nonrenegotiable and renegotiable business, so that its margin of profit above costs was about 48 per cent. Even after recapture of profits in the amount originally determined by the Under Secretary of War, petitioner’s profits on its renegotiable business would amount to about 13 per cent, and its profit margin above costs would be over 19 per cent. As of the beginning of 1942, petitioner’s capital stock and surplus totaled $62,718.17. Its profits before taxes on renegotiable business alone amounted to 152 per cent of this total investment. Assuming a refund as originally determined by the Under Secretary of War, petitioner would still retain, as profits before taxes on renegotiable sales, an amount equal to over 60 per cent of its combined capital stock and surplus accounts. Petitioner commenced its operations on May 1, 1940, after the war in Europe had begun and after the impact of war orders had been reflected in the economy of the United States. Consequently, petitioner has no period of normal prewar earnings to serve as a basis of comparison with its profits during 1942. Moreover, petitioner has not introduced any persuasive evidence with respect to the normal prewar earnings of commission combers similar to petitioner. However, the record reveals statistics indicative of the marked effect of the war on the activity of the wool-combing industry generally. It appears that combing activity by commission combers and vertical mills, both using the same combing method as petitioner, increased in 1942 to approximately 184 per cent of the average activity during the years 1936 to 1939, inclusive. During 1942, petitioner’s'prices for its services compared favorably with those of its competitors; its capital was obtained from private sources; and it utilized its productive capacity during extremely long hours. On the other hand, approximately $21,000 worth of the machinery used by petitioner during 1942 was purchased under certificates of necessity, which permitted an accelerated rate of depreciation. Some of this machinery is still in use. Petitioner’s manufacturing technique is not highly complex, and the nature of its work was the same, whether it processed wool for use in making goods under civilian or under Government orders. No expenditures were required by petitioner for postwar conversion of its plant because its production during the war period did not involve any conversion of its machinery and processes to any different plan of operations than it normally followed. Also, petitioner made no inventive, developmental, or other special contributions to the war efforts. The problem is to determine the extent to which the petitioner’s profits in 1942 from its renegotiable business was excessive, i. e., the amount of the excessive profits. The respondent determined in the first instance that profits from renegotiable business were excessive in the amount of $67,500. Then, in this proceeding he asserted that profits were excessive in an additional amount of $15,000. “As to the proposed increase in the amount of excessive profits, the burden of proof rests upon the respondent, while the burden of showing that the original determination is erroneous rests upon the petitioner.” Lehman Machine Co. v. R. F. G. Price Adjustment Board, 10 T. C. 350, 355; Nathan Cohen v. Secretary of War, supra. Upon consideration of all of the evidence and of all the factors set forth in section 403 (a) (4) (A) of the Renegotiation Act, we are unable to conclude that the original determination of the respondent was wrong. His determination that profits were excessive in the amount of $57,500 results in petitioner’s realization and retention of profits in the amount of $38,143.25 from its renegotiable business. The petitioner has not submitted evidence which establishes that the latter amount is not the fair and reasonable amount of profit upon its renegotiable business. On the other hand, the respondent has failed to establish, under his affirmative burden of proof under the issue which he has raised in this proceeding, that profit in the amount of $38,143.25 is “so palpably unreasonable or excessive as to justify” a further decrease in the.amount of $15,000, or any other amount. Nathan Cohen, supra. The respondent introduced very little evidence in carrying out his burden of proof, and that which he introduced fails to convince us that the amount of the excessive profits from renegó-liable business should be increased above that which he originally determined. We have found as a fact, therefore, that the petitioner’s profits from its renegotiable business in 1942 were excessive in the amount of $57,500. Reviewed by the Court. An order will issue in accordance herewith. Hearings before the Senate Committee on Finance on sec. 403 of Public Law No. 528. Sept. 22, 23, 1942, pp. 1, 2, 16, 19, 37, 38, 40, 60, 57, 60. [Hearings before Subcommittee, September 29, 30, 1942, p. 59.] * * * * * # ■ * (5) The term “subcontract” means (a) any purchase order or agreement (i) to perform all or any part of the work to be done or to supply all or any part of the articles to be furnished, under a contract with the Government, (ii) to supply any services required directly for the production of any article or equipment covered by such contract or any portion thereof, (iii) to make or furnish any supplies, materials, articles, or equipment. specifically destined to become a component part of any article or equipment covered by such contract, or (iv) to make or furnish any material, part, assembly, machinery, equipment, or other personal property acquired by the contractor exclusively for the performance of such contract, but shall not include any agreement to supply services or any such articles for the general operation or maintenance of the contractor’s plan or business in those cases where the Government is not obligated to reimburse the contractor for the cost of such articles ; (b) any purchase order from, or any agreement with, a subcontractor who is obligated to furnish completed articles called for under the contract of the contractor with the Government if such purchase order or agreement would be construed under paragraph (a) above as a subcontract if entered into with the contractor, and (c) any agreement of a subcontractor providing for the delivery to such subcontractor of completed articles called for under his subcontract. III. Contractors and Subcontractors Who May Be Required To Renegotiate. * * * * * * * The term “subcontract” includes any purchase order from, or any agreement with, the contractor (i) to perform all or any part of the work to be done under this contract, or to make or furnish all- or any part of any articles or structures covered by this contract; (ii) to supply any services required directly for the production of any articles or structures covered by this contract, or any component part thereof, not including services for the general operation of the contractor’s plant or business, (iii) to make or furnish any articles destined to become a component part of any article covered by this contract, or (iv) to make or furnish any articles acquired by the contractor primarily for the performance of this contract, or this contract and any other contract with the united States. The term “articles” includes any supplies, materials, machinery, equipment or other persona] property. The provisions of this section shall not apply to * * * ♦ **♦# (C) Any contract or subcontract for an agricultural commodity in its raw or natural state, or if the commodity is not customarily sold or has not an established market in its raw or natural state, in the first form or state, beyond the raw or natural state, in which it is customarily sold or in which it has an established market. The term “agricultural commodity” as used herein shall include but shall not be limited to — - (iii) animals such as cattle, hogs, poultry, and sheep, fish and other marine life, and .the produce of live animals, such as wool, eggs, milk, and cream; [H. Kept., No. 733, pp. 14-16; 78th Cong., 1st sess., Naval Affairs Investigating Committee on Renegotiation.] Another focal point for the groups which have been seeking widespread exemptions from the law has been the problem of so-called standard commercial articles. A number of manufacturers have pointed out that the articles which they are producing for war are identical with the articles which they produced in peace; that, in fact, the articles in question were produced under peacetime competitive conditions for so long that the cost of production was known and a fair price could be fixed without the necessity of resorting to renegotiation. These same contractors also pointed out that in most cases the Office of Price Administration had fixed ceiling prices for these products, that they did not sell the goods at a price higher than the ceilings, and that hence additional price controls were not only burdensome, but unnecessary. * * * After they had had time to review the matter, the under Secretary of the Navy and the Chairman of the Maritime Commission felt that the arguments were specious, and that the proposal had no merit. * * * The proponents of this exemption are principally contractors who manufactured textiles, welding equipment, bearings, nuts, and similar articles in peacetime, and who now manufacture the same products as their contribution to' the wartime economy. * * * The situation in wartime, however, is entirely different. * * * The tremendously expanded volume has resulted in considerable reduction in the unit cost, thus producing a greatly increased profit for the manufacturer. * * * In. wartime, however, there is no such thing as competition. All production is taken by the war effort; the Government needs everything that is being produced, and so does not receive the benefit of the cost reduction which would inure in peacetime. The figures presented to the committee by the • war and Navy Departments, and incorporated in the record of our hearings. demonstrate the increased and excessive profits which have been made by the manufacturers of stcmdard commercial products as the result of their greatly expanded volume. Nor is there validity to the suggestion that if such excessive profits do arise, they are adequately controlled by the price eeilings set by the Office of Price Administration. n * * rpjLe setting of a price ceiling by the Office of Price Administration is no warranty that excessive profits W'e not being made by persons selling to the Government at the ceiling price. * * * * * * The studies which have been made * * * indicate very clearly that, even where an extra allowance is made to the producer for efficient production and for savings resulting from low cost production, sales at the ceiling price by such a producer generally result in a high and excessive profit. * * * It has been said that where a manufacturer produces bearings or some kindred article and sells them to other manufacturers who in turn may or may not sell their end product to the Government, he has no way of knowing that the end use of the bearing which he produced will be in connection with the war. He does not say that, however, when he seeks priorities for the production of his products. * * * We think that generally the priorities which a manufacturer obtains and other indices available to him, can assist him materially in segregating his war production from his civilian production. The Renegotiation Act, as it‘is now written, specifically gives the secretaries power to exempt from renegotiation contracts where, by reason of certain knowledge of costs of production at the time the contract is entered into, it is possible to contract for them at a price which will not be susceptible of excessive profits. It seems preferable that the claims of particular industries, such as the textile industry, the shoe industry, and the lumber industry, be resolved by administrative action rather than by preferential legislation. [Italics added.] [Joint Statement, Mar. 31,1943, pp. 10,11.] * * * This definition of “subcontract” is much broader than under the Vinson-Trammell Act, in that profits on the production and sale of articles required for the performance of another contract or subcontract are subject to renegotiation, as well as profits on the production or sale of all materials incorporated into the end product, down to and including raw materials, except in the case of certain specified raw materials exempted under subsection (i) (1) (ii) of the statute. This definition is interpreted to include contracts with contractors and subcontractors (a) for the sale or processing of an end product or an article incorporated therein, * * * and (d) for the performance of personal services required for the performance of the contracts and subcontracts included in (a), (b) and (c). 0 ******* The term “article” has also been interpreted to include commercial products as well as equipment fabricated for particular uses or purposes. The fact that commercial products are sold for industrial uses, either directly or through jobbers or other commercial channels, does not exclude such articles from this definition. -The same tests are applied to both ordinary commercial products and equipment fabricated for special uses and purposes. The fact that all or part of such articles are sold under price ceilings fixed by the Office of Price Administration does not exclude such articles from this definition, or exempt profits made on the sale thereof from renegotiation. [Joint Statement, Mar. 31, 1943, p. 11.] * * * Thus if 60% of the sales of the purchasers to whom such machinery and equipment are sold is renegotiable, such sales of machinery and equipment are considered renegotiable to the same extent. In those eases where it is unduly burdensome or impractical to trace the end use of individual items of machinery or equipment, the Departments frequently make this determination on the basis of industry-wide estimates or by some other method mutually agreed upon. See the following: House Committee on Ways & Means, 78th Cong., 1st sess., Sept. 9-23, 1943, Hearing on Bills to Amend.the Renegotiation Act, pp. 801-5; House Subcommittee on Appropriations, 78th Cong., 1st sess., Hearings June 1, 1943, pp. 490, 491, 509, 510; Senate Subcommittee on Appropriations, 78th Cong., 1st sess., Hearings June 22, 1943, pp. 136, 137; House Ways & Means Committee, 78th Cong., 1st sess., Kept. No. 871, pp. 78, 79; Senate Finance Committee, Kept. No. 627, pp. 98-102; Data on Renegotiation of Contracts, Dec. 9, 1943, U. S. .Govt. Printing Office, p. 6; Conference Rept. No. 1079, 78th Cong., 1st sess., Feb. 4, 1944, p. 35, Section 343.3. Contracts and~~Subcontracts for Agricultural Commodities. , * * * * * * * (2) Interpretation and Application of Exemption. ******* (b) Interpretation. * * * In order to qualify for exemption the product contracted for must be an agricultural commodity in its raw or natural state, or if such a commodity is not customarily sold or does not have an established market in its raw or natural state in the first form or state beyond the raw or natural state in which it is customarily sold or in which it has an established market. (c) Application. — A commodity will be deemed to be an agricultural commodity in its raw or natural state only so long as it has not undergone some process of treatment or fabrication. * * * the exemption will not apply to any derivative products which are derived from such commodity in the state in which it is first sold, whether as a result of division, separation or further treatment or processing. For the purposes of determining whether an agricultural commodity is customarily sold or has an established market, regard will be given to the entire field in which such.commodity is produced or marketed rather than to sectional or local practices; * * * The War Contracts Price Adjustment Board has, pursuant to the authority conferred upon it by subsection (i) (2) of the 1943 Act, determined the form or state at which the exemption terminates in the case of each of the agricultural commodities set forth in paragraph 644 [sic] of the Renegotiation Regulations and will continue to determine and publish from time to time additions to this list. House Rept. No. 733, 78th Cong., 1st sess., p. 15; Naval Affairs Committee, Investigations of Eenegotiation. "The setting of a ceiling price by the Office of Price Administration is no warranty that excessive profits are not being made by persons selling to the Government at the ceiling price.” The stipulations and the record fail to show an allocation of charges for sorting wool between non-renegotiable and renegotiable business; nor the profit from sorting charges. See Confidential Hearing Before the Committee on Finance, U. S. Senate, 78th Cong., 1st sees., Dec. 10,1943, pp. 18-19. In our consideration of the questions presented under issues 2, 3, and 4, judicial notice has been taken of official reports of Congressional Committees, of the Congressional Record, of the Joint Renegotiation Manuals of the War Price Adjustment Board, and of the Joint Statement of March 13, 1943, and in every instance citation has been given of the matter -which has been noticed.	01-04-2023	01-16-2020
https://www.courtlistener.com/api/rest/v3/opinions/4475250/	VASQUEZ, Judge: Respondent determined deficiencies of $806,375, $784,678, and $491,239 in petitioners’ Federal income tax for 2004, 2005, and 2006, respectively. The issues for decision after partial settlement1 are: (1) whether petitioners are entitled to a charitable contribution deduction with respect to the conservation easement they granted to Smoky Mountain National Land Trust (SMNLT);2 and (2) if petitioners are entitled to a charitable contribution deduction, the amount of the deduction.3 FINDINGS OF FACT Some of the facts have been stipulated and are so found. The stipulation of facts, the stipulation of settled issues, and the attached exhibits are incorporated herein by this reference. At the time petitioners filed their petition, they lived in North Carolina. Background of the Easement Property During the mid-1990s petitioners accumulated approximately 410 acres of land straddling Union County, North Carolina, and Mecklenburg County, North Carolina. The land is near Charlotte, North Carolina. In February 1996 petitioners transferred the land to their newly formed company, Olde Sycamore, LLC (Olde Sycamore).4 On that property Olde Sycamore developed a residential community that comprised 402 single-family home lots5 (residential development) and built Olde Sycamore Golf Plantation (golf course). Golf Course The golf course is an 18-hole golf course on 184.627 acres of land. The golf course is a semiprivate golf course; it has members but allows the public to play for a fee. The golf course was built in the middle of the residential development. The entire golf course is not contiguous but lies in clusters throughout the residential development (e.g., holes 2, 3, and 4 are grouped together, while hole 11 is by itself). Conservation Easement In December 2004 Olde Sycamore executed the conservation easement agreement at issue with SMNLT, a nonprofit section 501(c)(3) organization.6 The conservation easement covers the 184.627 acres of land on which the golf course is located. On December 30, 2004, the conservation easement was recorded in both Mecklenburg County, North Carolina, and Union County, North Carolina. The conservation easement agreement states that the golf course possesses “recreational, natural, scenic, open space, historic, and educational values”.7 Except for the rights reserved, the conservation easement agreement prohibits the golf course from being used for residential, commercial, institutional, industrial, or agricultural purposes. The conservation easement agreement specifically provides that a golf course may be maintained on the easement property. The conservation easement agreement permits petitioners and SMNLT to change what property is subject to the conservation easement. Specifically, Article III: Reserved Rights of the conservation easement agreement states the following: 3. Owner may substitute an area of land owned by Owner which is contiguous to the Conservation Area for an equal or lesser area of land comprising a portion of the Conservation Area, provided that: a. In the opinion of Trust: (1) the substitute property is of the same or better ecological stability as that found in the portion of the Conservation Area to be substituted; (2) the substitution shall have no adverse affect on the conservation purposes of the Conservation Easement or on any of the significant environmental features of the Conservation Area described in the Baseline documentation; (3) the portion of the Conservation Area to be substituted is selected, constructed and managed so as to have no adverse impact on the Conservation Area as a whole; (4) the fair market value of Trust’s conservation easement interest in the substituted property, when subject to this Conservation Easement, is at least equal to or greater than the fair market value of the Conservation Easement portion of the Conservation Area to be substituted; and (5) Owner has submitted to Trust sufficient documentation describing the proposed substitution and how such substitution meets the criteria set forth in subsections (1) — (4) above of this Section B.3.a. of this Article III. b. Trust shall render an opinion upon a proposed substitution request of the Owner within sixty (60) days of receipt of notice. A favorable opinion of Trust shall not be unreasonably withheld. However, should Trust render an unfavorable opinion, Trust shall provide a written explanation to Owner as to the reasoning and facts used in reaching such opinion within ten (10) days of the decision. In addition, Trust will undertake a reasonable good faith effort to help Owner identify property for such trade in which Trust believes will meet the above requirements but also accomplish the Owner’s objectives. c. No such substitution shall be final or binding upon Trust until made a subject of an amendment [8] to this Conservation Easement acceptable to and executed by Owner and Trust and recorded in the Register of Deeds Office of Mecklenburg County and/or Union County. The amendment shall include, among other things, a revised Conservation Easement Plan or portion thereof showing the portions of the Conservation Area that are to be removed from the coverage of this Conservation Easement and the equal or greater area of contiguous land of the Owner to be made part of the Conservation Area, and thus, subject to the Conservation Easement. Baseline and Monitoring Reports In connection with the easement biologist Karin Heiman,9 on behalf of SMNLT, prepared the report “Olde Sycamore Golf Plantation Easement Documentation Report Baseline Natural Areas & Botanical Inventory” dated November 2004 (baseline report). The purpose of the baseline report was to establish the condition of the property at the time of the conservation easement. The baseline report describes the property subject to the easement as “maintained golf course land”. In addition to the baseline report Ms. Heiman prepared annual monitoring reports for SMNLT to verify the condition of the golf course and that the conservation easement was not being violated. Each year Ms. Heiman found Olde Sycamore to be in compliance with the conservation easement. Petitioners’ Appraisal On behalf of petitioners and Olde Sycamore, F. Bruce Sauter prepared the report “Complete Appraisal Self-Contained Report of 184.627-Acre Conservation Easement” dated December 20, 2004. In the appraisal Mr. Sauter determined the value of the golf course before the easement to be $10,801,000. Mr. Sauter reached this amount after concluding the highest and best use of the property was a medium- and high-density residential development. After the easement Mr. Sauter determined the highest and best use of the property was use as a golf course and that its value was $277,000. Tax Return Olde Sycamore claimed a $10,524,000 charitable contribution deduction on its 2004 Form 1065, U.S. Return of Partnership Income, for its contribution of the conservation easement to SMNLT. Petitioners attached Form 8283, Noncash Charitable Contributions, to Olde Sycamore’s partnership return. The Form 8283 listed the appraised fair market value of the conservation easement as $10,524,000. Petitioners claimed a $10,524,000 charitable contribution deduction on their Schedule A, Itemized Deductions, for 2004.10 Petitioners deducted $2,291,708 in 2004 and carried forward the remainder to 2005 and 2006. By a notice of deficiency, the Internal Revenue Service (IRS) disallowed the charitable contribution deduction (and made other adjustments) and determined deficiencies in petitioners’ 2004, 2005, and 2006 Federal income tax. OPINION I. Burden of Proof The Commissioner’s determinations in the notice of deficiency are presumed correct, and taxpayers bear the burden of proving that the Commissioner’s determinations are incorrect. See Rule 142(a); Welch v. Helvering, 290 U.S. 111, 115 (1933). Deductions are a matter of legislative grace, and the taxpayer bears the burden of proving his entitlement to the claimed deduction. Rule 142(a); INDOPCO, Inc. v. Commissioner, 503 U.S. 79, 84 (1992); New Colonial Ice Co. v. Helvering, 292 U.S. 435, 440 (1934). II. Qualified Conservation Contribution A. Overview Taxpayers may deduct the values of any charitable contributions made during the tax year pursuant to section 170(a)(1). Generally, taxpayers are not entitled to deduct gifts of property that consist of less than the taxpayers’ entire interest in that property. Sec. 170(f)(3). However, taxpayers are permitted to deduct the value of a contribution of a partial interest in property that constitutes a “qualified conservation contribution” as defined in section 170(h)(1). Sec. 170(f)(3)(B)(iii). The policy for allowing this exception and the reasons for limiting the exception are discussed in the legislative history underlying section 170(h): The committee believes that the preservation of our country’s natural resources and cultural heritage is important, and the committee recognizes that conservation easements now play an important role in preservation efforts. The committee also recognizes that it is not in the country’s best interest to restrict or prohibit the development of all land areas and existing structures. Therefore, the committee believes that provisions allowing deductions for conservation easements should be directed at the preservation of unique or otherwise significant land areas or structures. * * * [S. Rept. No. 96-1007, at 9 (1980), 1980-2 C.B. 599, 603.] For a contribution to constitute a qualified conservation contribution, the taxpayer must show that the contribution is (1) of a “qualified real property interest” (2) to a “qualified organization” (3) “exclusively for conservation purposes.” Sec. 170(h)(1). Respondent argues that petitioners are not entitled to a deduction because the contribution was not of a qualified real property interest11 and it was not exclusively for conservation purposes.12 B. Qualified Real Property Interest The Court has not previously addressed what constitutes a “qualified real property interest”. In the prior cases involving conservation easements either the IRS has conceded the issue13 or the Court has disallowed the deduction on other grounds.14 Section 170(h)(2) defines “qualified real property interest” as: [A]ny of the following interests in real property: (A) the entire interest of the donor other than a qualified mineral interest, (B) a remainder interest, and (C) a restriction (granted in perpetuity) on the use which may be made of the real property. The regulations provide the following with respect to section 170(h)(2)(C): A “perpetual conservation restriction” is a qualified real property interest. A “perpetual conservation restriction” is a restriction granted in perpetuity on the use which may be made of real property — including, an easement or other interest in real property that under state law has attributes similar to an easement (e.g., a restrictive covenant or equitable servitude). * * * [Sec. 1.170A-14(b)(2), Income Tax Regs.] Petitioners did not donate their entire interest in real property or a remainder interest in real property. Therefore, petitioners must satisfy section 170(h)(2)(C), which respondent argues they have not. Respondent argues that the interest in real property petitioners donated is not subject to a use restriction granted in perpetuity because the conservation easement agreement permits substitutions. As discussed supra p. 3, under the terms of the conservation easement, if SMNLT approves and subject to certain restrictions, petitioners can change what property is subject to the conservation easement. Respondent characterizes petitioners’ easement as a “floating easement” and argues that a conservation easement that does not relate to a specific piece of property cannot be a qualified conservation contribution. The most basic tenet of statutory construction is to begin with the language of the statute itself. United States v. Ron Pair Enters., Inc., 489 U.S. 235, 241 (1989). The statutory text is the most persuasive evidence of Congress’ intent. United States v. Am. Trucking Ass’ns, Inc., 310 U.S. 534, 542-543 (1940). When the plain language of the statute is clear and unambiguous, that is where the inquiry should end. Ron Pair Enters., Inc., 489 U.S. at 241. Additionally, it is a well-settled rule of statutory construction that deductions should be narrowly construed. INDOPCO, Inc. v. Commissioner, 503 U.S. at 84. As discussed above, in order for a donation to constitute a qualified conservation contribution, section 170(h)(2)(C) requires that the contribution be an interest in real property that is subject to a use restriction granted in perpetuity. The real property in which petitioners have donated an interest is the golf course.15 Petitioners agreed to restrict their use of the golf course; specifically, petitioners agreed not to develop the golf course. However, because the conservation easement agreement permits petitioners to change what property is subject to the conservation easement, the use restriction was not granted in perpetuity.16 Petitioners did not agree never to develop the golf course. Under the terms of the conservation easement, petitioners are able to remove portions of the golf course and replace them with property currently not subject to the conservation easement. Thus, petitioners have not donated an interest in real property which is subject to a use restriction granted in perpetuity. To conclude otherwise would permit petitioners a deduction for agreeing not to develop the golf course when the golf course can be developed by substituting the property subject to the conservation easement. Respondent combined his argument that the contribution was not a qualified real property interest with his argument that the conservation purpose was not protected in perpetuity. 17 As the following excerpt demonstrates, the Court has also combined its discussion of these requirements in prior cases:18 A “qualified real property interest” must consist of the donor’s entire interest in real property (other than a qualified mineral interest) or consist of a remainder interest, or of a restriction granted in perpetuity concerning way(s) the real property may be used. Sec. 170(h)(2). A restriction granted in perpetuity on the use of the property must be based upon legally enforceable restrictions (such as by recording the deed) that will prevent uses of the retained interest in the property that are inconsistent with the conservation purpose of the contribution. See sec. 1.170A-14(g)(1), Income Tax Regs. [Turner v. Commissioner, 126 T.C. 299, 311 (2006).] See also Glass v. Commissioner, 124 T.C. 258, 276-277 (2005) (suggesting that section 1.170A-14(g)(1), Income Tax Regs., may be used to interpret section 170(h)(2)(C)), aff’d, 471 F.3d 698 (6th Cir. 2006); Simmons v. Commissioner, T.C. Memo. 2009-208 (using language similar to that in Turner), aff’d, 646 F.3d 6 (D.C. Cir. 2011). Both section 170(h)(2)(C) and (5) require perpetuity; however, they are separate and distinct requirements. Section 170(h)(2)(C) requires that the interest in real property donated by taxpayers be subject to a use restriction in perpetuity, whereas section 170(h)(5) requires that the conservation purpose of the conservation easement be protected in perpetuity.19 Thus, section 170(h)(2)(C) relates to the real property interest donated and section 170(h)(5) relates to the conservation purpose. Petitioners argue it does not matter that the conservation easement agreement permits substitution because it permits only substitutions that will not harm the conservation purposes of the conservation easement. However, as discussed above, the section 170(h)(5) requirement that the conservation purpose be protected in perpetuity is separate and distinct from the section 170(h)(2)(C) requirement that there be real property subject to a use restriction in perpetuity. Satisfying section 170(h)(5) does not necessarily affect whether there is a qualified real property interest.20 Section 170(h)(2), as well as the corresponding regulations and the legislative history, when defining qualified real property interest does not mention conservation purpose. There is nothing to suggest that section 170(h)(2)(C) should be read to mean that the restriction granted on the use which may be made of the real property does not need to be in perpetuity if the conservation purpose is protected. We find it is immaterial that SMNLT must approve the substitutions. There is nothing in the Code, the regulations, or the legislative history to suggest that section 170(h)(2)(C) is to be read to require that the interest in property donated be a restriction on the use of the real property granted in perpetuity unless the parties agree otherwise. The requirements of section 170(h) apply even if taxpayers and qualified organizations wish to agree otherwise. We also find it immaterial that SMNLT cannot agree to an amendment that would result in the conservation easement’s failing to qualify as a qualified conservation contribution under section 170(h). The substitution provision states that a substitution is not final or binding on SMNLT until the conservation easement agreement is amended to reflect the substitution. We reject the argument that, because substitution is effected by amendment and the conservation easement agreement seemingly prohibits amendments not permitted by section 170(h), the conservation easement does not permit substitutions. Here we have a conflict between a specific provision and a general provision in the conservation easement agreement. Petitioners’ right to substitute property is a specific provision; it is one of the enumerated rights reserved in “Article III: Reserved Rights”, and it contains several paragraphs with specific, detailed language. The amendment provision is a general provision; it is included in “Article VIII: Miscellaneous”, and contains only one paragraph with broad, general language. Thus, we have a specific contract provision stating that substitution is permitted and a general provision which seemingly says substitution cannot be permitted because it is not permitted under section 170(h). It is a rule of law that “when general terms and specific statements are included in the same contract and there is a conflict, the general terms should give way to the specifics.” Wood-Hopkins Contracting Co. v. N.C. State Port Auth., 202 S.E.2d 473, 476 (N.C. 1974);21 see also Janow v. Commissioner, T.C. Memo. 1996-289 (“There is no dispute with respect to the proposition that when two contract provisions are in apparent conflict, the specific provision overrides the more general provision.”), aff’d without published opinion, 172 F.3d 38 (2d Cir. 1996). Therefore, the general amendment provision must give way to the specific provision permitting substitution. Furthermore, in interpreting a contract, the parties’ intention controls. Jones v. Palace Realty Co., 37 S.E.2d 906, 907 (N.C. 1946) (“The heart of a contract is the intention of the parties.”); Bueltel v. Lumber Mut. Ins. Co., 518 S.E.2d 205, 209 (N.C. Ct. App. 1999) (“The court is to interpret a contract according to the intent of the parties to the contract, unless such intent is contrary to law.”). The intention of the parties, “is to be gathered from the entire instrument, viewing it from its four corners.” Jones, 37 S.E.2d at 907. We find petitioners and SMNLT did not intend for the amendment provision to prohibit substitutions. They specifically included the right to substitute real property as one of the reserved rights and placed specific requirements on SMNLT with respect to substitution. Particularly, SMNLT cannot unreasonably withhold its approval of a substitution, and it must make a reasonable good-faith effort to help petitioners identify property that is appropriate for substitution and accomplishes their objectives. It seems unlikely that petitioners and SMNLT would have placed such requirements on SMNLT if they thought the amendment provision prohibited substitutions. Furthermore, the detailed substitution provision does not limit the reasons for substitutions,22 and there is nothing in it to suggest that petitioners and SMNLT intended substitutions to be limited to circumstances where continued use is impossible or impractical.23 We find petitioners and SMNLT did not intend for the conservation easement agreement to prohibit substitutions or to limit substitutions to where continued use is impossible or impractical. To find otherwise would render the substitution provision meaningless, and such a result is contrary to the well-established rule of construction that “each and every part of the contract must be given effect, if this can be done by any fair or reasonable interpretation”. Davis v. Frazier, 64 S.E. 200, 202 (N.C. 1909). Thus, the conservation easement agreement permits substitution. Petitioners have not satisfied section 170(h)(2)(C) and, therefore, are not entitled to a deduction for a qualified conservation contribution. We have considered all of petitioners’ contentions, arguments, requests, and statements. To the extent not discussed herein, we conclude that they are meritless, moot, or irrelevant. To reflect the foregoing, Decision will be entered under Rule 155. In the stipulation of settled issues, petitioners and respondent agreed that petitioners are entitled to deductions for cash charitable contributions of $18,831 and $65,819 for 2004 and 2005, respectively, and a noncash charitable contribution of $90 for 2004 that was not claimed on their 2004 amended return. On reply brief respondent concedes that Olde Sycamore, LLC, is entitled to deduct land trust expenses of $113,297 for 2004 and therefore concedes that petitioners’ share of income from Olde Sycamore, LLC, for 2004 does not need to be increased. SMNLT has since changed its name to Southwest Regional Land Conservancy. The remaining adjustment to petitioners’ itemized deductions is computational and will be resolved by our holding herein. During the years at issue, B.V. Belk, Jr., owned 99% of Olde Sycamore and Harriet Belk owned 1%. As of December 2004 75% of the lots had been sold and many of those were developed into single-family residences. All section references are to the Internal Revenue Code (Code) in effect for the years in issue, and all Rule references are to the Tax Court Rules of Practice and Procedure, unless otherwise indicated. Petitioners have stipulated that the easement property does not possess any historic value. At trial James Wright, executive director of SMNLT, explained that the statement regarding the historic values of the easement property is a blanket statement that covers the conservation values in sec. 170(h). Article VIII: Miscellaneous of the conservation easement agreement states the following with respect to amendment: Owner and Trust recognize that circumstances could arise which would justify the modification of certain of the restrictions contained in this Conservation Easement. To this end, Trust and the legal owner or owners of the Conservation Area at the time of amendment shall mutually have the right, in their sole discretion, to agree to amendments to this Conservation Easement which are not inconsistent with the Conservation Values or the purposes of this instrument; provided, however, that Trust shall have no right or power to agree to any amendments hereto that would result in this Conservation Easement failing to qualify as a valid conservation agreement under the “Act,” as the same may be hereafter amended, or as a qualified conservation contribution under Section 170(h) of the Internal Revenue Code and applicable regulations. Ms. Heiman is an independent contractor and does not work exclusively for SMNLT. Olde Sycamore’s charitable contribution passed through to petitioners under sec. 702(a)(4). The Court assumes that respondent determined Olde Sycamore was a small partnership within the meaning of the small partnership exception, see sec. 6231(a)(l)(B)(i), and that it was not subject to the unified partnership audit and litigation procedures of the Tax Equity and Fiscal Responsibility Act of 1982 (TEFRA), Pub. L. No. 97-248, sec. 402(a), 96 Stat. at 648. Even if that determination were erroneous, the TEFRA provisions would not apply. See sec. 6231(g)(2). On brief petitioners state that it is uncontested whether the “Easement property was a qualified real property interest”. However, when listing what issues are contested petitioners state: “The donation was ‘exclusively’ for conservation purposes, including being granted in perpetuity. {See Section 170(h)(2)(C)) (perpetuity contested)”. Thus, even though petitioners state that it is uncontested whether there is a qualified real property interest, they acknowledge that it is contested whether sec. 170(h)(2)(C) is satisfied. Petitioners’ contribution must meet all the requirements of sec. 170(h)(2)(C) in order to be a qualified real property interest. Moreover, we find this issue to be contested because we have found nothing in the record that establishes respondent conceded it. In the notice of deficiency, the Internal Revenue Service disallowed petitioners’ deduction for the conservation easement because “[i]t has not been established that all the requirements of IRC Section 170 and the corresponding Treasury Regulations have been satisfied to enable you to deduct the noncash charitable contribution of a qualified conservation contribution.” In his pretrial memorandum and his original brief respondent argues that petitioners failed to satisfy the perpetuity requirement of sec. 170(h)(2)(C). On brief respondent states: “Petitioners are not entitled to a deduction with respect to the donation of the easement, because petitioners have failed to establish that the easement protects the subject property in perpetuity.” Respondent combined his sec. 170(h)(2)(C) argument with his argument that petitioners also failed to satisfy the perpetuity requirement of sec. 170(h)(5) (relating to the requirement that the conservation purpose of the conservation easement be protected in perpetuity). Furthermore, on reply brief respondent objected to petitioners’ proposed findings of fact regarding the property being protected in perpetuity. For example, petitioners’ proposed finding of fact No. 61 states: “Under the conservation Easement Deed, Olde Sycamore granted to SMNLT a restriction over the Conservation Easement Property in perpetuity. The Conservation Easement Deed gives SMNLT a real property right and interest, which was immediately vested in SMNLT.” Respondent objected “to the extent petitioners contend that SMNLT was granted an interest in the subject property in perpetuity, because it is a conclusory statement, inappropriate for inclusion in a finding of fact, and is not supported by the record.” 12 Because we ultimately hold that petitioners have not satisfied the first requirement, there is no need to consider the third requirement or the easement’s value. See, e.g., Mitchell v. Commissioner, 138 T.C. 324, 329 (2012) (IRS concession that there was a contribution of a qualified real property interest); Glass v. Commissioner, 124 T.C. 258, 280 (2005) (IRS concession that the conservation easements were qualified real property interests), aff’d, 471 F.3d 698 (6th Cir. 2006); Butler v. Commissioner, T.C. Memo. 2012-72 (noting parties’ agreement that the contributions were of qualified real property interests); Carpenter v. Commissioner, T.C. Memo. 2012—1 (IRS concession that there was a contribution of a qualified real property interest). See, e.g., Turner v. Commissioner, 126 T.C. 299, 312 n.9 (2006) (disallowing the deduction because it was not exclusively for conservation purposes and not determining whether there was a qualified real property interest); Wall v. Commissioner, T.C. Memo. 2012-169 (disallowing the deduction because it was not exclusively for conservation purposes and not determining whether there was a qualified real property interest); 1982 East, LLC v. Commissioner, T.C. Memo. 2011-84 (disallowing the deduction because it was not exclusively for conservation purposes and not determining whether there was a qualified real property interest); Satullo v. Commissioner, T.C. Memo. 1993-614 (disallowing the deduction because it was not exclusively for conservation purposes and assuming without deciding that the easement was a qualified real property interest), aff’d without published opinion, 67 F.3d 314 (11th Cir. 1995). Petitioners claimed a $10.5 million deduction for restricting their use of the golf course. Petitioners determined the value of the deduction by comparing “the market values of the 184.627-acres immediately before and after the establishment of the easement”. Petitioners’ appraisal did not address their ability to substitute land. We note that petitioners’ right to change the real property subject to the conservation easement is not limited to circumstances where continued use of the golf course has become impossible or impractical. Sec. 1.170A-14(c)(2), Income Tax Regs., provides that [w]hen a later unexpected change in the conditions surrounding the property that is the subject of a donation under paragraphs (b)(1), (2), or (3) [relating to qualified real property interests] of this section makes impossible or impractical the continued use of the property for conservation purposes, the requirement of this paragraph will be met if the property is sold or exchanged and any proceeds are used by the donee organization in a manner consistent with the conservation purposes of the original contribution. * * * While the regulations permit property to be substituted when continued use is impossible or impractical, there is nothing in the regulations to suggest that taxpayers may substitute property for other reasons. The conservation easement agreement in this case does not limit substitutions to circumstances where use is impossible or impractical but allows petitioners to substitute property for any reason. It appears petitioners may have also combined the perpetuity requirements. See supra note 11 (petitioners’ citing sec. 170(h)(2)(C) when identifying whether conservation purpose protected in perpetuity as a contested issue). However, the Court did not address what constitutes a qualified real property interest in these cases. See supra p. 8. Sec. 1.170A-14(g), Income Tax Regs., cited by Turner, relates to sec. 170(h)(5). See Mitchell v. Commissioner, 138 T.C. at 329 (“Section 170(h)(5)(A) provides that ‘A contribution shall not be treated as exclusively for conservation purposes unless the conservation purpose is protected in perpetuity.’ Section 1.170A—14(g), Income Tax Regs., elaborates on the enforceability-in-perpetuity requirement.”). Similarly, whether a conservation purpose is protected in perpetuity would not affect whether SMNLT qualified as a “qualified organization” under sec. 170(h)(3). We apply State law in interpreting the provisions of a contract. Peco Foods, Inc. v. Commissioner, T.C. Memo. 2012-18. Not only does the substitution provision not limit the reasons for substitutions; it also requires that SMNLT help petitioners identify property that meets “the Owner’s objectives”, whatever those objectives may be. See supra note 16.	01-04-2023	01-16-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621988/	LEO GRUDIN and HARRIETTE GRUDIN, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, RespondentGrudin v. CommissionerDocket No. 445-71.United States Tax CourtT.C. Memo 1974-251; 1974 Tax Ct. Memo LEXIS 67; 33 T.C.M. (CCH) 1116; T.C.M. (RIA) 74251; September 23, 1974, Filed. Bruce I. Hochman, for the petitioners. Eddy M. Quijano, for the respondent. SCOTT MEMORANDUM FINDINGS OF FACT AND OPINION SCOTT, Judge: Respondent determined68 deficiencies in the Federal income tax of petitioners in the amounts of $16,890.92, $15,544.34, $14,887.48, and $13,899.77 and additions to tax under section 6653(b), I.R.C. 1954, 1 in the amounts of $8,445.46, $7,772.17, $7,443.74, and $6,949.89 for the calendar years 1962, 1963, 1964, and 1965, respectively. The parties have by agreement disposed of all issues except whether petitioners for the calendar years 1962 and 1963 filed false or fradulent income tax returns with intent to evade tax so that the assessment and collection of the agreed deficiencies for those years are not barred, and whether part of the agreed underpayment of tax for the calendar years 1962 and 1963 is due to fraud so that petitioners are liable for the additions to tax for fraud under section 6653(b). FINDINGS OF FACT Some of the facts have been stipulated and are found accordingly. Petitioners, husband and wife, were residents of Beverly Hills, California at the time of the filing of their petition in this case. Petitioners filed joint Federal income tax returns for the calendar years 1962, 1963, 1964, and 1965 with the district69 director of internal revenue at Los Angeles, California. Leo Grudin (hereinafter petitioner) was licensed to practice dentistry in California in 1931. Since 1957 he has specialized in endodontics, root canal work. During the years 1962 through 1965 petitioner practiced his specialty at Beverly Hills, California and taught at the school of dentistry of the University of Southern California. In 1962 and 1963 he gratuitously devoted approximately five days a month to this teaching. He has been on the staff of the dental school since 1940 and was a clinical professor there in 1962 and 1963. Between 1942 and 1966 petitioner employed Mity B. Church (Mity) as his receptionist, dental assistant and bookkeeper. She was responsible for all the clerical and bookkeeping duties of the dental office which included the collection of fees from patients and the deposit of these collections to bank accounts, the recordation of gross receipts and disbursements and the preparation of checks in payment of office expenses. The office records consisted of an appointment book, patient cards, and a gross receipts and disbursements ledger. Each patient card recorded the date and type of services70 rendered to that patient and the fee charged for such services. The ledger was set up with columns designed to reflect the gross receipts and disbursements of the practice which were recapitulated on a monthly and annual basis. In 1952 petitioner engaged the services of a certified accountant to prepare his income tax returns. The accountant at that time instructed Mity that she was to include all the gross receipts from the practice in the ledger. After the end of each calendar year Mity would provide the accountant either with this ledger or with tapes she had prepared from the gross receipts and disbursements ledger from which he would prepare petitioner's returns. Petitioner's returns for 1962, 1963, 1964, and 1965 were prepared by the accountant and the income from petitioner's dental practice in each of these years was prepared from tapes furnished to the accountant by Mity which she had prepared from the gross receipts and disbursement ledger. On his 1962 income tax return petitioner reported gross receipts from his dental practice of $53,719 and net profit from this practice of $30,986.04. He reported approximately $2,400 of oil royalties less depletion of approximately71 $650, approximately $2,700 of dividends and bond interest and approximately $750 interest from savings and loan institutions, a net capital loss from the sale of stocks of approximately $900, and partnership losses of approximately $4,000. On his 1963 return petitioner reported taxable income of $35,127.36 composed of a net profit from his dental practice of $26,057.51 ($51,622.25 gross receipts less $25,564.74 expenses), dividends and bond interest of approximately $4,300, oil royalties of approximately $1,850 less approximately $500 depletion, interest from savings and loan institutions of approximately $1,100, capital gains from the sale of stocks of approximately $3,600, and a section 1202 deduction of approximately $1,000. Petitioner signed his 1962 return certifying that he had examined it on April 11, 1963, and signed his 1963 return similarly certifying on April 6, 1964. On October 25, 1961, petitioner opened a checking account, Account No. 106-372 (hereinafter referred to as the business account), at City National Bank of Beverly Hills, Beverly Hills, California.He maintained this business account during 1962 through 1965 and made deposits thereto as follows: 1962$55,859.00196352,847.50196468,493.50196595,293.3672 On November 9, 1961, petitioner opened a checking account, Account No. 096-563 (hereinafter referred to as the personal account), at City National Bank of Beverly Hills. This account was opened at the suggestion of Mity who stated that a separate account would facilitate segregating petitioner's receipts and disbursements with respect to stocks and bonds from those of his dental practice. This personal account was maintained during 1962 through 1965 and deposits thereto and disbursements therefrom made as follows: DepositsDisbursements 1962$34,515.23$32,386.23196330,498.5034,992.20196429,606.2923,974.26196537,418.1934,301.65Petitioners received and failed to report on their income tax returns gross receipts from petitioner's dental practice in the following amounts for the years indicated: 1962$29,110.00196325,358.62196428,070.00196519,255.00The amount of the unreported dental receipts as set forth above were deposited to petitioner's personal account and were not recorded in petitioner's gross receipts and disbursements ledger kept for his dental practice. The total funds available and the total73 funds available other than unreported dental receipts for disbursements by petitioner from his personal account during the years 1962 through 1965 were as follows: 1962196319641965 Balance Jan. 1$ 4,163.77$ 6,292.77$ 1,799.07$ 7,431.10Deposits 34,515.2330,498.5029,606.2937,418.19Total funds available for disbursement38,679.0036,791.2731,405.3644,849.29Less: Unreported dental receipts 29,110.0025,358.6228,070.0019,255.00Total funds available for disbursement other than unreported dental receipts $ 9,569.00$11,432.65$ 3,335.36$25,594.29The accountant who prepared petitioner's tax returns for the years 1962 through 1965 did not audit petitioner's books of account or bank statements for those years and did not discuss the amount of petitioner's receipts from his dental practice with either of petitioners. Petitioner did not actively participate in maintaining his financial records. He did not reconcile the bank statements of either his personal or business account, but relied on Mity to perform these tasks.He did not keep a record of the balances of these accounts, but when he needed this information74 would obtain it from Mity. When he desired to make purchases of stock petitioner inquired of Mity whether there were sufficient funds in his personal account to cover the cost of the stock he wished to buy. Petitioner had two brokerage accounts, a margin account and a cash account. Generally the proceeds from the sales of stocks would remain in these accounts for future purchases. However petitioner did withdraw funds occasionally from the cash account and infrequently from the margin account. Petitioner on his 1962 return reported dividends from 23 different corporations and reported 19 sales of stock for a total sales price of $62,897.08. Eight of these sales were of stock which had been purchased in 1962. In 1963 petitioner reported dividends paid by 31 different corporations and reported 19 sales of stock for a total sales price of $115,135.31. Of these sales, 5 were of stocks purchased in 1962 and 13 of stocks purchased in 1963. Most of the $32,386.23 withdrawn by petitioner from his personal account in 1962 and the $34,992.20 withdrawn from this account in 1963 were used, in addition to the sales price received for stocks sold, to purchase additional stock. Petitioner75 relied to a great extent on the advice of his broker with respect to when to buy and sell his stocks and what stocks to buy or sell. However, he kept a record of his complete stock transactions and at least monthly he personally reviewed the performance of his investments. In the late summer of 1962 or 1963 Mity informed petitioner that she was and had been depositing dental receipts which she had not entered on the office ledger into his personal account. The statement was made by Mity to petitioner after an inquiry by petitioner of Mity as to the availability of funds in his personal account for the purchase of stocks. After having been told by Mity that not all of the dental receipts had or were being included in the office ledger record so as to be reported on the tax returns which would be prepared from this source, petitioner did not demand that in the future all receipts be posted to the ledger and took no steps to ensure that all receipts from his dental work were reported in his Federal income tax returns. In fact, petitioner knowingly permitted the continued unreporting of some dental receipts for the years 1963, 1964, and 1965. On April 29, 1969, petitioner was convicted76 on a plea of guilty of willfully and knowingly attempting to evade income tax owed by him for the year 1964 in violation of section 7201. Respondent in his notice of deficiency dated December 16, 1970, determined that there was due from petitioner additions to tax for fraud under the provisions of section 6653(b). Petitioner alleged that deficiencies for the years 1962 and 1963 were barred by the statute of limitations and respondent in his answer alleged that deficiencies for these years were not barred under the provisions of section 6501(c) (1) since petitioners had filed false and fraudulent returns for these years. ULTIMATE FINDINGS OF FACT Part of petitioner's dental receipts were omitted from petitioners' Federal income tax returns for the calendar years 1962 and 1963 with the fraudulent intent to evade income tax for those years. OPINION The issue here is purely factual. Both parties recognize that for each of the years 1962 and 1963 the statute of limitations bars the assessment and collection of the agreed upon deficiency unless respondent has shown by clear and convincing evidence that petitioners filed a false and fraudulent return with intent to evade tax.77 It is also incumbent on respondent to show by clear and convincing evidence that some part of the agreed underpayment of tax is due to fraud to be entitled to the addition to tax for fraud under section 6653(b). 2Nathaniel M. Stone, 56 T.C. 213">56 T.C. 213, 220 (1971). 78 The record is clear that petitioners failed to report substantial amounts of income from petitioner's dental practice in each of the years 1962 through 1965. Such persistent and substantial understatements of income over a period of 4 successive years is some evidence of fraud. Estate of Millard D. Hill, 59 T.C. 846">59 T.C. 846, 856 (1973). This fact alone is not generally sufficient to satisfy respondent's burden but repeated understatements in successive years when coupled with other circumstances "showing intent to conceal or misstate taxable income, present a basis from which fraud may be inferred." Estate of Ernest Clarke, 54 T.C. 1149">54 T.C. 1149, 1162 (1970). There are numerous circumstances present in the instant case in addition to petitioners' consistent failure to report substantial amounts of income over 4 successive years which clearly show a fraudulent intent by petitioner to evade tax for the years 1962 and 1963. The evidence shows that Mity specifically told petitioner no later than late 1963 that some receipts from his dental practice were not being recorded in the receipts ledger and consequently would not be reported in petitioners' Federal tax returns which79 were prepared from that ledger. Mity's testimony was clear that she told petitioner about the omissions no later than 1963. In each of the years 1962 and 1963 income from petitioner's dental practice was grossly understated in his return. The amounts of $29,110 and $25,358.62 were unreported for 1962 and 1963, respectively. These amounts approximated half of the net income from petitioner's dental practice during each of these years. Even though petitioner left the bookkeeping to Mity, he was aware of the amount of his practice and the charges made for his services. The original purpose for establishing the personal account was to deposit dividends, bond interest, and gains from stock transactions. Dividends and bond interest were $2,700 in 1962 and $4,300 in 1963, and the net gains from stock transactions were nil in 1962 and $3,600 in 1963. The proceeds from the sale of stocks usually remained in petitioner's brokerage accounts until other stocks were purchased. Petitioner personally maintained the record of his stock transactions. Petitioner drew checks on his personal account in the amounts of $32,386.23 and $34,992.20 during 1962 and 1963, respectively, primarily80 for the purchase of stock. These disbursements were so greatly in excess of his income from stocks and bonds during each of these years that it is unrealistic to believe that petitioner could have believed that the funds in his personal account came only from his stock dividends and gains and from bond interest. Petitioner's explanation for the omission of some dental receipts from his returns for 1962 and 1963 was that he was ignorant of the understatements of professional income until informed thereof by Mity in the summer of 1964. Petitioner testified that Mity gave him this information when he had asked her if there were funds in his personal account for a stock purchase. Petitioner was the only person authorized to draw checks upon his business and his personal accounts. Petitioner must have become aware in 1962 that money other than approximately $5,500 of receipts other than from his dental practice were being deposited in his personal account in 1962. The logical inference from the record is that petitioner realized in 1962 that he was drawing checks on his personal account in excess of the amount available from his opening balance plus his investment income, and he81 asked Mity where these extra funds came from and was told the source of these funds. From observing Mity testify we conclude that she was desirous of testifying as favorably for petitioner as she felt she truthfully could. Mity never deviated from her testimony that she told petitioner of her failure to include all receipts in the business ledger and her deposit of some of these receipts in his personal account before the end of 1963 and perhaps as early as late 1962. Since we believe Mity's testimony, we do not accept petitioner's contention that he did not learn of these facts until the summer of 1964 or believe his testimony to that effect. In our view it is patently unreasonable that petitioner was so unaware of his financial situation in 1962 and 1963 that he did not know some of the disbursements from his personal account during those years represented dental receipts since there was no other source from which the substantial sums of monies which he withdrew from his personal account in those years could have been derived. The evidence as a whole is clear and convincing that petitioner realized that some of his dental receipts were not reported in his income tax returns82 for 1962 and 1963 when they were filed. Petitioner was a professional man and held a position on the faculty of a respected educational institution. His high level of intelligence and education, coupled with the evidence of lack of a source for the major portion of the funds in his personal account other than from his dental practice, negates petitioner's claim of ignorance of the understatements of income in the returns for the years at issue. Moreover, if petitioner had been honestly unaware of the omissions of income in his 1962 and 1963 returns as he has claimed, the only reasonable course of action upon his discovery of this mistake would have been to seek advice as to the proper method of rectifying these understatements of income in prior years. Petitioner did not seek any counsel and did not amend his returns for the years 1962 and 1963. Petitioner took no steps to ensure that all dental receipts were reported in the returns filed for years subsequent to 1963. In fact, petitioner understated the amount of his dental receipts in his returns for 1964 and 1965 and was convicted on a plea of guilty to willfully and knowingly attempting to evade tax owed by him for 1964. 83 In our view the record as a whole establishes by clear and convincing evidence that petitioner filed false and fraudulent returns for the calendar years 1962 and 1963 with intent to evade tax, and some of the underpayment of tax for these years is due to fraud. It therefore follows that the statute of limitations does not bar the assessment and collection of the agreed upon deficiencies in tax for these years and petitioner is liable for the additions to tax under section 6653(b). Decision will be entered under Rule 155. Footnotes1. All references are to the Internal Revenue Code of 1954. ↩2. SEC. 6653. FAILURE TO PAY TAX. * * * (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 income taxes and gift taxes, this amount shall be in lieu of any amount determined under subsection (a). 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. SEC. 6501. LIMITATIONS ON ASSESSMENT AND COLLECTION. * * * (c) Exceptions. - (1) False return. - In the case of a false or fraudulent return with the intent to evade tax, the tax may be assessed, or a proceeding in court for collection of such tax may be begun without assessment, at any time. SEC. 7454. BURDEN OF PROOF IN FRAUD, FOUNDATION MANAGER, AND TRANSFEREE (a) Fraud. - In any proceeding involving the issue whether the petitioner has been guilty of fraud with intent to evade tax, the burden of proof in respect of such issue shall be upon the Secretary or his delegate.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/6113487/	2022 WI 6 SUPREME COURT OF WISCONSIN CASE NO.: 2021AP802 COMPLETE TITLE: Andrew Waity, Judy Ferwerda, Michael Jones and Sara Bringman, Plaintiffs-Respondents, v. Devin Lemahieu, in his official capacity and Robin Vos, in his official capacity, Defendants-Appellants-Petitioners. ON PETITION TO BYPASS THE COURT OF APPEALS OPINION FILED: January 27, 2022 SUBMITTED ON BRIEFS: ORAL ARGUMENT: November 1, 2021 SOURCE OF APPEAL: COURT: Circuit COUNTY: Dane JUDGE: Stephen E. Ehlke JUSTICES: ZIEGLER, C.J., delivered the majority opinion of the Court, in which ROGGENSACK, REBECCA GRASSL BRADLEY, and HAGEDORN, JJ., joined. DALLET, J., filed a dissenting opinion, in which ANN WALSH BRADLEY and KAROFSKY, JJ., joined. NOT PARTICIPATING: ATTORNEYS: For the defendants-appellants-petitioners, there were briefs filed by Misha Tseytlin, Kevin M. LeRoy and Troutman Pepper Hamilton Sanders, Chicago. There was an oral argument by Misha Tseytlin. For the plaintiffs-respondents, there was a brief filed by Lester A. Pines, Tamara B. Packard, Aaron G. Dumas, Leslie A. Freehill, Beauregard W. Patterson and Pines Bach LLP, Madison. There was an oral argument by Lester A. Pines. There was an amicus curiae brief filed on behalf of Wisconsin Democracy Campaign by Jeffrey A. Mandell, Douglas M. Poland and Stafford Rosenbaum LLP, Madison; and Mel Barnes and Law Forward, Inc. 2 2022 WI 6 NOTICE This opinion is subject to further editing and modification. The final version will appear in the bound volume of the official reports. No. 2021AP802 (L.C. No. 2021CV589) STATE OF WISCONSIN : IN SUPREME COURT Andrew Waity, Judy Ferwerda, Michael Jones and Sara Bringman, Plaintiffs-Respondents, FILED v. JAN 27, 2022 Devin LeMahieu, in his official capacity and Sheila T. Reiff Robin Vos, in his official capacity, Clerk of Supreme Court Defendants-Appellants-Petitioners. ZIEGLER, C.J., delivered the majority opinion of the Court, in which ROGGENSACK, REBECCA GRASSL BRADLEY, and HAGEDORN, JJ., joined. HAGEDORN, J., filed a concurring opinion. DALLET, J., filed a dissenting opinion, in which ANN WALSH BRADLEY and KAROFSKY, JJ., joined. APPEAL from a judgment and an order of the Circuit Court for Dane County, Stephen E. Ehlke, Judge. Reversed and remanded. ¶1 ANNETTE KINGSLAND ZIEGLER, C.J. This case is before the court on bypass pursuant to Wis. Stat. § (Rule) 809.60 (2019-20).1 On bypass, we review an order of the Dane County 1All subsequent references to the Wisconsin Statutes are to the 2019-20 version unless otherwise indicated. No. 2021AP802 circuit court,2 Waity v. LeMahieu, No. 2021CV589 (Dane Cnty. Cir. Ct. Apr. 29, 2021), granting summary judgment in favor of Respondents, Andrew Waity, Judy Ferwerda, Michael Jones, and Sara Bringman, and against Petitioners, Devin LeMahieu and Robin Vos.3 In its order, the circuit court enjoined the Petitioners from issuing payments under two contracts for legal services, and it declared the contracts void ab initio. ¶2 Petitioners, on behalf of the legislature, entered into contracts for attorney services regarding the decennial redistricting process and resulting litigation. Respondents claim that Petitioners lacked authority to enter into the contracts, and they ask us to declare the agreements void ab initio. Because Petitioners had authority under Wis. Stat. § 16.744 to "purchase[]" for the legislature "contractual 2 The Honorable Stephen E. Ehlke presided. Senator LeMahieu is the majority leader of the Wisconsin 3 State Senate, while Representative Vos is Speaker of the Wisconsin State Assembly. Together, they represent the leadership of the Wisconsin Legislature. 4 The relevant portion of Wis. Stat. § 16.74 is provided below: (1) All supplies, materials, equipment, permanent personal property and contractual services required within the legislative branch shall be purchased by the joint committee on legislative organization or by the house or legislative service agency utilizing the supplies, materials, equipment, property or services. All supplies, materials, equipment, permanent personal property and contractual services required within the judicial branch shall be purchased by the director of state courts or the judicial branch agency utilizing the supplies, materials, equipment, property or services. 2 No. 2021AP802 services," the agreements at issue were lawfully entered. The circuit court's decision to enjoin enforcement of the contracts was improper. ¶3 We reverse the circuit court's grant of summary judgment in Respondents' favor, and instead, we remand this case to the circuit court with instructions to enter judgment in favor of Petitioners. In addition, we clarify the standard for granting a stay of an injunction pending appeal. The circuit court in this case incorrectly applied that standard and refused to stay its injunction pending appeal of its decision. Further . . . (2)(b) Contracts for purchases by the senate or assembly shall be signed by an individual designated by the organization committee of the house making the purchase. Contracts for other legislative branch purchases shall be signed by an individual designated by the joint committee on legislative organization. Contracts for purchases by the judicial commission or judicial council shall be signed by an individual designated by the commission or council, respectively. Contracts for other judicial branch purchases shall be signed by an individual designated by the director of state courts. . . . (4) Each legislative and judicial officer shall file all bills and statements for purchases and engagements made by the officer under this section with the secretary, who shall audit and authorize payment of all lawful bills and statements. No bill or statement for any purchase or engagement for the legislature, the courts or any legislative service or judicial branch agency may be paid until the bill or statement is approved by the requisitioning or contracting officer under sub. (2). 3 No. 2021AP802 explanation from this court is needed to ensure the standard for stays pending appeal is correctly followed in the future. I. FACTUAL BACKGROUND AND PROCEDURAL POSTURE ¶4 For decades, the Wisconsin Legislature has hired attorneys to provide competent legal advice on redistricting. Faced with the inherent challenges of drawing new political boundaries in the state, described both as a "thicket," Jensen v. Wis. Elections Bd., 2002 WI 13, ¶11, 249 Wis. 2d 706, 639 N.W.2d 537, and "a critical . . . part of politics," Rucho v. Common Cause, 588 U.S. ___, 139 S. Ct. 2484, 2498 (2019), the legislature has repeatedly consulted specialists to assist them in developing maps and to prepare for subsequent litigation. See Jensen, 249 Wis. 2d 706, ¶10 ("[R]edistricting is now almost always resolved through litigation rather than legislation . . . ."); see also, e.g., Wis. State AFL-CIO v. Elections Bd., 543 F. Supp. 630 (E.D. Wis. 1982) (redistricting litigation for the 1980 census); Prosser v. Elections Bd., 793 F. Supp. 859 (W.D. Wis. 1992) (litigation regarding redistricting after the 1990 census); Baumgart v. Wendelberger, Nos. 01-0121 & 02-C-0366, unpublished slip op. (E.D. Wis. May 30, 2002) (redistricting litigation surrounding the 2000 census); Baldus v. Members of Wis. Gov't Accountability Bd., 849 F. Supp. 2d 840 (E.D. Wis. 2012) (litigation challenging maps enacted by the Wisconsin Legislature and signed by the governor after the 2010 census); Johnson v. WEC, No. 2021AP1450-OA, unpublished order (Wis. Sept. 22, 2021, amend. Sept. 24, 2021) 4 No. 2021AP802 (granting petition for leave to commence an original action on redistricting for the 2020 census). ¶5 For the 1980 and 1990 redistricting processes, the legislature hired attorneys to provide advice and represent its interests in litigation in federal and state court. Similarly, for the 2000 and 2010 processes, the Senate Committee on Organization authorized payments for attorney services for the Wisconsin Senate, while the Wisconsin Assembly obtained counsel for redistricting through separate agreements. ¶6 In line with historical precedent, the substantial legislative demands redistricting created, and the need for pre- litigation advice, both houses of the legislature retained legal counsel for the 2020 redistricting process. On December 23, 2020, Petitioners, on behalf of the senate and assembly, executed an attorney services contract to begin on January 1, 2021, with the law firm Consovoy McCarthy PLLC ("Consovoy"), in association with Attorney Adam Mortara. Consovoy and Mortara agreed to consult with the legislature on "possible litigation related to decennial redistricting," "provide strategic litigation direction," and "provide . . . day-to-day litigation resources."5 ¶7 On January 5, 2021, the Committee on Senate Organization issued authorization for purchase of attorney services. The committee voted to "authorize[] the senate . . . to retain and hire legal counsel" for 5 The agreement was revised and re-signed on March 3, 2021. 5 No. 2021AP802 redistricting. The authorization was to remain "in force the entire 2021-2022 legislative session," and it provided Senator LeMahieu with the authority to "approve all financial costs and terms of representation." ¶8 On January 6, 2021, Senator LeMahieu, acting on behalf of the senate, signed an engagement agreement with the law firm Bell Giftos St. John LLC ("BGSJ"). The firm agreed to advise the legislature on redistricting, including the "constitutional and statutory requirements," "the validity of any draft redistricting legislation," and for "judicial . . . proceedings relating to redistricting." ¶9 On March 24, 2021, the Committee on Assembly Organization followed the lead of the senate committee and voted to authorize Speaker Vos to "hire . . . law firms, entities or counsel necessary related to . . . legislative redistricting." In addition, the committee noted that Speaker Vos "has always [been] authorized" to contract for attorney services "beginning on January 1, 2021." ¶10 To perform their contract obligations, the legislature followed the same procedure it follows for all billings and expenditures for the legislative branch. A bill or statement was provided to business managers at the senate and assembly. The managers entered the billing information into an online software program called PeopleSoft; the information in PeopleSoft was checked by the chief clerks, who then approved the purchases and transmitted the information to the Department of Administration ("DOA"). The DOA, as with all purchases made 6 No. 2021AP802 by the legislature, received details through the PeopleSoft software on the payments requested by the legislature. The agency received: (1) the names of the billing entities and individuals (here the law firms contracted to provide services); (2) invoice codes specific to the purchases at issue; (3) invoice dates; (4) total dollar amounts requested; and (5) a general accounting code that categorized the types of purchases requested, i.e., legal services. After receiving this information from the legislature, DOA approved the purchases and transferred the requested funds to the senate and assembly. ¶11 On March 10, 2021, Respondents filed this taxpayer lawsuit in Dane County circuit court. They sought a declaration that the two attorney services agreements the legislature entered into were void ab initio. The complaint alleged that no legal authority permitted the Petitioners to sign the contracts on behalf of the senate and assembly. Soon after filing the complaint, Respondents moved for a temporary injunction barring the legislature from issuing payment under the attorney services contracts and prohibiting Petitioners from seeking legal advice other than from the Wisconsin Department of Justice. ¶12 Petitioners moved to dismiss the complaint. After a hearing, the circuit court denied the request for a temporary injunction and converted Petitioners' motion to dismiss into a motion for summary judgment.6 The circuit court ordered Under Wis. Stat. § 802.06(2)(b), a motion to dismiss for 6 failure to state a claim is converted into a motion for summary judgment where "matters outside of the pleadings are presented to and not excluded by the court." 7 No. 2021AP802 additional briefing. In a response brief to the motion for summary judgment, Respondents stated that the court should not only deny Petitioners' motion, but also grant summary judgment in Respondents' favor. ¶13 On April 29, 2021, the circuit court issued a written decision agreeing with Respondents. The circuit court held that there was not statutory or constitutional authority by which Petitioners could enter into and perform on the attorney engagement agreements with Consovoy, Mortara, and BGSJ. Specifically, the court quoted Wis. Stat. § 16.74(1), which states, in relevant part: "All supplies, materials, equipment, permanent personal property and contractual services required within the legislative branch shall be purchased by the joint committee on legislative organization or by the house or legislative service agency utilizing the supplies, materials, equipment, property or services." (Emphasis added.) The circuit court read the provision as allowing the legislature to purchase supplies, materials, and contractual services, but only contractual services that are "relate[d] to" and "required" by purchases of other physical property. Thus, while the legislature could hire a repairman to inspect an air conditioning unit, it could not contract for stand-alone attorney services. In addition, the circuit court held that, while the legislature "could probably . . . hire counsel to review [redistricting maps] it has drawn," it could not legally enter into the contracts at issue because the agreements were 8 No. 2021AP802 "preemptive" and "litigation . . . may not even occur."7 Thus, the circuit court declared the relevant contracts void ab initio and enjoined Petitioners from authorizing any further payments under the contracts. ¶14 The day after the circuit court issued its opinion, Petitioners filed a notice of appeal and an emergency motion for a stay pending appeal. On May 10, 2021, the circuit court held a hearing and denied the request for a stay. In so doing, the circuit court reviewed the arguments the Petitioners advanced and noted that it "disagree[d] with their legal analysis." The circuit court reiterated that it had considered the caselaw in support of Petitioners' position and it "reaffirm[ed]" its conclusions of law. In its reasoning, the circuit court noted that Petitioners had "re-present[ed] . . . what was originally before [the circuit court]." The circuit court reasoned that it would "merely be repeating what [it] already set forth" in the April 29 opinion. Consequently, the circuit court held that Petitioners were unlikely to succeed on appeal. The circuit court continued, stating that Petitioners would not suffer irreparable harm because they could rely on institutions such as the Attorney General's office for legal advice, and Petitioners could hire private firms if redistricting litigation was initiated. Finally, according to the circuit court, because the 7 In addition, the circuit court held that Petitioners did not have independent authority to enter into the contracts under Wis. Stat. § 13.124, Wis. Stat. § 20.765, or the legislature's powers under the Wisconsin Constitution. 9 No. 2021AP802 contracts constituted unauthorized expenditure of public funds, harm would befall the general public, and a stay was not warranted. ¶15 On May 12, 2021, Petitioners filed a motion for a stay pending appeal at the court of appeals. On June 29, 2021, two months after the circuit court enjoined enforcement of the attorney services contracts, the court of appeals issued a decision, declining Petitioners' request for a stay. Waity v. LeMahieu, No. 2021AP802, unpublished order (Wis. Ct. App. June 29, 2021). The court of appeals explained that the circuit court properly analyzed the relevant standard, and its decision was not an erroneous exercise of discretion. Id. at 6-7. ¶16 On June 30, 2021, Petitioners filed with this court a petition to bypass the court of appeals and a motion to stay the circuit court's injunction pending appeal. On July 15, 2021, we granted the Petitioners' request to bypass the court of appeals, and, in an unpublished order, granted the motion for stay. Waity v. LeMahieu, No. 2021AP802, unpublished order (Wis. July 15, 2021) (granting motion for relief pending appeal). In so doing, we analyzed the circuit court's stay analysis and concluded that the circuit court misapplied the relevant standard. 10 No. 2021AP802 II. STANDARD OF REVIEW ¶17 In this case, we are asked to review motions for summary judgment.8 "Whether the circuit court properly granted summary judgment is a question of law that this court reviews de novo." Racine County v. Oracular Milwaukee, Inc., 2010 WI 25, ¶24, 323 Wis. 2d 682, 781 N.W.2d 88 (quotations omitted). Summary judgment is appropriate "if the pleadings, depositions, answers to interrogatories, and admissions on file, together with the affidavits, if any, show that there is no genuine issue as to any material fact and that the moving party is entitled to a judgment as a matter of law." Wis. Stat. § 802.08(2). A party opposing summary judgment "'may not rest upon the mere allegations or denials of the pleadings' but instead, through affidavits or otherwise, 'must set forth specific facts showing that there is a genuine issue for trial.'" Oracular Milwaukee, 323 Wis. 2d 682, ¶26 (quoting Wis. Stat. § 802.08(3) (2007-08)). ¶18 This case also presents questions of statutory interpretation. "Interpretation of a statute is a question of law that we review de novo, although we benefit from the analyses of the circuit court and the court of appeals." Estate of Miller v. Storey, 2017 WI 99, ¶25, 378 Wis. 2d 358, 903 N.W.2d 759. "[S]tatutory interpretation begins with the Petitioners originally moved to dismiss the complaint, 8 which the circuit court converted into a motion for summary judgment. See Wis. Stat. § 802.06(2)(b). In response to the motion, at the circuit court, Respondents requested summary judgment in their favor. We review the cross motions for summary judgment on appeal. 11 No. 2021AP802 language of the statute. If the meaning of the statute is plain, we ordinarily stop the inquiry. Statutory language is given its common, ordinary, and accepted meaning, except that technical or specially-defined words or phrases are given their technical or special definitional meaning." State ex rel. Kalal v. Cir. Ct. for Dane Cnty., 2004 WI 58, ¶45, 271 Wis. 2d 633, 681 N.W.2d 110 (citations and quotations omitted). In addition, "statutory language is interpreted in the context in which it is used; not in isolation but as part of a whole; in relation to the language of surrounding or closely-related statutes; and reasonably, to avoid absurd or unreasonable results." Id., ¶46. III. ANALYSIS ¶19 The Respondents argue that Petitioners lacked any legal authority to enter into legal contracts with Consovoy, Mortara, and BGSJ. In response, Petitioners claim that, at a minimum, Wis. Stat. § 16.74 provides Petitioners, acting on behalf of the legislature, the necessary authority.9 Petitioners argue that the circuit court erred in granting summary judgment in Respondents' favor, and that in fact, summary judgment is warranted in favor of Petitioners. ¶20 We agree with the Petitioners. For the reasons provided below, Wis. Stat. § 16.74 grants the legislature 9Petitioners also argue that they had authority to enter the legal services contracts under Wis. Stat § 13.124, Wis. Stat. § 20.765, and the Wisconsin Constitution. Because we hold that Wis. Stat. § 16.74 provides Petitioners independent legal authority to enter the contracts, we will not address Petitioners' other claims. 12 No. 2021AP802 authority to enter into legal contracts to assist in redistricting and related litigation. ¶21 In addition, we address the circuit court's decision to deny a stay of its injunction pending appeal. The circuit court misapplied the standard for granting stays pending appeal. Although we reversed the circuit court's decision in an unpublished order on July 15, 2021, additional explanation of our prior decision is needed to ensure compliance with the law. A. The Legislature's Authority To Enter Into Legal Services Contracts Under Wis. Stat. § 16.74. 1. The circuit court decision ¶22 Wisconsin Stat. § 16.74(1), titled "Legislative and judicial branch purchasing," states that "[a]ll supplies, materials, equipment, permanent personal property and contractual services required within the legislative branch shall be purchased by the joint committee on legislative organization or by the house or legislative service agency utilizing the supplies, materials, equipment, property or services." The circuit court reasoned that, although the legislature could purchase some services under this agreement, because the legal services at issue were not related to other "supplies, materials, equipment, [or] permanent personal property," the legal services fell outside the scope of the statute. ¶23 The circuit court misinterpreted Wis. Stat. § 16.74. The statute explicitly permits each house of the legislature to purchase "contractual services" that are "required within the 13 No. 2021AP802 legislative branch." § 16.74(1). The text of § 16.74 does not state that purchase of services must be tied to other physical property purchases. In fact, Wis. Stat. § 16.70(3) defines "contractual services" under § 16.74 to include "all services, materials to be furnished by a service provider in connection with services, and any limited trades work involving less than $30,000 to be done for or furnished to the state or any agency." (Emphasis added.) In § 16.74, the legislature did not enact a limited purchasing power. ¶24 "Service" is defined as "[t]he action or fact of working or being employed in a particular capacity (irrespective of whom the work is done for)." Service, Oxford English Dictionary (2021); see also service, Black's Law Dictionary (11th ed. 2019) ("Labor performed in the interest or under the direction of others."). The term "contractual services" includes the provision of work or labor to another in exchange for compensation, under an enforceable agreement. Unambiguously, this includes the provision of legal services under contract. ¶25 The circuit court's statutory interpretation appears to rely heavily on logic embodied in the noscitur a sociis canon. However, the canon does not alter our conclusion. Noscitur a sociis serves to read in context ambiguous terms that could be defined literally in a manner conflicting with the statute's plain meaning. Therefore, in the list "tacks, staples, nails, brads, screws, and fasteners," the word "staples" should not be read to mean "reliable and customary 14 No. 2021AP802 food items." Antonin Scalia & Bryan A Garner, Reading Law: The Interpretation of Legal Texts 196 (2012); see also Stroede v. Soc'y Ins., 2021 WI 43, ¶¶1, 19, 397 Wis. 2d 17, 959 N.W.2d 305 (interpreting a list of "possessor[s] of real property," which included "owner, lessee, tenant, or other lawful occupant of real property," to not encompass a patron at a bar who lacked "possession or control over the property" (citing Wis. Stat. § 895.529 (2017-18)). ¶26 The term "contractual services" under Wis. Stat. § 16.74 is unambiguous and includes attorney services. See Benson v. City of Madison, 2017 WI 65, ¶31, 376 Wis. 2d 35, 897 N.W.2d 16 (holding that the term "corporation" was unambiguous and thus there was "no need to resort to the [noscitur a sociis] canon"). Furthermore, the broad scope of "contractual services" is in harmony with the shared meaning of "supplies, materials, equipment, [and] permanent personal property" under § 16.74(1) as all items in the list must, by statute, be "required within the legislative branch." See State v. Quintana, 2008 WI 33, ¶35, 308 Wis. 2d 615, 748 N.W.2d 447 (noting that, under the noscitur a sociis canon, a list of specific items indicated a general common meaning which permitted an "expansive, not restrictive" reading of the statute). ¶27 Confirming the plain meaning and statutory definition of "contractual services," the official legislative annotation of Wis. Stat. § 16.70(3) states that "'[c]ontractual services' 15 No. 2021AP802 include technical and professional services."10 Wis. Stat. § 16.70, historical note (citing 65 Wis. Op. Att'y Gen. 251 (1976)); see Madison Metro. Sch. Dist. v. Cir. Ct. for Dane Cnty., 2011 WI 72, ¶65 n.12, 336 Wis. 2d 95, 800 N.W.2d 442 (stating that, although "titles and histor[ical] notes" are not part of statutes, "they provide valuable clues to the meaning of statutory text" (citing Wis. Stat. § 990.001(6) (2007-08))). Of course, attorneys are considered professionals. ¶28 The circuit court also held that the attorney services contracts at issue were not "required within the legislative branch" under Wis. Stat. § 16.74 because redistricting 10 The legislative annotation relies on an Attorney General opinion from 1976, which interpreted the meaning of "contractual services" under the version of Wis. Stat. § 16.70 that existed at the time. 65 Wis. Op. Att'y Gen. 251 (1976); see Milwaukee J. Sentinel v. City of Milwaukee, 2012 WI 65, ¶41, 341 Wis. 2d 607, 815 N.W.2d 367 ("The opinions of the Attorney General are not binding on the courts but may be given persuasive effect."). The definition in 1976 had no material differences to the current version. See Wis. Stat. § 16.70 (1975-76) (defining "contractual services" to include "all materials and services"). In the opinion, the Attorney General reviewed the legislative history of § 16.70 and explained that a prior version of the statute was amended to define "contractual services" to include "all . . . services." 65 Wis. Op. Att'y Gen. at 255-56. When making that change, the legislature was concerned that the prior version of the statute excluded "technical and professional services." Id. Thus, the Attorney General concluded that § 16.70's definition of "contractual services" included professional services, such architectural and engineering consulting services. Id. at 252. This legislative history confirms the plain language of § 16.70. Teschendorf v. State Farm Ins. Co., 2006 WI 89, ¶14, 293 Wis. 2d 123, 717 N.W.2d 258 ("[I]f the meaning of the statute is plain, we sometimes look to legislative history to confirm the plain meaning."). "Contractual services" under § 16.70 extends to all professional services, including legal services. 16 No. 2021AP802 litigation had not yet begun. Of course, in cases of complex litigation, legal advice to prepare clients for upcoming court proceedings, develop legal strategies, and mitigate litigation risk can be of material significance. Understanding the stakes and potential consequences of a given action——here, a redistricting map——may serve to ensure greater legal compliance, reduce the need for judicial intervention, and lower burdens on the court system. There is no support found in either the text of § 16.74 or in basic principles of litigation practice that counseling prior to the filing of a lawsuit is not worthwhile or helpful. In fact, it can be of equal or greater importance than representation in subsequent legal proceedings. This is especially true in an area such as redistricting, where multiple levels of law from both state and federal sources present substantial compliance difficulties to even the most astute legal mind, and litigation is extraordinarily likely, if not inevitable. Jensen, 249 Wis. 2d 706, ¶10 ("[R]edistricting is now almost always resolved through litigation rather than legislation . . . ."). ¶29 Furthermore, any distinction between the existence and nonexistence of a present lawsuit is largely unworkable. While the legislature may have authorization to purchase legal services under Wis. Stat. § 16.74 once a lawsuit was initiated, under the circuit court's reasoning, the legislature would be prohibited from hiring counsel to file a lawsuit on its behalf, as no lawsuit would exist prior to the lawsuit being filed. Such an interpretation is absurd. See Kalal, 271 Wis. 2d 633, 17 No. 2021AP802 ¶46 (stating that statutes must be interpreted "reasonably, to avoid absurd or unreasonable results"). ¶30 The parties do not dispute that Petitioners, on behalf of the legislature, contracted with Consovoy and Mortara to provide advice and strategic direction on redistricting litigation. BGSJ was contracted to review "constitutional and statutory requirements" and the "validity of any draft redistricting legislation," as well as to assist the legislature in redistricting-related legal proceedings. ¶31 It strains credulity to conclude that the need for legal advice in this area was fictitious or somehow disconnected from legitimate legislative activities. Every ten years, the legislature is constitutionally responsible for drawing district boundaries in this state. See Jensen, 249 Wis. 2d 706, ¶6 (noting that the Wisconsin Constitution gives "the state legislature the authority and responsibility" to draw district boundaries); Wis. Const. art. IV, § 3 ("[T]he legislature shall apportion and district anew the members of the senate and assembly . . . ."). The legislature clearly has a constitutionally-rooted institutional interest in litigating redistricting disputes. ¶32 The undisputed facts show that, in line with decades of bipartisan precedent, the Senate and Assembly Committees on Organization determined that the hiring of legal counsel to assist with redistricting was needed. By taking these votes, the legislature rationally took steps to make more informed decisions in drawing maps, navigate extraordinarily complex 18 No. 2021AP802 legal issues, and prepare for related litigation. As a matter of law, there is no genuine dispute of fact that the attorney services contracts were "required within the legislative branch" under Wis. Stat. § 16.74. See Wis. Stat. § 802.08(2). 2. The Respondents' arguments ¶33 The Respondents' arguments on appeal move away from the circuit court's legal reasoning. Instead, they claim that Wis. Stat. § 16.74 contains no conferral of purchasing authority at all. According to Respondents, some other statutory provision must provide authority to the legislature to make basic purchasing decisions. Under Respondents' theory, § 16.74 simply identifies which entities may make purchases for the legislature and the procedure by which those purchases are completed. ¶34 Wisconsin Stat. § 16.74(1) confirms that "supplies, materials, equipment, permanent personal property and contractual services," must be purchased by the joint committee on legislative organization, a house of the legislature, or a legislative service agency to the extent that the purchases are "required within the legislative branch." By the very operation of this provision, those entities entitled to make purchases must have, under the statute, the legal authority to do so. If no authority exists, the responsibility to make "purchase[s]" under the statute would have little applicability or utility. The statute includes no indication, explicit or implicit, that purchasing authority is vested, defined, or limited by other statutory provisions. For example, § 16.74(1) does not state, 19 No. 2021AP802 "If authorized" under a different statute, "[a]ll supplies, materials, equipment, permanent personal property and contractual services" shall be purchased. Instead, the provision states, without ambiguity, that such goods and services "shall be purchased" to the extent they are needed by the legislature. Respondents fail to cite a conflicting provision in the Wisconsin code that ties purchases under § 16.74 to separate statutory provisions. ¶35 In other words, for the plain text of Wis. Stat. § 16.74(1) to have effective meaning, the legislature must have the authority to make purchases under the provision. This basic principle is not foreign to our jurisprudence. For example, in Bank of New York Mellon v. Carson, we interpreted a foreclosure statute which stated, upon a court's finding of abandonment, a judgment "shall be entered" which indicates that "the sale of such mortgaged premises shall be made upon the expiration of 5 weeks from the date [of judgment]." 2015 WI 15, ¶20, 361 Wis. 2d 23, 859 N.W.2d 422 (quoting Wis. Stat. § 846.102 (2011- 12)). We interpreted the statute to provide "the circuit court the authority to order a bank to sell the property." Id. Further, Wis. Stat. § 808.03(2) states that a civil "judgment or order [of a circuit court] . . . may be appealed to the court of appeals in advance of a final judgment or order" if certain conditions are met. Naturally, we have read § 808.03(2) to provide litigants with the ability to "appeal[] by permission." Heaton v. Larsen, 97 Wis. 2d 379, 397, 294 N.W.2d 15 (1980). 20 No. 2021AP802 ¶36 When interpreting Wis. Stat. §§ 846.102(1) and 808.03(2), we did not demand separate statutory authority for a court to order a foreclosure sale or for a litigant to appeal by permission of the court. Such authority was inherent in the plain meaning and operation of the statutes. We did not read § 846.102(1) as solely describing the content of foreclosure judgments, and we did not read § 808.03(2) as merely explaining conditions precedent to appeal. Contrary to Respondents' claims, Wis. Stat. § 16.74, like §§ 846.102(1) and 808.03(2), does not only identify the individuals or entities who may have legal authority to make legislative branch purchases if another statute says as much, nor does the provision serve only to clarify procedure for making such purchases. Instead, § 16.74 is an independent grant of legal authority by which the legislature can buy the goods and services it needs.11 ¶37 The context of Wis. Stat. § 16.74 confirms this plain meaning. See Kalal, 271 Wis. 2d 633, ¶46 ("[S]tatutory language 11 Similarly, Article I, Section 4 of the United States Constitution states that, "The times, places and manner of holding elections for senators and representatives, shall be prescribed in each state by the legislature thereof." (Emphasis added.) Wisconsin Stat. § 16.74(1), which states "[a]ll . . . contractual services required within the legislative branch shall be purchased by . . . the house or legislative service agency utilizing [the services]," uses an almost identical linguistic structure. It is not seriously disputed that, under the text of Article I, Section 4, states are vested the authority to regulate the manner of federal elections. See U.S. Term Limits, Inc. v. Thornton, 514 U.S. 779, 805 (1995) (explaining that the provision is an "express delegation[] of power to the States to act with respect to federal elections"). 21 No. 2021AP802 is interpreted in the context in which it is used . . . ."). Section 16.74(3) states that the individuals "authorized to make purchases or engage services under this section [16.74] may prescribe the form of . . . contracts for the purchases and engagements." (Emphasis added.) Similarly, § 16.74(4) states that "bills and statements for purchases and engagements" made "under this section" must be submitted to the DOA. (Emphasis added.) These provisions heavily imply that § 16.74 provides an independent basis by which the legislature can make purchases. It would be deeply counterintuitive for § 16.74 to specify that purchases are made under its own terms when, in fact, a completely separate, unidentified statute confers the needed legal authority to make the purchases. By stating that purchases are made under § 16.74, the legislature confirmed that, indeed, purchases can be made under the statute. Respondents' arguments are not supported by the text of § 16.74 and cannot be accepted. See Kalal, 271 Wis. 2d 633, ¶45 ("If the meaning of the statute is plain, we ordinarily stop the inquiry." (quotations omitted)).12 12It is noteworthy that Wis. Stat. § 16.74 also provides the statutory basis for making judicial branch purchases. See § 16.74(1) ("All supplies, materials, equipment, permanent personal property and contractual services required within the judicial branch shall be purchased by the director of state courts . . . ."). An almost identically worded statute provides the DOA with the authority to complete necessary purchases "for all [executive branch] agencies." Wis. Stat. § 16.71(1); see, e.g., Glacier State Dist. Servs. v. DOT, 221 Wis. 2d 359, 362, 585 N.W.2d 652 (Ct. App. 1998) (noting that all purchases for "the de-icing of state highways" in Wisconsin were made under § 16.71). If Respondents' interpretation were correct, legal uncertainty would surround basic purchases by the legislative, 22 No. 2021AP802 ¶38 Putting aside the question of purchasing authority under Wis. Stat. § 16.74, Respondents claim that a more specific statute for hiring attorneys applies and thus, Petitioners cannot rely on § 16.74 to enter into the contracts with Consovoy, Mortara, and BGSJ. Wisconsin Stat. § 13.124 states that the senate majority leader or the assembly speaker, or both, may at their "sole discretion," "obtain legal counsel other than from the department of justice . . . in any action in which the [senate or assembly] is a party or in which the interests of the [senate or assembly] are affected, as determined by the [senate majority leader or speaker]." § 13.124(1)(b), (2)(b). It is true that "where two conflicting statutes apply to the same subject, the more specific statute controls." Lornson v. Siddiqui, 2007 WI 92, ¶65, 302 Wis. 2d 519, 735 N.W.2d 55; see also Scalia & Garner, supra ¶25, at 183 ("The general/specific canon . . . deals with what to do when conflicting provisions simply cannot be reconciled . . . ."). However, "conflicts between different statutes, by implication or otherwise, are not favored and will not be held to exist if they may otherwise be reasonably construed." State ex rel. Hensley v. Endicott, 2001 WI 105, ¶19, 245 Wis. 2d 607, 629 N.W.2d 686. ¶39 Here, there is no statutory conflict that bars the use of Wis. Stat. § 16.74 to purchase attorney services. Under a judicial, and executive branches. Under what authority, for instance, would courts be able to buy note pads on which judges and clerks write? 23 No. 2021AP802 plain reading of Wis. Stat. § 13.124, the provision applies only where there is an "action" in which the senate or assembly are parties, or their interests are affected. The provision also vests authority solely in the discretion of the senate majority leader and assembly speaker. By contrast, § 16.74 grants the legislature authority to purchase attorney services, but only if approved by "the joint committee on legislative organization or by the house or legislative service agency" using the services. There is no limitation in § 16.74 that the purchase be made for an "action" like in § 13.124. Thus, § 13.124 provides a quick, streamlined basis for the legislature's leadership to obtain counsel for the legislature in "any action." By contrast, § 16.74 allows each house of the legislature to obtain counsel as needed, irrespective of whether an "action" exists. Sections 13.124 and 16.74 are different statutes that apply in distinct circumstances. They provide separate statutory authority for the hiring of attorneys, and the general/specific cannon does not apply.13 See Lornson, 302 Wis. 2d 519, ¶65 (requiring "conflicting statutes"); Endicott, 245 Wis. 2d 607, ¶19 (noting that interpretations rendering statutes in conflict are disfavored in the law). ¶40 In addition, Respondents claim that, even if Wis. Stat. § 16.74 provides the legislature authority to contract for We reserve, without deciding, the question of whether 13 Wis. Stat. § 13.124 provided the Petitioners authority, independent of Wis. Stat. § 16.74, to enter into attorney services contracts prior to the initiation of a redistricting lawsuit. 24 No. 2021AP802 attorney services, Petitioners did not comply with procedural requirements. Under § 16.74(1), purchases must be made by "the joint committee on legislative organization or by the house or legislative service agency utilizing the" goods or services. "Contracts for purchases by the senate or assembly shall be signed by an individual designated by the organization committee of the house making the purchase." § 16.74(2)(b). ¶41 Here, the undisputed facts show that the Senate and Assembly Committees on Organization, who were designated by their respective houses to review and complete purchases for attorney services, vested the Petitioners with authority to enter into the contracts with Consovoy, Mortara, and BGSJ. On January 5, 2021, the Committee on Senate Organization approved the hiring of attorneys for redistricting and explicitly granted Senator LeMahieu authority to enter into contracts. Further, on March 24, 2021, the Committee on Assembly Organization vested Speaker Vos with the authority to hire counsel for redistricting, noting that Speaker Vos had "always [been] authorized" to contract for attorney services. ¶42 Respondents note that the agreement with Consovoy and Mortara was signed on December 23, 2020, and the Senate and Assembly Committees on Organization approved the hiring of counsel after that date, on January 5 and March 24, 2021, respectively. Therefore, the legislature indisputably approved the attorney agreements signed by Petitioners in January and March 2021. It is well established that a contract is valid, even if originally signed by an agent without authority, when 25 No. 2021AP802 the principal subsequently ratifies the agreement and agrees to be bound by its terms. See M&I Bank v. First Am. Nat'l Bank, 75 Wis. 2d 168, 176, 248 N.W.2d 475 (1977) (explaining that "[r]atification is the manifestation of intent to become party to a transaction purportedly done on the ratifier's account"); Restatement (Second) of Contracts §380 cmt. a (1981) ("A party who has the power of avoidance may lose it by action that manifests a willingness to go on with the contract."); see, e.g., Milwaukee J. Sentinel v. DOA, 2009 WI 79, 319 Wis. 2d 439, 768 N.W.2d 700 (reviewing a public records law challenge to a statute enacted by the legislature to ratify a previously negotiated collective bargaining agreement). The legislature adopted the contracts at issue, even given the fact that it did so after the agreements were signed. The agreements are valid and enforceable. ¶43 Respondents also claim that the contracts are void because the legislature failed to provide adequate information to the DOA, and the payments to Consovoy, Mortara, and BGSJ were not properly audited. Wisconsin Stat. § 16.74(4) states that "[e]ach legislative and judicial officer shall file all bills and statements for purchases and engagements made by the officer under this section with the secretary [of the DOA], who shall audit and authorize payment of all lawful bills and statements." ¶44 It is undisputed that the legislature submitted information on bills from the relevant attorney services contracts to the DOA. Petitioners submitted undisputed evidence that, as with all purchases for the legislature, including 26 No. 2021AP802 attorney services, information from the bills was inputted into a software program, PeopleSoft. A business manager submitted basic accounting details, such as the name of the billing entities, transaction-specific invoice codes, invoice dates, the amount of funds needed, and the general accounting code describing the subject matter of the transaction, i.e., legal services. The information was reviewed by at least two employees at the legislature, including the chief clerks, and was then transferred to the DOA for review. The DOA received the information and issued payments. The uncontested facts show that the legislature properly allowed the DOA to audit and review "bills and statements" for the attorney services at issue. Wis. Stat. § 16.74(4). ¶45 Respondents cite a response to a public records request provided by DOA's Chief Legal Counsel, Ann Hanson, which stated that the DOA did not have access to bills and statements that originated from Consovoy and BGSJ. However, DOA's response also indicated that the DOA was given payment requests and, in fact, issued payments. Clearly, at the time of the payments, DOA believed the legislature had provided sufficient information to review the requests and comply with Wis. Stat. § 16.74's procedural requirements. As with all purchasing requests submitted by the legislature, DOA had online access to the information taken from the attorney services bills submitted through PeopleSoft. The fact that the legislature, working with the DOA, streamlined the acquisitions process and transitioned to software programs in lieu of submitting original billing 27 No. 2021AP802 statements is of no legal significance. As required by § 16.74, the DOA had access to basic accounting information for the purchases at issue, and, predictably, the DOA issued payments. ¶46 To the extent that DOA failed to perform a proper audit under Wis. Stat. § 16.74 of the legislature's purchasing requests, Respondents must direct their complaint toward the DOA, not the legislature. Section 16.74(4) unambiguously vests the duty to "audit and authorize payment[s]" with the DOA. Respondents cite no legal authority that the legislature had the obligation or responsibility to oversee DOA's internal auditing process. In this case, DOA received billing requests and information, responded to the legislature, and issued payments. If, in doing so, DOA failed to fully perform its administrative duties, purchasing by the legislature under § 16.74 cannot be ground to a halt.14 ¶47 In all, the legislature complied with Wis. Stat. § 16.74 and received the payments it properly approved, validated, and requested. Consequently, as a matter of law, summary judgment in Petitioners' favor is warranted.15 Furthermore, any failure of those authorized to make 14 purchases under Wis. Stat. § 16.74 to provide information to the DOA for audit would implicate the legality of payments for the legal services contracts, not the legality of the contracts themselves. There is no substantiated argument that failing to send proper documentation to the DOA would render the contracts unenforceable. While Respondents filed this lawsuit in part to bar payments under the contracts, if Petitioners violated § 16.74's audit procedures as Respondents allege, the separate remedy of declaring the contracts void ab initio would not be appropriate. 15 The dissent does not dispute that attorney services 28 No. 2021AP802 B. The Standard For Stays Pending Appeal ¶48 After awarding summary judgment in Respondents' favor, the circuit court in this case enjoined Petitioners from constitute "contractual services" under Wis. Stat. § 16.74, nor does it claim, as do the Respondents, that § 16.74 fails to provide independent legal authority to complete legislative purchases. Instead, the dissent advances a distinct statutory interpretation undeveloped by Respondents on appeal. It notes that § 16.74(1) permits purchases by "the joint committee on legislative organization or by the house or legislative service agency utilizing" the goods or services, and it claims that neither the joint committee nor the senate or assembly as a whole voted to approve the contracts at issue. Yet, the statute does not bar the senate or assembly from designating committees to complete purchases on behalf of the two houses. It is well understood that the legislature adopts and utilizes internal rules to "govern[] how it operates." Custodian of Recs. for Legis. Tech. Servs. Bureau v. State, 2004 WI 65, ¶28, 272 Wis. 2d 208, 680 N.W.2d 792; see also League of Women Voters of Wis. v. Evers, 2019 WI 75, ¶39, 387 Wis. 2d 511, 929 N.W.2d 209 (noting that the legislature has the discretion "to determine for itself the rules of its own proceedings"); see, e.g., Flynn v. DOA, 216 Wis. 2d 521, 531-32, 576 N.W.2d 245 (1998) (explaining that the legislature delegated to a committee the authority to narrow and eliminate alternatives of proposed legislation). The senate and assembly may, as was done in this case, appoint committees on organization to approve necessary purchases on behalf of the two houses. Under the dissent's reading, if purchases are not made through the joint committee on organization, the entirety of each house would be forced to vote on specific, and often mundane, legislative purchases. The text of § 16.74 does not require the legislature to engage in such inefficient practices. In fact, § 16.74 expressly contemplates the designation of committees to facilitate necessary purchasing. The statute states that contracts for purchases by either house must be signed "by an individual designated by the organization committee of the house making the purchase." § 16.74(2)(b) (emphasis added); see State ex rel. Kalal v. Cir. Ct. for Dane Cnty., 2004 WI 58, ¶45, 271 Wis. 2d 633, 681 N.W.2d 110 ("[S]tatutory language is interpreted in the context in which it is used . . . ."). That is exactly what occurred in this case. 29 No. 2021AP802 performing the attorney-services contracts signed with Consovoy, Mortara, and BGSJ. In addition, the circuit court declined to issue a stay of the injunction pending appeal. In July 2021, we reversed that decision in an unpublished order. See Waity v. LeMahieu, No. 2021AP802, unpublished order (Wis. July 15, 2021) (granting motion for relief pending appeal). We now take the opportunity to explain our decision. ¶49 Courts must consider four factors when reviewing a request to stay an order pending appeal: (1) whether the movant makes a strong showing that it is likely to succeed on the merits of the appeal; (2) whether the movant shows that, unless a stay is granted, it will suffer irreparable injury; (3) whether the movant shows that no substantial harm will come to other interested parties; and (4) whether the movant shows that a stay will do no harm to the public interest. See State v. Scott, 2018 WI 74, ¶46, 382 Wis. 2d 476, 914 N.W.2d 141. At times, this court has also noted that "[t]emporary injunctions are to be issued only when necessary to preserve the status quo." Werner v. A.L. Grootemaat & Sons, Inc., 80 Wis. 2d 513, 520, 259 N.W.2d 310 (1977). The relevant factors "are not prerequisites but rather are interrelated considerations that must be balanced together." State v. Gudenschwager, 191 Wis. 2d 431, 440, 529 N.W.2d 225 (1995). ¶50 On appeal, a circuit court's decision to grant or deny a motion to stay is reviewed under the erroneous exercise of 30 No. 2021AP802 discretion standard. Id. at 439. The circuit court's decision must be affirmed if it "examined the relevant facts, applied a proper standard of law, and using a demonstrative rational process, reached a conclusion that a reasonable judge could reach." Lane v. Sharp Packaging Sys., Inc., 2002 WI 28, ¶19, 251 Wis. 2d 68, 640 N.W.2d 788. In this case, the circuit court erroneously exercised its discretion by applying an incorrect legal standard. ¶51 First, in reviewing whether Petitioners made "a strong showing that [they were] likely to succeed on the merits of the appeal," the circuit court repeatedly referred to its own legal reasoning employed when it granted summary judgment and issued an injunction in favor of Respondents. The circuit court noted that it "disagree[d] with [Petitioners'] legal analysis." It stated it reviewed the caselaw cited by Petitioners and "reaffirm[ed]" its conclusions of law. In the circuit court's view, Petitioners had, in their motion for a stay, "re- present[ed] . . . what was originally before [the circuit court]," and the circuit court would "merely be repeating what [it] already set forth" in its decision to award summary judgment and enjoin enforcement of the relevant contracts. ¶52 The circuit court's analysis was flawed. When reviewing a motion for a stay, a circuit court cannot simply input its own judgment on the merits of the case and conclude that a stay is not warranted. The relevant inquiry is whether the movant made a strong showing of success on appeal. Gudenschwager, 191 Wis. 2d at 440. Of course, whenever a party 31 No. 2021AP802 is seeking a stay, there has already been a determination at the trial level adverse to the moving party. If the circuit court were asked to merely repeat and reapply legal conclusions already made, the first factor would rarely if ever side in favor of the movant. As we explained in our July 15, 2021, order, "very few stays pending appeal would ever be entered because almost no circuit court judge would admit on the record that he [or] she could have reached a wrong interpretation of the law." Waity, No. 2021AP802, unpublished order, at 9. ¶53 When reviewing the likelihood of success on appeal, circuit courts must consider the standard of review, along with the possibility that appellate courts may reasonably disagree with its legal analysis. For questions of statutory interpretation, as are presented in this case, appellate courts consider the issues de novo. See Estate of Miller, 378 Wis. 2d 358, ¶25. Here, the circuit court relied on its own interpretation of statutes such as Wis. Stat. § 16.74, which neither this court nor the court of appeals had previously interpreted, to conclude that an appeal would be meritless. Instead, the circuit court should have considered how other reasonable jurists on appeal may have interpreted the relevant 32 No. 2021AP802 law and whether they may have come to a different conclusion.16 If the circuit court had done so, its stay analysis would have been different. As explained above, under the plain language of § 16.74, the legislature had authority to hire counsel for redistricting, and reasonable judges on appeal could easily have disagreed with the circuit court's holdings. ¶54 When reviewing the likelihood of success on appeal, "the probability of success that must be demonstrated is inversely proportional to the amount of irreparable injury the plaintiff will suffer absent the stay." Gudenschwager, 191 Wis. 2d at 441. Thus, the greater the potential injury, the less a movant must prove in terms of success on appeal. However, "the movant is always required to demonstrate more than the mere possibility of success on the merits." Id. (quotations omitted). ¶55 In this case, the risk of harm to Petitioners absent a stay was substantial and irreparable. The circuit court concluded that the legislature did not suffer harm because they could obtain advice on redistricting from other government By contrast, appeals of decisions left primarily to the 16 discretion of circuit courts, such as the length of a criminal sentence or the admissibility of evidence under Wis. Stat. § 904.03, have a smaller likelihood of success than appeals requiring de novo interpretation of statutes. See State v. Taylor, 2006 WI 22, ¶17, 289 Wis. 2d 34, 710 N.W.2d 466 ("A circuit court exercises its discretion at sentencing, and appellate review is limited to determining if the court's discretion was erroneously exercised."); State v. Plymesser, 172 Wis. 2d 583, 595, 493 N.W.2d 367 (1992) ("Section 904.03 gives a judge discretion to exclude evidence if its probative value is substantially outweighed by the danger of unfair prejudice."). 33 No. 2021AP802 actors such as the Attorney General. However, as explained above, redistricting presents extraordinarily complex questions of state and federal law. It is a process that takes place only every ten years; it can have a substantial effect on elections and the right to vote; and it is almost inevitable that redistricting will be litigated. Contrary to the circuit court's belief, the legislature's determination that it needed assistance from qualified specialists, outside the Attorney General's office, was abundantly reasonable. ¶56 The circuit court also mentioned in its harm analysis that litigation surrounding redistricting had not yet begun. As thoroughly discussed above, pre-litigation counsel can be indispensable when potential legislation implicates significant legal questions and litigation is highly likely. ¶57 When considering potential harm, circuit courts must consider whether the harm can be undone if, on appeal, the circuit court's decision is reversed. If the harm cannot be "mitigated or remedied upon conclusion of the appeal," that fact must weigh in favor of the movant. Waity, No. 2021AP802, unpublished order, at 11 (quoting Serv. Empls. Int'l Union v. Vos, No. 2019AP622, unpublished order, at 6-7 (Wis. June 11, 2019)). Here, due to the circuit court's order, the legislature was deprived of counsel of its choice for two and a half months. In the meantime, the demands of redistricting continued as the legislature prepared to draw new maps and the risk of litigation materialized. The circuit court failed to consider that, if its order were overturned, the legislature could not get legal 34 No. 2021AP802 advice "back" for this critical time in which an injunction was in effect. Because the harm the legislature would experience absent a stay was significant, Petitioners were required to show only "more than the mere possibility of success on the merits." Gudenschwager, 191 Wis. 2d at 441 (quotations omitted). The Petitioners clearly met that standard. ¶58 By comparison, the harm to Respondents was minimal. In conducting a stay analysis, courts consider whether the movant "shows that no substantial harm will come to other interested parties." Scott, 382 Wis. 2d 476, ¶46. However, similar to the circuit court's consideration of harm to the movant, courts consider the period of time that the case is on appeal, not any harm that could occur in the future. Courts must consider the extent of harm the non-movant will experience if a stay is entered, but the non-movant is ultimately "successful in having the . . . injunction affirmed" and reinstated. Waity, No. 2021AP802, unpublished order, at 11 (quoting Serv. Empls. Int'l Union, No. 2019AP622, unpublished order, at 6-7). Thus, the stay analysis is not a mere repetition of any harm analysis conducted by the circuit court when it originally issued an order granting relief, which may consider generally all future harms to the non-movant. See Kocken v. Wis. Council 40, 2007 WI 72, ¶27 n.12, 301 Wis. 2d 266, 732 N.W.2d 828 (explaining that "[a] permanent injunction will not be granted unless there is the threat of irreparable injury that cannot be compensated with a remedy at law"). 35 No. 2021AP802 ¶59 Here, the circuit court reasoned that Respondents were substantially harmed because "[t]ens, if not hundreds of thousands of [taxpayer] dollars . . . will be spent" under the contracts at issue. First, in making this finding, the circuit court failed to specify or tailor its cost estimates to expenses that would have been incurred while the case was on appeal, as opposed to over the course of the entire life of the contracts, e.g., until redistricting disputes are settled. Second, the harm alleged by Respondents in this case was the loss of taxpayer money. As three individuals out of a state population of 5.8 million, Respondents' harm as taxpayers was orders of magnitude less than any final dollar amount Petitioners may have improperly spent. The circuit court failed to consider this basic fiscal reality, which substantially reduced any potential harm to the Respondents. Furthermore, the circuit court failed to consider whether any financial losses to Respondents, to the extent they existed, could be recovered through a disgorgement remedy. ¶60 Finally, when reviewing the fourth factor, harm to the public interest, the circuit court reiterated that the contracts at issue would wrongfully expend public monies. The potential for unauthorized expenditures of public funds was a valid consideration of the circuit court. However, the circuit court failed also to address the public interest served in allowing the legislature to obtain needed legal advice for redistricting. The legislature has the constitutional responsibility to set district boundaries, and the process can have a material effect 36 No. 2021AP802 on the rights of Wisconsin voters. See Wis. Const. art. IV, § 3. Consequently, the public is better served when the legislature has effective representation in performing redistricting and preparing for subsequent litigation. This interest was more significant, during the time period of appeal, than the public interest in preventing allegedly unauthorized expenditures. ¶61 In all, the circuit court erroneously exercised its discretion by refusing to stay its injunction pending appeal. See Lane, 251 Wis. 2d 68, ¶19. IV. CONCLUSION ¶62 Petitioners, on behalf of the legislature, entered into contracts for legal advice regarding the decennial redistricting process and any resulting litigation. Respondents claim that Petitioners lacked authority to enter into the contracts, and they ask us to declare the agreements void ab initio. Because Petitioners had authority under Wis. Stat. § 16.74 to "purchase[]" for the legislature "contractual services," the agreements were lawfully entered. ¶63 The circuit court's decision to enjoin enforcement of the contracts was improper. We reverse the circuit court's grant of summary judgment in Respondents' favor, and instead, we remand this case to the circuit court with instructions to enter judgment in favor of Petitioners. In addition, we clarify the standard for granting a stay of an injunction pending appeal, which the circuit court in this case incorrectly applied. 37 No. 2021AP802 By the Court.—The judgment and the order of the circuit court are reversed, and the cause is remanded with instructions. 38 No. 2021AP802.bh ¶64 BRIAN HAGEDORN, J. (concurring). I join the majority opinion. I write separately, however, to respond to the dissent's misinterpretation of the majority opinion's stay analysis. In a number of cases that have crossed our desks, circuit courts rule against a party, and then, pro forma, conclude their ruling means there is little to no likelihood of success on appeal and deny a stay. That is what happened here, and this improper understanding of the law is why we reversed the circuit court's stay decision. The dissent misreads the court's discussion of this problem as if the majority is setting forth a new standard. It is not. ¶65 We adopted the Gudenschwager test to guide the determination of whether to grant a stay pending appeal.1 The relevant factors——which encompass the likelihood of success on the merits of the appeal, the anticipated harms to the parties, and harm to the public——"are not prerequisites."2 Rather, the factors constitute a balancing test of "interrelated considerations" that call for the court's considered judgment.3 Of particular relevance here, the likelihood of success on appeal a movant must show "is inversely proportional to the amount of irreparable injury the [movant] will suffer absent the stay"——i.e., a sliding scale.4 A high degree of harm paired with 1State v. Gudenschwager, 191 Wis. 2d 431, 440, 529 N.W.2d 225 (1995) (per curiam). 2 Id. 3 Id. 4 Id. at 441. 1 No. 2021AP802.bh a lower likelihood of success on appeal may be sufficient to grant a stay.5 And the higher the likelihood of success on appeal, the less pertinent the harm to the movant becomes.6 ¶66 The dissent suggests that under the majority's logic, a stay must always be granted when it is possible an appellate court might disagree on a novel question of law. Incorrect. All the majority says on this point is that the circuit court's stay analysis should account for the standard of review on appeal. The dissent, in contrast, seems to think that if a court disagrees with a party's legal argument, a stay will rarely be appropriate. But that is not the law. ¶67 This case is a classic example of when the circuit court should have granted a stay pending appeal despite its conclusion on the merits. Denying a stay deprived the legislature of the attorneys of its choice during a time it concluded legal representation was necessary. This was a substantial harm. Attorneys are not fungible. The attorney- client relationship is based on trust, and the loss of timely counsel from a trusted attorney is a real deprivation. The harm to the Respondents and the public, on the other hand, was rooted entirely in dollars and cents——allegedly unauthorized contractual payments. This is not nothing, but it's not much, at least in this context. Under these facts, this does not Though "the movant is always required to demonstrate more 5 than a mere 'possibility' of success on the merits." Id. 6 Id. 2 No. 2021AP802.bh amount to the kind of "substantial harm" Gudenschwager contemplates. Even accepting the circuit court's disagreement with the Petitioners' arguments, they surely had some nontrivial likelihood of persuading a higher court that their legal arguments were correct.7 Here the Petitioners' substantial harm was paired with at least a reasonable likelihood of success on appeal, and granting a stay would bring limited harm to the Respondents and the public. Therefore, a stay was most appropriate.8 ¶68 More importantly, the message to courts moving forward is that the likelihood of success on appeal is a flexible, 7The dissent states that when cases are not "close calls," the likelihood of success on appeal will be low. Dissent, ¶93. True enough. But this isn't one of those cases. Even without the benefit of our decision today, the circuit court should have recognized another court could reasonably disagree with its interpretation of Wis. Stat. § 16.74. Before the circuit court, no one argued for the reading of § 16.74 it articulated. That should have been a clue that another court might read the statute differently. 8The dissent is correct that appellate courts should not reweigh and second guess a circuit court's good faith attempts to balance the factors. Our review is under the erroneous exercise of discretion standard. Gudenschwager, 191 Wis. 2d at 439-40. However, the circuit court in this case applied the wrong standard of law which is, by definition, an erroneous exercise of discretion. See State v. Carlson, 2003 WI 40, ¶24, 261 Wis. 2d 97, 661 N.W.2d 51 ("[A]n exercise of discretion based on an erroneous application of the law is an erroneous exercise of discretion."). The circuit court's error was not that it continued to agree with its previously announced merits analysis. The circuit court's error was thinking that referencing to its prior decision was all it needed to say about the likelihood of success on appeal. 3 No. 2021AP802.bh sliding-scale factor to be balanced against the relevant harms.9 Rather than conduct this analysis, the circuit court here treated the likelihood of success on appeal as shorthand for its own prior merits decision. Applying the test correctly, it should not be uncommon, particularly when faced with a difficult legal question of first impression, to rule against a party but nonetheless stay the ruling. 9 The dissent's fundamental error is failing to appreciate that the likelihood of success is a sliding-scale factor. The dissent seems to think some unnamed threshold of likely success is necessary. It finds confusing the majority's recitation of black-letter law that some chance of success is required, yet no particular threshold is needed. The dissent's bewilderment notwithstanding, this isn't contradictory at all. It is, and has been, the law. 4 No. 2021AP802.rfd ¶69 REBECCA FRANK DALLET, J. (dissenting). As leaders of the legislature, Petitioners have a say in what the law is, but they are, like everyone else, bound by the laws the legislature enacts. Thus, Petitioners are bound by Wis. Stat. § 16.74, which requires that all contractual services "shall be purchased by the joint committee on legislative organization [JCLO] or by the house . . . utilizing the . . . services."1 The record here demonstrates that Petitioners' contracts with outside counsel were neither entered into nor later ratified by the JCLO or the house using those services, and therefore the contracts are invalid. In ignoring this statutory requirement, the majority wrongly allows Petitioners to exercise purchasing authority they don't have, thereby eliminating a safeguard against the misuse of taxpayer dollars. ¶70 I also disagree with the majority's novel application of the law regarding stays pending appeal. It reduces what has traditionally been a four-factor balancing test to two questions: (1) is the issue being appealed subject to de novo review?; and (2) would the court of appeals or this court likely grant a stay? In doing so, the majority undermines circuit courts' discretion to weigh the equities of each case while providing no guidance for how to implement its unprecedented approach. 1Legislative service agencies, such as the Legislative Reference Bureau, can also purchase contractual services, but no such agency is involved in this case. 1 No. 2021AP802.rfd I ¶71 Petitioners raise four possible sources of authority for the legal-services contracts they entered into with outside counsel: the Wisconsin Constitution, Wis. Stat. § 20.765, § 13.124, and § 16.74. Because the majority opinion's conclusion rests entirely on § 16.74, I focus on that statute before touching on the other three sources. A ¶72 Wisconsin Stat. § 16.74 controls who may purchase "contractual services" and who may sign the contracts for those services. Subsection (1) states that "[a]ll . . . contractual services required within the legislative branch shall be purchased by the joint committee on legislative organization or by the house . . . utilizing the . . . services." This is the sole provision in § 16.74 that authorizes purchases of contractual services within the legislature, and it exhaustively identifies the entities that may do so: the JCLO or the house 2 No. 2021AP802.rfd using the services (the senate or the assembly).2 For contractual services that only the senate or the assembly will use, § 16.74(2)(b) provides that those contracts "shall be signed by an individual designated by the organization committee of the house making the purchase." See also id. (adding that "contracts for other legislative branch purchases shall be signed by an individual designated by" the JCLO). Subsection (2)(b) is not an authorization to make purchases; it simply identifies who may sign a contract on the senate's or the assembly's behalf when either house purchases services under subsec. (1), saving every senate or assembly member from having to sign individually. ¶73 I agree with the majority opinion that legal services are "contractual services," as that term is defined broadly in There is at least some surface-level tension between the 2 text of § 16.74(1) and that of § 16.74(3) in that the latter implies that a legislative "officer" may be authorized to purchase contractual services. See § 16.74(3) ("Each legislative and judicial officer who is authorized to make purchases or engage services under this section may prescribe the form of requisitions or contracts for the purchases and engagements."). Nowhere in § 16.74, however, is a legislative officer authorized to do so (a judicial officer——the director of state courts——is authorized to make purchases or engage services under § 16.74(1)). Nevertheless, there is no contradiction between the two subsections as subsec. (3) does not authorize anyone to purchase contractual services; rather, it provides that those who are so authorized may dictate the form of requisitions or contracts for purchases of those services. The only subsection that authorizes anyone to actually purchase contractual services is subsec. (1). 3 No. 2021AP802.rfd § 16.70(3) to include "all services."3 And no party argues that these legal services are not "required within the legislative branch." See § 16.74(1). The legal-services contracts are not valid, however, unless they were purchased by the JCLO or the specific house utilizing the services. ¶74 A careful review of the record reveals that they were not. The record contains no action by the JCLO, the senate, or the assembly to purchase these services. A review of the legislature's journals reveals the same. See, e.g., Medlock v. Schmidt, 29 Wis. 2d 114, 121, 138 N.W.2d 248 (1965) (the legislature's records are "properly the subject of judicial notice"). They contain no legislative act from the JCLO, the senate, or the assembly approving the legal-services contracts.4 Without such evidence, there is no factual basis for the majority opinion's conclusion that these contracts are valid under § 16.74(1). The majority suggests that the senate or The 3 majority opinion's reasoning is correct but inconsistent with the court's holding in James v. Heinrich, 2021 WI 58, 397 Wis. 2d 516, 960 N.W.2d 350. There, despite no textual limitation on the phrase "all measures necessary to prevent, suppress, and control communicable disease," the majority wrongly held that it "cannot be" that "all" such measures means "any" measures. See id., ¶¶21–22. Here, the majority correctly reaches the opposite conclusion, explaining that "all" means "all." See majority op., ¶23; see also James, 397 Wis. 2d 516, ¶70 (Dallet, J., dissenting) (explaining that the court may not read into a statute a "phantom limitation"). Section 16.74 does not specify the mechanics of how the 4 senate or assembly must act in order to purchase contractual services. Regardless of what compliance looks like, however, there is no evidence of any action by either house in this case. 4 No. 2021AP802.rfd assembly could skirt this statutory requirement by simply adopting an internal rule appointing their respective organization committees to approve contractual-services purchases. But that never happened——and even if it had, our precedent makes clear that internal rules cannot trump explicit statutory restrictions. See White Constr. Co. v. City of Beloit, 178 Wis. 335, 338, 190 N.W. 195 (1922) (explaining that governmental bodies "may enter into a valid contract in the way specified by law and not otherwise"). ¶75 To be sure, the senate and the assembly's separate committees on organization purported to approve the contracts, but those committees have no authorization under § 16.74(1) to do so. The majority attempts to sidestep that problem by treating "the organization committee of the house" in § 16.74(2)(b) and "the house" in § 16.74(1) as one and the same. That interpretation is flawed in two ways. First, "the house" and "the organization committee of the house" have different meanings and refer to different things. See State v. Matasek, 2014 WI 27, ¶¶17–21, 353 Wis. 2d 601, 846 N.W.2d 811 (reiterating that when the legislature uses different terms in the same or a closely related statute, we should presume that the terms have different meanings). "The house" refers to either of the two houses that constitute the legislature: the senate or the assembly. See Wis. Const. art. IV. "The organization committee of the house," on the other hand, refers to the senate's or the assembly's organization committee, both of which are defined by rule and are made up of certain members 5 No. 2021AP802.rfd of the senate and assembly leadership, respectively. See Assembly Rule 9(3) (2021); Senate Rule 20(1) (2021). Simply put, the senate organization committee is not the senate; the assembly organization committee is not the assembly. ¶76 Section 16.74 makes the distinction between "the house" and "the organization committee of the house" even clearer by explicitly authorizing each house and each house's organization committee to do different things. Each house is authorized to purchase services under § 16.74(1), while the organization committees of those houses are authorized only to designate a person to sign those contracts under § 16.74(2)(b). An authorization to sign contracts is not the same as an authorization to purchase services. If it were, the first sentence of § 16.74(2)(b) would make no sense: "Contracts for purchases by the senate or assembly shall be signed by an individual designated by the organization committee of the house making the purchase." The text of § 16.74 therefore makes clear that a house's organization committee cannot make or approve purchases for contractual services. ¶77 Second, there is no statutory basis for the majority's assertion that the senate and assembly organization committees were "designated by their respective houses" to contract with outside counsel, or that those committees "vested" Petitioners with the authority to enter into the contracts. See majority op., ¶41. Nowhere does § 16.74(1) authorize either house to designate its respective organization committee to exercise that authority. Therefore, neither house may do so. See Fed. Paving 6 No. 2021AP802.rfd Corp. v. City of Wauwatosa, 231 Wis. 655, 657–59, 286 N.W. 546 (1939); White Constr. Co., 178 Wis. at 338. If the legislature had wanted to permit such designation, it would have done so explicitly——just as it did regarding purchase requests and contract signatories in § 16.74(2). See § 16.74(2)(a) (purchase requisitions "shall be signed by the cochairpersons of the [JCLO] or their designees for the legislature, by an individual designated by either house of the legislature for the house, or by the head of any legislative service agency, or the designee of that individual, for the legislative service agency") (emphases added); § 16.74(2)(b) (same regarding who must sign contracts); see also, e.g., Kimberly-Clark Corp. v. Public Serv. Comm'n, 110 Wis. 2d 455, 463, 329 N.W.2d 143 (1983) (explaining that when one statute contains a provision and a similar statute omits the same provision, the court must not read in the omitted provision). And, contrary to the majority's baseless claim, nothing in the record indicates that either house's organization committee was in fact designated to purchase contractual services. Lastly, because neither the assembly's nor the senate's organization committee has purchasing authority under § 16.74(1), they cannot "vest" their non-existent authority in Petitioners. See Wis. Carry, Inc. v. City of Madison, 2017 WI 19, ¶¶23, 28, 373 Wis. 2d 543, 892 N.W.2d 233 (a government body "cannot delegate what it does not have"). ¶78 For similar reasons, the majority's assertion that the "legislature" ratified the contracts also fails. The majority claims that, § 16.74(1) notwithstanding, the contracts are valid 7 No. 2021AP802.rfd because the senate and the assembly's organization committees "adopted the contracts at issue," thereby ratifying them. See majority op., ¶42. But when a government entity enters a contract "without [proper] authority," as Petitioners did here, "the acts relied upon for ratification must be sufficient to have supported a contract originally." See Ellerbe & Co. v. City of Hudson, 1 Wis. 2d 148, 155–58, 83 N.W.2d 700 (1957); Fed. Paving Corp., 231 Wis. at 657 (a government body must ratify a contract "with the formality required by statute to make [the] contract"). That means that only the JCLO or the house utilizing the services could ratify Petitioners' contracts with outside counsel because only those entities are authorized to form the contracts in the first place. And, as explained above, the record contains no action by any necessary body regarding these contracts. ¶79 There is therefore no basis for the majority opinion's conclusion that the contracts are valid under § 16.74. B ¶80 Petitioners offer three alternative sources of authority for the contracts. The first two——the Wisconsin Constitution and Wis. Stat. § 20.765——say nothing about the issue. Setting aside that both sources speak only to the legislature as a whole and not Petitioners specifically, Petitioners point to no language in the Wisconsin Constitution that grants the legislature inherent authority to contract with whomever it wants; nor do they cite a case that says as much. 8 No. 2021AP802.rfd While the Constitution requires the legislature to redistrict the state's electoral maps every ten years, it says nothing about whether the legislature can hire outside counsel to help it do so. Likewise for § 20.765, which deals only with how the legislature pays its expenses, not with its authority to incur them. It does not follow from the statute's "appropriat[ing] to the legislature . . . a sum sufficient" to carry out its functions, that Petitioners may spend money on anything they want regardless of any other statutory limitations. See § 20.765 (emphasis added). ¶81 The other statute, Wis. Stat. § 13.124 (titled "Legal Representation"), also does not authorize the contracts. Section 13.124 provides that the leader of the appropriate house may, in her "sole discretion," hire outside counsel "in any action in which the assembly [or senate] is a party or in which [its] interests . . . are affected." The statute also leaves it to the houses' leaders' discretion to determine whether a particular action actually affects the house's interests. See § 13.124. What is not left to their discretion, however, is determining whether there is an "action" to begin with. And it is undisputed that as of the date Petitioners contracted with outside counsel, there was no pending action in which the assembly or senate was a party or in which either houses' interests were affected. Therefore, the plain text of § 13.124 precluded Petitioners from entering into the contracts. ¶82 Petitioners counter that the court should read "any action" as including any "imminent" action, pointing to Wis. 9 No. 2021AP802.rfd Stat. § 990.001(3) for support. Section 990.001(3) states that, "when applicable," the present tense of a verb includes the future tense. But even assuming that § 990.001(3) applies to § 13.124, it doesn't help Petitioners. Substituting "will be" for the present-tense verbs "is" and "are" results in the assembly speaker being able to hire outside counsel "in any action in which the assembly is will be a party or in which the interests of the assembly are will be affected." That construction, however, just allows the house leaders to retain outside counsel if they believe their house will eventually become involved in an already pending action. It doesn't change the fact that a currently pending action is still required by the statute's plain text. Since there was none here, § 13.124 provides no authority for the contracts. ¶83 Petitioners' alternatives, therefore, cannot save these contracts from the fact that they were not properly authorized under § 16.74, and the majority errs in concluding otherwise. II ¶84 While the majority's statutory analysis is wrong, at least its effects are likely to be limited. The same cannot be said for the majority's discussion about the standard for stays pending appeal. Despite its claim that it is merely "explain[ing]" an earlier unpublished order, majority op., ¶48, the majority unsettles what was a well-established, long- 10 No. 2021AP802.rfd standing test for stays, applying the Gudenschwager factors in a novel and unworkable way. ¶85 As we have explained time and again, appellate courts are required to give a high degree of deference to a circuit court's decision to grant or deny a stay pending appeal, reviewing the decision only for an erroneous exercise of discretion. See, e.g., State v. Gudenschwager, 191 Wis. 2d 431, 439–40, 529 N.W.2d 225 (1995). Accordingly, appellate courts must "search the record for reasons to sustain" the circuit court's decision, not manufacture reasons to reverse it. E.g., State v. Dobbs, 2020 WI 64, ¶48, 392 Wis. 2d 505, 945 N.W.2d 609; Gudenschwager, 191 Wis. 2d at 439–40. So long as the circuit court "demonstrated a rational process[] and reached a decision that a reasonable judge could make," an appellate court must affirm, even if it would have reached a different conclusion. Weber v. White, 2004 WI 63, ¶40, 272 Wis. 2d 121, 681 N.W.2d 137. An appellate court may reverse the circuit court's stay decision only if the circuit court applied the wrong legal standard or reached a conclusion not reasonably supported by the facts. See Gudenschwager, 191 Wis. 2d at 440; State v. Jendusa, 2021 WI 24, ¶16, 396 Wis. 2d 34, 955 N.W.2d 777. ¶86 The correct legal standard for deciding whether to grant a stay pending appeal is a four-factor balancing test that has been used by the federal courts for at least 60 years. See, e.g., Gudenschwager, 191 Wis. 2d at 439–40; Va. Petroleum Jobbers Ass'n v. Fed. Power Comm'n, 259 F.2d 921, 925 (D.C. 11 No. 2021AP802.rfd Cir. 1958). We expressly adopted it over 25 years ago in Gudenschwager: A stay pending appeal is appropriate where the moving party: (1) makes a strong showing that it is likely to succeed on the merits of the appeal; (2) shows that, unless a stay is granted, it will suffer irreparable injury; (3) shows that no substantial harm will come to other interested parties; and (4) shows that a stay will do no harm to the public interest. 191 Wis. 2d at 440. Although not identical, the test is similar to that for temporary and preliminary injunctions. See, e.g., Werner v. A.L. Grootemaat & Sons, Inc., 80 Wis. 2d 513, 520, 259 N.W.2d 310 (1977) (unlike with stays pending appeal, a factor for courts to consider regarding injunctions is whether an injunction is "necessary to preserve the status quo"). ¶87 Here, the circuit court clearly applied all four Gudenschwager factors. On the first factor, it concluded that Petitioners had presented "nothing" to suggest "they [we]re likely to succeed on appeal on [the statutory] issues" and that it was "unlikely [its] decision will be reversed on appeal." The court then addressed the second factor, concluding that Petitioners had failed to "meet their burden" of showing that they were "likely to suffer irreparable harm." Finally, the circuit court determined that the "third and fourth factors also weigh against granting a stay" because allowing Petitioners to improperly spend taxpayer money would harm both these plaintiffs and the general public. The court of appeals then affirmed the circuit court——twice. Given that the circuit court weighed each Gudenschwager factor, there is no question that it applied the 12 No. 2021AP802.rfd correct legal standard.5 So when the majority and the concurrence claim that the circuit court applied the wrong legal standard, what they really mean is that they disagree with the circuit court's conclusion. But that disagreement is an insufficient reason to hold that the circuit court erroneously exercised its discretion. See McCleary v. State, 49 Wis. 2d 263, 281, 181 N.W.2d 512 (1971) ("An appellate court should not supplant the predilections of a trial judge with its own."); Gudenschwager, 191 Wis. 2d at 440. ¶88 Instead of applying the Gudenschwager test as it's been traditionally understood, the majority and the concurrence appear to craft a new approach, seemingly reinterpreting the legal standard for each factor. Making matters worse is their failure to provide the lower courts with any guidance on how to apply those standards. ¶89 The majority and the concurrence stumble right out of the gate, failing to apply the first Gudenschwager factor. Gudenschwager requires the moving party to make a "strong showing that it is likely to succeed on the merits," adding that "more than the mere possibility" of success on appeal is "always required." 191 Wis. 2d at 440–41. Both the majority and the concurrence pay lip service to that standard, yet neither explains how Petitioners met it. The concurrence suggests that 5The concurrence talks itself in circles on this point. It claims both that the Gudenschwager test is the same as it's always been and that the circuit court, which applied that traditional test, applied the wrong legal standard. Both of those things can't be true at the same time. 13 No. 2021AP802.rfd a stay was warranted in part because likelihood of success is a "sliding-scale factor" and Petitioners had a "nontrivial" and "reasonable" chance of succeeding. See concurrence, ¶¶67–68. Of course, it is black-letter law that in any multi-factor balancing test, all factors exist on a sliding scale in that each must be weighed against the others. See, e.g., Gudenschwager, 191 Wis. 2d at 440. But that still doesn't explain why Petitioners had made a strong showing they were likely to succeed on the merits, or whether "nontrivial" and "reasonable" chances of success are somehow synonymous with "more than a mere possibility of success." ¶90 The majority next errs by falsely equating a "strong showing" of likely success on appeal with the fact that the court of appeals reviews questions of law de novo. It provides no explanation for how the de novo standard of review, on its own, gives the moving party more than a mere possibility of success on appeal. To be sure, de novo review gives an appellant a better chance of winning on appeal than a more deferential standard of review——but it "does not make the merits of a party's arguments any stronger." League of Women Voters v. Evers, No. 2019AP559, unpublished order, at 11 (Wis. Apr. 30, 2019) (Ann Walsh Bradley, J., dissenting). There is therefore no reason to believe that a party who lost on the merits at summary judgment has any more than a mere possibility of winning on appeal under a de novo review. ¶91 The majority is unfazed by that logic, perhaps because its position makes the merits irrelevant. Under the majority's 14 No. 2021AP802.rfd view, when the circuit court interprets statutory language for the first time, it must always grant a stay because it's possible another court may disagree with the circuit court's analysis on appeal. That is, the moving party has somehow made a "strong showing" it will win on appeal because it lost on the merits in the circuit court. That "reasoning" is nonsensical on its face. Plus, the fact that a party lost on a novel statutory-interpretation question is a strong reason for a circuit court to deny a stay: If an appellate court has yet to interpret the statutory language at issue, the circuit court has no reason to think that another court is likely to interpret the statute differently. Even if it does, that does not necessarily mean the moving party will win, because different interpretations do not necessarily lead to different outcomes. The bottom line is that de novo appellate review, on its own, says nothing about whether a party has "more than a mere possibility of success" on appeal——a bar that the majority and the concurrence acknowledge that the moving party must "always" clear. See Gudenschwager, 191 Wis. 2d at 441. ¶92 It is therefore hard to make sense of the majority's claim that had the circuit court considered "how other reasonable jurists on appeal may . . . interpret[] the relevant law" under the de novo standard of review, the circuit court's analysis would have been "different." See majority op., ¶53. The record shows that the circuit court was well aware it was deciding a question of law that would be reviewed de novo, even if it did not explicitly reference that standard of review. 15 No. 2021AP802.rfd Whatever the circuit court was supposed to do differently, the majority and the concurrence do not say, leaving circuit courts to guess at how de novo appellate review should factor into their analyses. ¶93 The majority and the concurrence also fault the circuit court for resting on its summary-judgment analysis in evaluating Petitioners' likelihood of success on the merits, but again fail to say why that's a problem. It will often be the case a party is unlikely to succeed on appeal for the same reasons it did not succeed on summary judgment, particularly in cases that aren't close calls. That is why we have previously concluded that when a circuit court decides a question of law and "believe[s] its decision [i]s in accordance with the law," that reason is good enough in most cases for it to also conclude that the losing party "would not be successful on appeal." See Weber, 272 Wis. 2d 121, ¶36. Conversely, "if the circuit court concludes the issue is a close or complex one, the likelihood of success on appeal will generally be greater." See Scullion v. Wis. Power & Light Co., 2000 WI App 120, ¶19, 237 Wis. 2d 498, 614 N.W.2d 565. There is nothing in this record, though, indicating that the circuit court found the statutory- interpretation issue to be close or complex. And the fact that this court ultimately reached a different conclusion on the merits doesn't mean the circuit court was wrong on that score. ¶94 The upshot is that the majority may be right that the first factor will "rarely if ever" favor the movant. See majority op., ¶52. Most parties who lose at summary judgment 16 No. 2021AP802.rfd will have a difficult time showing that they are likely to win on appeal. But that does not mean that a circuit court will never grant those parties a stay. There are three other factors under the Gudenschwager test, and a stronger showing on those may outweigh the moving party's low likelihood of success on the merits. See Weber, 272 Wis. 2d 121, ¶35 (explaining that the factors are not "prerequisites, but rather interrelated considerations that must be balanced together"). ¶95 The majority's discussion of those other factors, however, provides little clarity for how a circuit court should analyze them. The majority's application of the second factor—— irreparable injury——lowers the bar for when an injury is considered "irreparable." Traditionally, "irreparable injury" means an injury that, without a stay, will harm the movant in a way that "is not adequately compensable in damages" and for which there is no "adequate remedy at law." See Allen v. Wis. Pub. Serv. Corp., 2005 WI App 40, ¶30, 279 Wis. 2d 488, 694 N.W.2d 420. "The possibility that adequate compensatory or other corrective relief will be available at a later date, in the ordinary course of litigation, weighs heavily against" a claim that an injury is irreparable. Sampson v. Murray, 415 U.S. 61, 90 (1974) (quoted source omitted); see also Brock v. Milwaukee Cnty. Pers. Rev. Bd., No. 97-0234, unpublished op., 1998 WL 261627, at *3 (Wis. Ct. App. May 26, 1998). ¶96 The majority lowers that threshold by conflating an "adequate remedy at law" with Petitioners' preferred remedy. It describes Petitioners' injury as their being unable to retain 17 No. 2021AP802.rfd "counsel of [their] choice" to assist with redistricting, and insists that the injury was irreparable because Petitioners "could not get legal advice 'back' for this critical time in which an injunction was in effect." See majority op., ¶57. The concurrence further muddies the waters by labeling Petitioners' inability to retain counsel of their choice a "substantial harm" and a "real deprivation." See concurrence, ¶67. But neither the majority, the concurrence, nor Petitioners explain why Petitioners' injury, however characterized, was irreparable. None explain why outside counsel could not give Petitioners the same advice once the "risk of litigation materialized" and Petitioners could then hire them under Wis. Stat. § 13.124. See majority op., ¶57. Moreover, as the circuit court pointed out, myriad alternatives were available to Petitioners during that time: If the Legislature needs assistance in its redistricting work, it has plenty of options. . . . [I]t has available to it the Legislative Reference Bureau, the Legislative Technology Services Bureau, the Wisconsin Legislative Council, and the Attorney General's Office. Among those various agencies and groups there are plenty of resources available to the Legislature to engage in their redistricting role. In any event, Petitioners could have avoided any harm altogether by entering into or ratifying the contracts "in the way specified" by § 16.74(1). See White Constr. Co., 178 Wis. at 338. Plain and simple, Petitioners' injury was not irreparable. 18 No. 2021AP802.rfd ¶97 On the third factor——potential harm to the non-moving party——the majority proposes an unprecedented per capita calculation for taxpayer harms. The majority claims that potential harm to the plaintiffs was "minimal" because they are only "three individuals out of a state population of 5.8 million," see majority op., ¶¶58–59, implying that even if Petitioners were illegally spending taxpayers' money, the only relevant harm to the plaintiffs were their per capita shares. Not only is there no support in our jurisprudence for such a narrow view of taxpayers' harms, the majority offers no explanation for what number of taxpayers or how high of a per capita share is significant enough to weigh against a stay—— again leaving circuit courts in the dark. Our precedent also undermines the concurrence's implication that so long as government officials' wrongdoing can be measured only in "dollars and cents," there's "not much" of a harm to taxpayers, concurrence, ¶67. See S.D. Realty Co. v. Sewerage Comm'n of City of Milwaukee, 15 Wis. 2d 15, 22, 112 N.W.2d 177 (1961) (explaining the "substantial interest" that every taxpayer has in preventing the "illegal expenditure of public funds"). As for the majority's claim that the circuit court should have considered whether the plaintiffs could pursue "a disgorgement remedy," majority op., ¶59, it is unclear how that would work. Disgorgement requires a party to give up profits obtained illegally, e.g., Country Visions Coop. v. Archer-Daniels-Midland Co., 2020 WI App 32, ¶46, 392 Wis. 2d 672, 946 N.W.2d 169, aff'd on other grounds, 2021 WI 35, 396 Wis. 2d 470, 958 N.W.2d 511, 19 No. 2021AP802.rfd but Petitioners have no profits to give up because they were allegedly spending money illegally. Outside counsel profited, and they are not parties to this case. ¶98 Finally, in addressing the fourth Gudenschwager factor——that the moving party show that a stay will do "no harm" to the public interest, 139 Wis. 2d at 440——the majority and the concurrence again identify no error by the circuit court. Instead, the majority improperly conflates the legislature's interest in obtaining outside legal advice and the public's interest in the legislature obtaining such advice. At a minimum, there are two conflicting public interests at play here——the public's interests in informed legislative decision- making and in preventing Petitioners from unlawfully spending taxpayer funds. The majority makes no attempt to resolve that conflict, instead baldly asserting that the "public is better served" by the legislature retaining outside counsel. See majority op., ¶60. All the majority is saying here is that it would weigh the parties' competing interests differently than the circuit court. The same goes for the concurrence's suggestion that the unauthorized expenditure of taxpayer funds is a "limited" harm to the public and "not nothing." See concurrence, ¶4. But, again, whether there is a different way to weigh the parties' competing interests or whether the court disagrees with how the circuit court weighed them, neither reason is sufficient to reverse the circuit court's stay decision. E.g., McCleary, 49 Wis. 2d at 281. So long as the circuit court "demonstrated a rational process[] and reached a 20 No. 2021AP802.rfd decision that a reasonable judge could make," this court must affirm. See Weber, 272 Wis. 2d 121, ¶40. The record here reveals the circuit court did just that, and neither the majority nor the concurrence says otherwise. ¶99 Before today, our precedent for how circuit courts should decide whether to grant a stay pending appeal was well settled and easily applied. But here the majority reinterprets the legal standard for each of the four Gudenschwager factors, and provides circuit courts with precious little guidance for how to apply them. The result is a guessing game about how to conduct a Gudenschwager analysis. We can and should do better. ¶100 For the foregoing reasons, I dissent. ¶101 I am authorized to state that Justices ANN WALSH BRADLEY and JILL J. KAROFSKY join this opinion. 21 No. 2021AP802.rfd 1	01-04-2023	01-28-2022
https://www.courtlistener.com/api/rest/v3/opinions/4621925/	ELECTRIC APPLIANCE CO., PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Electric Appliance Co. v. CommissionerDocket No. 28543.United States Board of Tax Appeals19 B.T.A. 707; 1930 BTA LEXIS 2339; April 25, 1930, Promulgated 1930 BTA LEXIS 2339">2339 1. There was no error in the Commissioner's action in excluding from petitioner's invested capital $100,000 original capital stock for which nothing was paid by those to whom the stock was issued. 2. SPECIAL ASSESSMENT. - The fact that a corporation was enabled to carry on its business with less capital than would have been required had it not had the benefit of a favorable arrangement with another corporation is no ground for special assessment when it appears that the capital as used in its business and recognized for statutory invested capital purposes is not other than normal for a business so carried on. Moses-Rosenthal Co.,17 B.T.A. 622">17 B.T.A. 622; Coca-Cola Bottling Co. of Pittsburgh,19 B.T.A. 267">19 B.T.A. 267. 3. INVESTED CAPITAL - TAX DEDUCTIONS. - Invested capital should not be reduced by taxes of prior years which have been abated or barred by limitation, but should be proportionately reduced by taxes for previous year when such tax becomes due and payable. George E. H. Goodner, Esq., for the petitioner. T. M. Mather, Esq., for the respondent. BLACK 19 B.T.A. 707">707 Petitioner seeks redetermination of deficiencies of $691.891930 BTA LEXIS 2339">2340 for the fiscal year ending November 30, 1919, and $3,171.45 for the fiscal year ending November 30, 1920, and alleges (1) erroneous disallowance of special assessment under sections 327 and 328, Revenue Act of 1918; (2) erroneous exclusion from invested capital of the value of good will and intangible assets; (3) erroneous reduction of invested capital by alleged additional taxes for prior years, which were abated or barred by limitation; (4) erroneous reduction of invested capital each year by the tax for the prior year prorated from the date of payment. FINDINGS OF FACT. About 1892 the Electric Appliance Co. of Chicago, an Illinois corporation, began the sale of its electrical supplies in the territory west of the Rocky Mountains in the Pacific Coast States and in parts of Mexico and Canada. It did this by traveling salesmen and by advertising extensively by printed catalogue and newspaper advertising. The business in this territory prospered and by 1904 amounted to approximately $250,000 annually. On account of competition it was deemed advisable to establish a branch house in San Francisco and this was done in 1904. Due to California laws and other considerations, it1930 BTA LEXIS 2339">2341 was afterwards determined to incorporate the San Francisco branch and this was done April 22, 1905, under the name of petitioner. 19 B.T.A. 707">708 The capital stock was fixed at $100,000, divided into 1,000 shares of $100 par value each, of which 400 were issued to W. W. Low, president of the Chicago company, 400 shares to Thomas I. Stacey, secretary and treasurer of the Chicago company, 100 shares to F. J. Cram, 95 shares to C. C. Hillis, and 5 shares to Mrs. C. C. Hillis. Cram and Hillis had been connected with the San Francisco branch and traveled that section for several years. No money was paid for the capital stock, but an asset entry was made on the books of "Business Rights & Agencies, $100,000." No agency contracts, business rights, or other intangible assets were conveyed to petitioner by the stockholders in payment for their shares of stock. The Chicago corporation withdrew from the Pacific Coast territory and left that territory to petitioner, and petitioner thereby succeeded to the good will and going business which the Chicago corporation had theretofore established in that territory. It took over the business, customers, and assets of the Chicago corporation in that1930 BTA LEXIS 2339">2342 territory and assumed the liabilities of the branch. The Chicago corporation loaned petitioner $5,000 to meet initial expenses. Petitioner's business was conducted largely on the credit of the Chicago house, which frequently guaranteed its accounts and endorsed its notes for borrowed money. The Chicago house shipped goods to petitioner at cost plus a small handling charge, which enabled it to acquire and have on hand large quantities of material, which it could not have otherwise done. Through the credit of the Chicago house it was enabled to purchase on long time payments and on consignment, which enabled it to dispose of the goods before payment. Petitioner received the benefit of advertising done by the Chicago house both before and after its incorporation as petitioner's business was always featured. Petitioner's business prospered, and reasonable salaries and dividends were paid until 1920, when a surplus of approximately $150,000 had been accumulated. The respondent determined petitioner's net income and invested capital for the taxable years as follows: year ending November 30, 1919, income $28,373.71, invested capital $132,031.79; year ending November 30, 1920, income1930 BTA LEXIS 2339">2343 $61,621.60, invested capital $137,607.34. In making this determination respondent did not include in invested capital anything for the $100,000 capital stock of petitioner for either year. Respondent further reduced invested capital for 1919 by deducting therefrom $16,357.03 additional taxes for 1917, and by $12,415.36 proportionate part of additional tax for 1918. In computing invested capital for 1920 respondent made a reduction of $16,357.03 on account of 1917 taxes, $20,482.12 on account of 1918 taxes, and $2,585.40 proportionate part of 1919 taxes. Petitioner 19 B.T.A. 707">709 paid the taxes assessed on its returns for 1917 and 1918 and the taxes above mentioned for 1917 or 1918 were additional taxes. Of these $4,461.97 were abated for 1917 and $6,367.88 for 1918 and the balances for the two years were both held barred by the statute of limitations by this Board in Electric Appliance Co.v. Commissioner, Docket No. 17870, by order entered October 26, 1928, which was after the determination of the deficiencies herein. No evidence as to the value of the arrangements between petitioner and the Chicago company other than the book entries and history of petitioner has1930 BTA LEXIS 2339">2344 been introduced. These arrangements were valuable and an important and substantial factor in the production of petitioner's income. By order of the Board the hearing was limited to the issues defined in subdivisions (a) and (b) of Rule 62. OPINION. BLACK: One of the errors alleged by petitioner is the exclusion from invested capital of the value of good will and intangible assets acquired by it from the Chicago corporation. Although we are convinced that they were of substantial value in the production of business and income, there is no evidence that they were a part of petitioner's invested capital under the statutes. It is perfectly true that section 325 provides for the inclusion in invested capital of intangibles but paragraph (4) of said section provides that such intangibles must have been bona fide paid in for stock. The Electric Appliance Co. of Illinois owned no stock of petitioner and received nothing for whatever good will and intangibles it may have transferred to petitioner. The capital stock of petitioner was not issued to the Electric Appliance Co. of Illinois, but was issued to W. W. Low, Thomas I. Stacey, F. J. Cram, C. C. Hillis, and Mrs. C. C. Hillis, 1930 BTA LEXIS 2339">2345 as individuals and not as nominees of the Illinois corporation, and there is no evidence to show that they paid in anything for the stock or transferred to the corporation any good will, agency contracts, or other valuable rights in payment therefor. Under such circumstances the action of the respondent in excluding this $100,000 original capital stock from invested capital was correct and his action in that respect is approved. Petitioner in its appeal alleges as error disallowance of special assessment under sections 327 and 328, Revenue Act of 1918. Section 327 enumerates in paragraphs (a), (b), (c), and (d) the several grounds which will entitle the taxpayer to have its taxes computed under section 328. The only possible one of these paragraphs which petitioner could claim as fitting its case would be paragraph (d). That paragraph provides that where there are abnormal conditions 19 B.T.A. 707">710 affecting the capital or income of the corporation such as to work upon the corporation an exceptional hardship evidenced by gross disproportion between the tax computed without benefit of the special assessment section and the tax computed by reference to the representative corporations1930 BTA LEXIS 2339">2346 specified in section 328, it will be entitled to special assessment. Clearly, in this case there is no abnormality in invested capital. Nothing was paid in for the original $100,000 capital stock. The action of petitioner in setting up on its books "Business Rights and Agencies $100,000" was purely arbitrary. As we have heretofore stated, the Electric Appliance Co. of Illinois received no stock in petitioner corporation and its assistance and help to petitioner, though valuable, was not a part of petitioner's invested capital. Petitioner had accumulated a considerable earned surplus in its business and that was properly allowed by respondent as invested capital in the taxable years. The only error that respondent committed in that respect was to exclude from invested capital certain additional taxes which were either abated or the Board has held to be barred by the statute of limitations. That error will be discussed later in this opinion. The facts in the instant case are distinguishable from those in the cases of ; 1930 BTA LEXIS 2339">2347 ; , and other cases. These were all cases where valuable intangibles were actually transferred in payment for capital stock and the Board was able from the evidence to find the value of such intangibles. These cases are not applicable to the instant case. Now, was there such abnormality in petitioner's income as to entitle it to special assessment? We think not. In the case of , we held that the fact that a corporation was enabled to carry on its business with less capital than would have been required had it not had the benefit of a favorable contract arrangement with another corporation is no ground for special assessment when it appears that the capital as used in its business and recognized for statutory invested capital purposes is not other than normal for a business so carried on. To the same effect was our holding in the recent case of . In that case we said: "Where the full capital which is invested in the business and which is necessary1930 BTA LEXIS 2339">2348 for its operation is recognized for invested capital purposes, we do not think an abnormality exists because there has not been taken into consideration a value which may attach to the contract under which the profits were realized, but which represents no investment on the part of the petitioner." The instant case is practically 19 B.T.A. 707">711 identical with , and we think that case states the correct rule. Respondent's action in denying special assessment under sections 327 and 328 is approved. The reduction of invested capital by the additional taxes assessed for 1917 and 1918 was unauthorized, as a part thereof was abated and the balance for both years was held barred by limitation by this Board in Docket No. 17870. Under these circumstances these outlawed taxes can not be deducted from invested capital and should be restored to invested capital in determining the deficiencies here. . It does not appear to us that error was committed by the respondent by prorating the tax paid for 1917 and 1918 and reducing invested capital accordingly, and his action relative1930 BTA LEXIS 2339">2349 thereto is approved. . Judgment will be entered under Rule 50.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621926/	J. G. Boswell Company, Petitioner, v. Commissioner of Internal Revenue, Respondent. J. G. Boswell Company (successor by merger to Tulare Lake Land Company), Petitioner, v. Commissioner of Internal Revenue, RespondentJ. G. Boswell Co. v. CommissionerDocket Nos. 61846, 66655United States Tax Court34 T.C. 539; 1960 U.S. Tax Ct. LEXIS 124; June 23, 1960, Filed June 23, 1960, Filed 1960 U.S. Tax Ct. LEXIS 124">124 Decisions will be entered under Rule 50. Where a flood inundated petitioner's land, and petitioner, in addition to the deduction of the cost of repairing physical damage to the land, which was allowed by the Commissioner, seeks a deduction on account of loss of profits, additions of undesirable salts to the land, and a "possible" reduction in cotton acreage allotments, held, the elements of the alleged loss set forth by petitioner form no basis for a loss deduction. Held, further, petitioner is not entitled to deduct an amount representing a mere fluctuation in the value of the farmlands. Melvin D. Wilson, Esq., and Melvin H. Wilson, Esq., for the petitioners.Mark Townsend, Esq., and Michael P. McLeod, Esq., for the respondent. Van Fossan, Judge. VAN FOSSAN 34 T.C. 539">539 Respondent determined deficiencies in petitioner's taxes as follows:J. G. Boswell Company, Docket No. 61846Fiscal year ended June 30 --DeficiencyTax1951$ 85,297.15Income.1952540,897.26Income.J. G. Boswell Company (successor by merger to Tulare Lake Land Company), Docket No. 66655Fiscal year ended Mar. 31 --DeficiencyTax1952$ 446,394.99Income and excess profits.1953182,358.67Income.1954307.21Income.The parties have agreed to 1960 U.S. Tax Ct. LEXIS 124">125 certain adjustments to gross income of petitioner (including Tulare Lake Land Company), leaving only 34 T.C. 539">540 one issue for consideration. This is whether J. G. Boswell Company, petitioner in both docket numbers, sustained a loss within the meaning of section 23(f) of the Internal Revenue Code of 19391 during the fiscal years ended June 30, 1952, and March 31, 1953, as a result of the flooding of its land.FINDINGS OF FACT.Some of the facts were stipulated and are incorporated herein by this reference.Petitioner is a corporation, having its principal office in Los Angeles, California. The returns for the periods in issue were filed at Los Angeles, California.J. G. Boswell Company, sometimes hereinafter referred to as Boswell, is successor by merger in 1957 to Boswell and Tulare Lake Land Company, sometimes hereinafter referred to as Tulare.Through the years in question petitioner was engaged, among other activities, in the operation of farms located in Kings County, California, in an area known as the Tulare Lake Basin, sometimes hereinafter referred to as the basin.The descriptions, names, acreages, 1960 U.S. Tax Ct. LEXIS 124">126 and the costs of the several ranches involved are as follows:Farms Owned by J. G. Boswell CompanyNameDescriptionAcreageCostRichlandT. 21 S., R. 21 E., Gould RD 1615 sec.501.37$ 55,001.16 9, Etta RD 759 sec. 16, Taft RD 766 and Richardson RD 750 3/4 1 sec. 17, 3/4 sec. 15, Johnson RD 704 1/2 sec. 10, 3/8 sec. 4, 1/8 sec. 8, 1/4 sec. 23.JohnsonT. 21 S., R. 21 E., 3/8 sec. 14251.231,856.34CousinsT. 22 S., R. 21 E., Delta Lands RD 7704,998.01537,201.14 secs. 4, 5, 6, 8, 9, 16, 17, 18.DunnT. 22 S., R. 21 E., Williamson RD 764 sec.1,444.00137,477.87 20, 1/2 sec. 21, 1/6 sec. 19, Buena Vista Rd 692 and Williamson RD 764 3/8 sec. 30.BrownT. 22 S., R. 20 E., O'Bryan RD 760 sec.1,329.82130,117.70 22, 1/2 sec. 23, 1/2 sec. 25, 1/6 sec. 12.Farms Owned by Tulare Lake Land CompanyRD 749T. 21 S., R. 20 E., R. 21 E., Tulare Lake10,127.70963,799.31 RD 749 secs. 19, 20, 21, 22, 24, 26, 27, 28, 29, 31, 32, 33, 34, 35, 36, 3/4 sec. 23, 1/2 sec. 24.Section 3T. 22 S., R. 20 E., Delta Lands RD 770632.4626,879.55 sec. 3The basin is a lakebed and the natural repository for the waters of the Kings, Kern, 1960 U.S. Tax Ct. LEXIS 124">127 Kaweah, and Tule Rivers. It is shaped like a plate, gradually increasing in depth toward the center. The bottom portion of the basin, known as the "sump," is 179 feet above sea level. The first outlet from the basin is at 207 feet, and all minerals, chemicals, and silt carried into the area by the flooding of the 34 T.C. 539">541 rivers settle where deposited, excepting when the water is pumped out or otherwise removed.The soil ranges from sandy loam at the rim to clay in the sump. The clay soil is closely packed and will accept water and air only when properly cultivated. At an approximate depth of 4 feet is a hard clay pan which, for all practical purposes, is impervious to water. Resting directly on the pan is accumulated salt water, known as the "perched water table."The soil has accumulated a high content of salts deposited by the rivers flowing into the basin, by the action of successive floods inundating the land, and by the water used in irrigation. Unless proper measures are taken to control it, the salt condition of the soil will become more acute because of the lack of drainage from the basin.The basin was flooded in the following years: 1906, 1907, 1909, 1912, 1916, 1937, 1940, 1942, 1960 U.S. Tax Ct. LEXIS 124">128 1943, 1952, 1955, and 1958. The flood in question occurred in 1952.The presence of salts prevents or inhibits growth of crops unless controlled. Successful farming is possible through the combination of "leaching" and farming techniques such as deep-plowing, mulching, and rotation. Leaching is a method of washing the salts below the root zone by the proper application of irrigation water. The salt is washed to the third and fourth foot of soil, the highest concentration being at the perched water table. Because of the limited root zone, only shallow or near-shallow root crops may be grown. Cotton is the principal profit crop, and barley is a "break-even" crop, sometimes used to condition the soil.The sump levee was breached January 18, 1952, and the land in Reclamation District 770 was inundated on April 6, 1952. The Cousins and Section 3 ranches were in that district. The Brown and Dunn ranches were flooded a few days prior to April 6, 1952. The land in Reclamation District 749 was inundated June 2, 1952. The RD 749, 21960 U.S. Tax Ct. LEXIS 124">129 Richland, and Johnson ranches were in the latter district. The Paso Robles levee, south of the sump, was breached on February 19, 1953.Pumping of floodwaters off Reclamation District 749 was completed on February 23, 1953. The sump area, which includes the Brown, Dunn, and Section 3 ranches, became dry about June 24, 1953. Pumping of floodwaters from Reclamation District 770 and the South Central District, which includes the Cousins ranch, was completed September 22, 1953.The flood reached its crest about June 30, 1952, and water stood at 195 feet above sea level, so that the land in question was covered with 12 to 15 feet of water.34 T.C. 539">542 The impact and action of the floodwaters caused breaks in the levees, washed the soil around, and caused the borrow pits, 3 drainage ditches, and irrigation canals to be filled with silt. The land was left in an uneven and rough condition. To rectify the damage, petitioner was required to repair and level the land, rebuild the levees, and clean the drainage and irrigation 1960 U.S. Tax Ct. LEXIS 124">130 ditches and the borrow pits. The expenses incident to such repairs were deducted as ordinary business expenses and were allowed by the Commissioner.In an effort to save the land from flooding, petitioner built up the levees by using quantities of topsoil from adjoining fields. Topsoil was similarly removed to repair the levees. The movement of the heavy equipment necessary for the work caused the soil to be compacted. The cost of such work was deducted and allowed as an ordinary business expense.The floodwaters coming upon petitioner's land contained, on the average, at least 200 pounds of salt per acre foot.We have no figure as to the salt content of the land in question in the taxable years. Soil samples taken in 1948 and 1958 on the Cousins ranch by soil experts and tested indicated the following salt content of the land at the given dates:Section 4Section 5Section 6194819581948195819481958Parts per millionDepth 0-12"Carbonates (CO[3])TraceNilTraceNilTraceNilChlorides (Cl)161181210145147215Sulfates (SO[4])621732140011960 U.S. Tax Ct. LEXIS 124">131 6351066107912-24"Carbonates (CO[3])NilNilNilNilTraceNilChlorides (Cl)287383385336225337Sulfates (SO[4])1243232221851 15761309201024-36"Carbonates (CO[3])NilNilNilNilTraceNilChlorides (Cl)322521371491245472Sulfates (SO[4])13622626193430611568377736-48" (approx.)Carbonates (CO[3])NilNilNilNilTraceNilChlorides (Cl)350759336627266610Sulfates (SO[4])133746701856403221774886Evaporation removes some floodwater but does not remove salt. As a result, the remaining water contains a higher concentration of salt. As the water remains on the soil, the salt is absorbed, and by 34 T.C. 539">543 the process of diffusion the concentration at the perched water table moves up to the surface of the soil.Cotton allotments or limitations on acreage were imposed by the Federal Government in 1950 and 1954 and years following. The California allotment for 1954 was imposed on a "crop land" basis, a system of computation which has no relationship to the number of acres previously planted to cotton. In 1955 the allotment was computed on a "history" basis, i.e., the allowance was based on the number of acres in cotton in prior years.Petitioner's allotment for the year 1955 was restricted. Petitioner requested an additional allotment on the ground that no adjustment had been made in the original figure to compensate for abnormal weather conditions. The request for the addition was denied by the review committee.Flooded land is reconditioned after dewatering for crops by mulching and the alternation of irrigation 1960 U.S. Tax Ct. LEXIS 124">132 and drying. The land can be reconditioned and put back into crops rapidly by the use of modern farming techniques and machinery.The Cousins ranch was acquired by Boswell in 1946 while under water. The water was drained or pumped off the land in the summer of 1946. The land was cropped in 1947. Some of the water removed was sold for irrigation purposes at about $ 10 per acre foot. One section of the land was sold to the R. A. Rowan Company in 1946 after its purchase by Boswell.Neither Boswell nor Tulare carried any insurance covering damages to their farming lands in the basin on account of the 1952 flood and received no insurance compensation for damages, if any, caused by that flood. The companies were not compensated in any other manner.OPINION.The sole issue is whether Boswell sustained a loss in the fiscal year ended June 30, 1952, by reason of the inundation of its ranches, and whether Tulare sustained a loss in the fiscal year ended March 31, 1953, for the same reason, within the meaning of section 23(f) of the Internal Revenue Code of 1939. 41960 U.S. Tax Ct. LEXIS 124">133 Petitioner argues that it sustained a loss in the total amount of $ 1,695,619.06. Of this amount, $ 704,940.20 was attributed to the Boswell lands and claimed as a loss for the fiscal year ended June 30, 1952. The balance was Tulare land and the loss is claimed for the year ended March 31, 1953.34 T.C. 539">544 Petitioner measured the loss as to the alleged difference between the estimated fair market value of the land before the flood and the estimated value on June 30, 1952. The amounts actually claimed for the several ranches are either the differences in alleged value as computed by petitioner or the adjusted basis, whichever is the lesser amount. There were no sales in the taxable years. Petitioner's computation is as follows:Estimated value 1RanchJan. 1,June 30,1952, or1952, orbefore floodflood crest(per acre) 2(per acre) 2Richland$ 267.50$ 170.00Johnson190.00117.50Cousins255.00150.00Dunn108.0056.60Brown87.5046.00RD 749337.50225.00Section 3115.0062.50Alleged loss in valueRanchDecrease inAdjustedvalue (perDeductiblebasis of theacre)loss (total)severalranchesRichland$ 97.50$ 48,883.58$ 55,001.16Johnson72.501,856.441,856.44Cousins105.00524,791.05537,201.14Dunn51.4074,221.60137,477.87Brown41.5055,187.53130,117.70RD 749112.50963,799.31963,799.31Section 352.5026,879.5526,879.551960 U.S. Tax Ct. LEXIS 124">134 Petitioner argues that the flood caused permanent injury to the lands. On brief, petitioner alleges that the injury was made up of the following elements:1. Petitioner lost the use of its lands for an indefinite period of time.2. The flood physically injured petitioner's lands.3. The flood permanently added salts to the soil, which cannot be removed from the soil and which shorten the time in which the land can be used for farming purposes.4. Reduction in cotton "history."Respondent contends that only physical damage or injury to petitioner's land will support a loss, and, since all physical damages have been repaired and a deduction taken and allowed for the costs, any change in value was a mere fluctuation which provides no basis for claiming a loss.Section 23(f) permits corporations to deduct losses sustained during the taxable year and not compensated for by insurance or otherwise. As above noted, petitioner received no insurance proceeds or other compensation because of the flood.Section 29.23(f)-1, Regs. 1960 U.S. Tax Ct. LEXIS 124">135 111, paraphrases the statute but provides that sections 29.23(e)-1 to 29.23(e)-5 are generally applicable to corporations as well as individuals.Section 29.23(e)-1, Regs. 111, contains what has become accepted "law" with reference to the deduction of losses generally. The section reads in part as follows:In general losses for which an amount may be deducted from gross income must be evidenced by closed and completed transactions, fixed by identifiable 34 T.C. 539">545 events, bona fide and actually sustained during the taxable period for which allowed. Substance and not mere form will govern in determining deductible losses. * The requirements of the rule can be stated as follows: (1) There must be an actual loss; (2) the "person" claiming the loss must sustain it; (3) the loss must be evidenced by a closed and completed transaction; (4) the loss must be fixed by an identifiable event; and (5) the loss must be sustained in the year claimed as a deduction.We may limit consideration of (4) since the flood constituted an identifiable event fixing the onset of the damage, if any, and (2) because the loss, if any, was that of petitioner.It is vital to a loss that something of value be parted with, 1960 U.S. Tax Ct. LEXIS 124">136 i.e., the petitioner must have suffered a "loss" in the economic sense. Bookkeeping entries and paper losses are not sufficient. Cf. A. Giurlani & Bro. v. Commissioner, 119 F.2d 852, 857 (C.A. 9), affirming 41 B.T.A. 403">41 B.T.A. 403.In support of its claim petitioner points to the loss of income from the flooded lands.The Code contemplates only a loss of capital, or, in other words, actual loss of tangible or measurable property. This does not encompass a failure of profits or the loss of potential income. Hort v. Commissioner, 313 U.S. 28">313 U.S. 28. The respondent was correct in disallowing the loss insofar as it was based on loss of profits.Petitioner next argues that the flood caused great physical damage to the farmlands. Petitioner's claim for the loss is not advanced by this contention. Whatever physical damage was occasioned by the flood has been repaired and a deduction taken and allowed for the expense. Restoration has been made and the land continues in use for farming purposes. 51960 U.S. Tax Ct. LEXIS 124">137 It may be agreed that new insecticides and fertilizers, improved methods of irrigation, better seeds, and the eradication of disease may account for much of the increase in production, but such fact 34 T.C. 539">546 does not lessen the impact of the other fact that the land is producing approximately as much as prior to the flood.Nor is a possible diminution of cotton "history" a loss recognized by the Code. Such damage is at best speculative. Petitioner refers to this claim in the following words: "The possible loss of cotton history due to the inability to plant cotton while the land was under water." (Italics supplied.) Assuming, arguendo, that there would be damage from the loss of the cotton "history," it would not be in 1952 or 1953, but in future years, if and when the acreage was limited. Moreover, the loss must be evidenced by a closed and completed transaction. The flood "opened" the transaction (i.e., the loss), but it would not be "closed," so far as history is concerned, until future years. The flood of 1952 gave rise to no damages in the taxable years in this respect. Respondent was correct in not allowing any loss based upon this contention.It is our opinion that 1960 U.S. Tax Ct. LEXIS 124">138 the Commissioner was correct also in disallowing a deduction for the alleged loss suffered because of the addition of salt to the land.The loss claimed here is damage to farmland due chiefly to the deposit by floodwaters of additional amounts of various salts on the topsoil level of the land, some of which salt was brought in by the floodwaters and some of which was allegedly raised from lower levels of the soil by the presence of the floodwaters. These are natural processes which have been going on for generations with respect to the land. Obviously, everyone familiar with the land expected that periodic floods would occur from time to time.The use of water on the land for irrigation purposes, which is necessary, contributed to the same conditions but to a somewhat lesser degree. When the land is again free from the floodwaters, the soil can be reconditioned for normal farming without undue delay. The restoration expenses are deductible just as the other expenses of rehabilitation following the floods. In the instant case such expenses were claimed and allowed as deductions and are not in dispute here. Much low-lying farmland throughout the great Middle West farm section of the 1960 U.S. Tax Ct. LEXIS 124">139 country requires reconditioning before planting because of floods that occur frequently during the winter and spring seasons. In the present case, the reconditioning is made necessary by a similar cause, and the controlling principle would seem to be the same.We have no precise measurement of salt damage or salt increase to each section of land. The tests on the Cousins ranch indicate a varying range of increase in salt content. However, the tests were made in 1948 and 1958. Some of the salt found in 1958, we do not know how much, was added both before and after the flood of 34 T.C. 539">547 1952 by irrigation waters and by the floods in 1955 and 1958. No tests were made on the remaining ranches. A part of the salt measured undoubtedly was present in the soil because of post-1948 irrigation. In short, conditions other than the actual floodwaters of 1952 may account for a large portion of the added salt.Petitioner theoretically computed the loss as the difference in the fair market value of the land before the flood and on June 30, 1952. However, as noted above, various unallowable factors entered into the application of all of the various valuation methods used by petitioner's witnesses, among 1960 U.S. Tax Ct. LEXIS 124">140 them amounts representing normal fluctuation in values. Citizens Bank of Weston, 28 T.C. 717">28 T.C. 717, affd. 252 F.2d 425 (C.A. 4); Clarence A. Peterson, 30 T.C. 660">30 T.C. 660; Richard A. Dow, 16 T.C. 1230">16 T.C. 1230. To estimate the worth of the land on June 30, 1952, one of petitioner's witnesses considered: Uncertainty as to when the land would be dewatered, uncertainty as to flood damage, possible loss of cotton "history," additions of salt to the land, and loss of income. Another witness, for the same date, considered: Past history of the basin, commodity market of that date, the condition of the soil before the flood and the projected damage to the land, the lack of possible buyers, the cost of repairing the land, and the loss of income while the land was under water. These factors coincide roughly with the elements petitioner assigned as the basis of its loss. We have considered their applicability as a basis for a loss deduction in our previous discussion and have found them lacking in legal support.The witnesses also estimated that the value of the land was lessened because prospective purchasers would have weighed the fact that they could not crop the land for a year or more after the flood. The 1960 U.S. Tax Ct. LEXIS 124">141 loss, then, is said to be the difference between the amount a purchaser would be willing to pay for the land with the prospect of immediate income and that which he would pay with uncertain income. This was based in part on the prospect that the land would be in damaged condition when it came out of water. These witnesses were of the opinion that there is an almost complete lack of prospective purchasers for land standing in water. No land was placed up for sale in the area while it was under floodwaters in 1952-1953, and no sales were made.We view this as a temporary condition. Boswell itself bought the Cousins ranch while it was under water and sold part of that same tract to the R. A. Rowan Company, both in 1946. An informed buyer would know that the floods normally came in the spring of the year and roughly how long the floods could be expected to last. The usual practice of farmers in the basin was to remove the water as quickly as possible after the flood.34 T.C. 539">548 Expert opinion and reports of various governmental flood control agencies were available to report on the flood, its progress and conditions. A civil engineer employed by petitioner estimated, as of July 17, 1952, that 1960 U.S. Tax Ct. LEXIS 124">142 the basin would be dry about September 1, 1953.The Cousins ranch was drained in the summer of 1946 and cropped in 1947. A large portion of petitioner's flooded lands was back in production within a year after the flood. This was the history of the basin. All of the foregoing would be persuasive to an informed buyer that there is no great delay between flooding and subsequent planting.Petitioner further argues that a purchaser would still be reluctant since he would not know whether more floods or floodwater would be coming. This argument indicates that the alleged loss in value was chiefly the psychological result of fear on the part of prospective buyers of damage that might be sustained in future years as a result of floods, contemplated as possible and even probable, but which had not yet occurred and which might never occur. Petitioner's experts considered the likelihood of future floods in making their evaluations. Obviously, such a fear on the part of prospective buyers was not caused solely by the flood which occurred in 1952 but by a history of flood damage extending over half a century. Furthermore, this factor loses much of its weight since flood control is entirely 1960 U.S. Tax Ct. LEXIS 124">143 possible and measures are being taken which will greatly lessen the possibility of future floods.It was testified that when the damage to the properties was repaired, when the initial shock of the flood had subsided, and the land was back in crops, the land might regain much, if not all, of its preflood value.From the foregoing we are of the view that petitioner, in claiming a loss of $ 1,695,619.06, is seeking a deduction based on unallowable factors, including loss of profits and a fluctuation in the value of the farms which it has continued to own and from which it has continued to achieve approximately as large an agricultural production as before the flood. Mrs. J. C. Pugh, Sr., Executrix, 17 B.T.A. 429">17 B.T.A. 429, affd. 49 F.2d 76 (C.A. 5), certiorari denied 284 U.S. 642">284 U.S. 642.Respondent's expert witness testified that the land in fact lost no value because of the flood, that the land was at least as productive postflood as preflood. The physical damage had been repaired, and the cost allowed as a deduction.Present irrigation is raising the benched water table and possibly adding some salt. However, measures are being taken to perform preventive drainage so that irrigation waters will 1960 U.S. Tax Ct. LEXIS 124">144 not accumulate and raise the benched water table. Such measures will reduce the salt content of the land and in part remove the dangers.34 T.C. 539">549 Modern techniques of agriculture are making it possible to leach the salts deeper and more quickly. In view of modern farming technology, new means may be found to remove the problem altogether.In these circumstances, we consider the admonishment of the Court of Appeals for the Fourth Circuit, speaking through Judge Sobeloff, in Citizens Bank of Weston v. Commissioner, 252 F.2d 425 (C.A. 4), as controlling:In a doubtful situation like this, if a deduction were allowed from the current year's earnings and the tax basis of the property were correspondingly reduced, then logically * * * [if the flood control plan were achieved and the salt problem taken under control by means of modern technology], restoration of the deduction would be required. Then might come other turns of the wheel, necessitating under the rule urged by the petitioners still other adjustments up or down. The scheme of our tax laws does not, however, contemplate such a series of adjustments to reflect the vicissitudes of the market, or the wavering values occasioned by a succession 1960 U.S. Tax Ct. LEXIS 124">145 of adverse or favorable developments.Where, as here, the petitioner, after the interruption, continues to use the land for its normal agricultural purposes and the possibility is not remote that much of the danger of the added salt, if any, will be removed in the future, no deduction is allowable.Here, there is only an attempted mental subdivision of elements of value in the land, and an estimated depreciation without any actual sale, conversion, or abandonment of the land by the owner. A loss is not sustained during the taxable year within the meaning of the statute unless ascertained and realized more definitely than by an opinion of changed market value. 17 B.T.A. 429">Mrs. J. C. Pugh, Sr., Executrix, supra;28 T.C. 717">Citizens Bank of Weston v. Commissioner, supra.Decisions will be entered under Rule 50. Footnotes1. All Code references, unless otherwise stated, are to the Internal Revenue Code of 1939.↩1. Fractions represent the approximate portion of the section of land included within the several ranches.↩2. The parties designated a certain part of Reclamation District 749 as RD 749 ranch.3. Borrow pits are depressions in the land left after the removal of soil which is used to build up levees and irrigation ditches. Such pits serve the purpose of catching surplus water, whether from floods or irrigation, thereby keeping water off productive land.↩1. The soil in this section had been prepared for cultivation prior to the test in 1958.4. SEC. 23. DEDUCTIONS FROM GROSS INCOME.In computing net income there shall be allowed as deductions: * * *(f) Losses by Corporations. -- In the case of a corporation, losses sustained during the taxable year and not compensated for by insurance or otherwise.1. Average values as between petitioner's two witnesses.↩2. The expert witnesses valued the land with acreage figures which differed in minor respects from the stipulated acreage.↩5. The following are representative acreage figures for cotton and barley for the ranches indicated for the year immediately prior to and the years after the flood:Cousins DistrictTulare Lake Land Co.Year(Cousins, Brown,(RD 749 and SectionRichland ranchand Dunn ranches)3 ranches)CottonBarleyCottonBarleyCottonBarley19513,42910,052758845Unknown.11952Unknown to the Court.2↩8631,39819538,49710,1181,52081219542,0846,6016,8713,5392,5001,89519554,0275,1863,55221,0721,767	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621927/	Estate of Mabel K. Carter, Deceased, Gilbert Carter, Executor, et al., 1 Petitioners, v. Commissioner of Internal Revenue, RespondentEstate of Carter v. CommissionerDocket Nos. 80005-80010, 80042United States Tax Court35 T.C. 326; 1960 U.S. Tax Ct. LEXIS 16; November 25, 1960, Filed 1960 U.S. Tax Ct. LEXIS 16">16 Decisions will be entered under Rule 50. Petitioners received certain sums as distributions from a trust, which sums arose from the settlement of litigation under the anti-trust laws. Held, the sums constituted ordinary income and not capital gains. Gilbert Carter, Esq., for the petitioners. 1960 U.S. Tax Ct. LEXIS 16">17 H. Tracy Huston, Esq., for the respondent. Tietjens, Judge. TIETJENS35 T.C. 326">327 The Commissioner determined the following deficiencies in income tax:DocketName of petitionerYearIncome taxNo.80005Estate of Mabel K. Carter, Deceased, Gilbert Carter,Executor1955$ 4,550.7780006Estate of Emma M. Vollrath, Deceased, Gilbert Carter,Executor19551,626.051955667.8380007Gilbert Carter and Virginia Carter19562,389.341955531.2280008Patricia Carter1956700.881955539.0580009Howard Carter1956691.301955526.6480010Susan Carter1956693.4319551,200.4380042David C. Carter and Frances M. Carter19567,339.29For the year 1955 in Docket Nos. 80005 and 80006 and for the year 1956 in Docket Nos. 80007 and 80042, petitioners claim overpayments in unspecified amounts.There are two issues to be decided. The first is whether certain sums received by petitioners as distributions from a trust, which sums arose from the settlement of litigation under the antitrust laws, were taxable as ordinary income or long-term capital gains.The second issue is whether certain of the petitioners are entitled1960 U.S. Tax Ct. LEXIS 16">18 to deduct from gross income included in their returns, the adjusted basis of their beneficial interests in the trust to which interests they succeeded by bequest.FINDINGS OF FACT.The stipulated facts are so found and are included herein by reference.Mabel K. Carter, who resided at Nevada, Missouri, died on May 18, 1954. Emma M. Vollrath, a resident of Nevada, Missouri, died on June 20, 1953. On July 7, 1954, the Probate Court for Vernon County, Missouri, granted letters testamentary in the Estate of Mabel K. Carter, Deceased, and the Estate of Emma M. Vollrath, Deceased, to Gilbert Carter. Fiduciary income tax returns for the taxable year 1955 were filed for these estates with the district director of internal revenue at Kansas City, Missouri.Gilbert Carter and Virginia Carter, the petitioners in Docket No. 80007, are husband and wife residing at Radio Springs Park, Nevada, Missouri. They filed joint income tax returns for the taxable years 1955 and 1956 with the district director at Kansas City, Missouri.Patricia Carter, Howard Carter, and Susan Carter, the petitioners in Docket Nos. 80008, 80009, and 80010, respectively, are individuals residing in Radio Springs Park, Nevada, 1960 U.S. Tax Ct. LEXIS 16">19 Missouri. They each filed individual income tax returns for the taxable years 1955 and 1956 with the district director at Kansas City, Missouri.35 T.C. 326">328 David C. Carter and Frances M. Carter, the petitioners in Docket No. 80042, are husband and wife residing in Radio Springs Park, Nevada, Missouri. They filed joint income tax returns for the taxable years 1955 and 1956. Their return for 1955 was filed with the district director at St. Louis, Missouri, and their return for 1956 with the district director at Kansas City, Missouri.On September 15, 1940, Mabel K. Carter, the owner of an undivided one-half interest in the Liberty and Sedalia Theatres in Sedalia, Missouri, in partnership with Charles T. and Olga Sears, who owned the other one-half interest in the theaters, commenced the business of exhibiting motion pictures at the Liberty Theatre. On November 7, 1940, the partnership was dissolved, and Charles T. Sears and his wife, Olga, transferred their interest in the two theaters to Mabel K. Carter, who, as sole owner, continued to operate the Liberty Theatre until May 14, 1941. On that date she ceased operation because the business was suffering losses, and leased the Liberty1960 U.S. Tax Ct. LEXIS 16">20 Theatre along with the Sedalia Theatre to Fox Ozark Theatre Corporation.In a declaration of trust executed on October 21, 1952, Mabel K. Carter irrevocably assigned to herself as trustee the following property:All my claims and all my rights and causes of action against --20th Century-Fox Film Corporation,Paramount Pictures, Inc.,Loew's Incorporated,RKO Radio Pictures, Inc.,Warner Brothers Pictures, Inc.,Warner Brothers Picture Distributing Corporation,Columbia Pictures Corporation,Universal Film Exchanges, Inc.,United Artists Corporation,and any other persons, corporations or entities whatsoever, or against any one or more of them, that are based upon or relate to or have arisen or resulted from any combination or combinations, conspiracy or conspiracies, or act or acts unlawful under, prohibited by or in violation of any provision or provisions of the Anti-Trust laws of the United States or of the State of Missouri or of any other state; including, but not limited to, every claim and every right or cause of action that I have under Chapter 1 of Title 15 United States Code. This trust shall embrace also such funds and other property as I, by deed or act hereafter, 1960 U.S. Tax Ct. LEXIS 16">21 shall add to the corpus hereof; likewise such funds and property as any other person or persons hereafter shall give, transfer or convey to the trustee (or any substitute or successor trustee) hereunder for addition to the said trust corpus.Article VII of the declaration of trust provided as follows:INCOME -- DISTRIBUTION AND ACCUMULATION -- As used herein the term "distributable income" shall mean, in general, gross income of the trust less all such costs, expenses, losses and other items (except amounts distributable to beneficiaries) as are deductible from its gross income in arriving at its net income, taxable to the fiduciary, for Federal income tax purposes. All distributable 35 T.C. 326">329 income for each taxable year of the trust shall be distributed currently, by payment or credit within such year, to the persons thereunto entitled, in accordance with the respective beneficial interests set forth in Article VI hereof; but the trustee may withhold such distribution of, and accumulate, all or any part of David Carter's share of such income for each such taxable year of the trust and distribute to the person or persons thereunto entitled under Article VI hereof, on a date1960 U.S. Tax Ct. LEXIS 16">22 subsequent to but not later than two years after the close of such taxable year (and in no event later than the date of termination of the trust and final distribution under Article VIII hereof) such share so accumulated or the part thereof so accumulated, less an amount determined by the trustee to equal income taxes paid or incurred by the trust in respect thereof.Under the declaration of trust Mabel K. Carter, Emma M. Vollrath, and the petitioners in Docket Nos. 80007 to 80010, inclusive, and 80042 acquired vested beneficial interests in the property, corpus and income of the Mabel K. Carter Trust, as follows:Name of beneficiaryPercentage of interestMabel K. Carter20Emma M. Vollrath10Gilbert Carter2Virginia Carter3Patricia Carter5Howard Carter5Susan Carter5David Carter10On December 9, 1952, Mabel K. Carter, trustee, filed a complaint (Civil Action No. 7940) entitled "Complaint for Treble Damages Under the Anti-Trust Laws of the United States" against Twentieth Century-Fox Film Corporation, Wesco Theatres Corporation, Loew's Incorporated, Paramount Film Distributing Corporation, United Paramount Theatres, Inc., RKO Radio Pictures, Inc., 1960 U.S. Tax Ct. LEXIS 16">23 Warner Bros. Pictures Distributing Corporation, United Artists Corporation, Columbia Pictures Corporation, and Universal Film Exchanges, Inc. This complaint was filed in the United States District Court for the Western District of Missouri, Western Division.The complaint which is included herein by this reference, was "filed under Section 4 of the Act of Congress of October 15, 1914, commonly known as the Clayton Act (Title 15, Section 15, U.S.C.A.), to recover treble damages, attorneys' fees, costs and expenses" for and on account of unlawful acts, contracts, combinations, etc., in restraint of trade.The complaint alleged many acts of the defendants in violation of the antitrust acts and sought to recover damages suffered by Mabel K. Carter as owner and operator of the Sedalia and Liberty Theatres, which said property had been injured and damaged by reason of things done by the defendants and their coconspirators forbidden in the antitrust laws of the United States.35 T.C. 326">330 Among other things, the complaint alleged that because --the continued and growing operating losses resulting from the unlawful conduct and activities of defendants and their co-conspirators threatened1960 U.S. Tax Ct. LEXIS 16">24 ultimate loss of her entire property, business and investment and being, on account of such unlawful activities and conduct of defendants and their co-conspirators, unable to sell said properties at a fair and reasonable price and unable to lease same at a fair and reasonable rental, she was compelled to capitulate to Fox and to surrender, abandon and give up her right to operate said business and property in a free, open and competitive market and to thus earn the reward and profits which said business and properties were capable of earning and producing and which, except for such unlawful conduct of defendants and their co-conspirators would have been earned and received by her. * ** * * Damages.37. By reason of the aforesaid things done by defendants and their co-conspirators in violation of said Sherman Anti-Trust Act, the business and property consisting of said Liberty Theatre and Sedalia Theatre, in Sedalia, Missouri, has been greatly injured and damaged by reason of which plaintiff has lost income, profits, business, property and investments in at least the sum of $ 500,000.00 * * Wherefore, plaintiff prays judgment against the defendants, and each of them, 1960 U.S. Tax Ct. LEXIS 16">25 for $ 1,500,000.00, together with a reasonable attorneys' fee and the costs and expenses reasonably and necessarily incurred in the prosecution of this action.Gilbert Carter succeeded Mabel K. Carter as trustee of the Mabel K. Carter Trust upon her death, and was substituted as plaintiff in Civil Action No. 7940.The antitrust action was not tried on the merits, but was settled by the parties.On March 31, 1955, Gilbert Carter, trustee, executed an agreement and release which, after other appropriate recitations, stated among other things:Whereas, party of the first part contends that Columbia Pictures Corporation, a New York corporation incorporated in 1924, Loew's Incorporated, a Delaware corporation incorporated in 1919, Paramount Pictures Corporation, a New York corporation incorporated in 1949, RKO Radio Pictures, Inc., a Delaware corporation incorporated in 1921, Twentieth Century-Fox Film Corporation, a Delaware corporation incorporated in 1952, Universal Pictures Co., Inc., a Delaware corporation incorporated in 1936, United Artists Corporation, a Delaware corporation incorporated in 1919, Fox Midwest Theatres, Inc., a Delaware corporation incorporated in 1933, and Warner1960 U.S. Tax Ct. LEXIS 16">26 Bros. Pictures, Inc., a Delaware corporation incorporated in 1953, and their respective predecessor, affiliated and subsidiary corporations, hereinafter referred to as parties of the second part, have injured him in his business and property constituting the Liberty and Sedalia Theatres by reason of things forbidden in the antitrust laws of the United States and more particularly by such acts and practices as are described and referred to in the case of Gilbert Carter, Trustee v. Twentieth Century-Fox Film Corporation, et al., in the United States District Court for the Western District of Missouri, 35 T.C. 326">331 Western Division, No. 7940, which contention parties of the second part deny, andWhereas, party of the first part contends that by reason of the matters referred to in the next preceding paragraph he has suffered damage as a result of injury to his business and property constituting the Liberty Theatre and the Sedalia Theatre in the sum of Six Hundred Thousand Dollars ($ 600,000.00), andWhereas, second parties by letter dated February 28, 1955, addressed to William G. Boatright, attorney for first party, offered to pay for full settlement of all claims and litigation1960 U.S. Tax Ct. LEXIS 16">27 of first party and other clients of William G. Boatright therein named and identified, an aggregate amount of $ 2,300,000.00, to be allocated among said clients as therein described, $ 600,000.00 being allocated to first party, and to do other things all expressly set forth in said offer, which is by reference incorporated and made a part hereof, andWhereas, acceptance of said offer to be binding upon second parties was conditioned upon all of those to whom it was made joining in the acceptance of same and of all terms and conditions thereof applicable to their respective claims, andWhereas, said offer provided that because of the amount involved it was necessary for the convenience of second parties that payment of same be partly in cash and the remainder spread over a number of years according to the schedule therein contained, andWhereas, said offer provided that liability for payment of the sums set forth therein should be several as between second parties but that each of second parties would in event of acceptance be and become liable and responsible for payment of a designated part of the cash payment and of each annual deferred payment to each of said clients as set forth1960 U.S. Tax Ct. LEXIS 16">28 on Exhibit C, which is a part of said offer and is by reference incorporated and made a part hereof, and* * * 13. Party of the first part [Carter] agrees that simultaneously with the execution of this contract he will give to each of the parties of the second part, their respective predecessors, subsidiaries, affiliated corporations, officers, directors, agents, employees, successors and assigns a full and complete general release releasing all claims known or unknown of whatsoever nature and will join with parties of the second part in taking all necessary steps to dismiss with prejudice at the cost of the defendants the suit entitled Gilbert Carter, Trustee v. Twentieth Century-Fox Film Corporation, et al., No. 7940, in the United States District Court for the Western District of Missouri, Western Division.In the release Gilbert Carter as trustee agreed:1. That he individually, as trustee or assignee, and in any other capacity or any other name or style whatsoever, hereby compromises, settles and forever discharges his above described claims and demands against parties of the second part and remises, releases, acquits and forever discharges all of the above named parties1960 U.S. Tax Ct. LEXIS 16">29 of the second part and each and all of their successors, predecessors, subsidiaries, parents, affiliates and assigns, including but not limited to any corporation, partnership, association or other business enterprise in which any one or more of them may have any interest whatsoever and the respective stockholders, directors, officers, agents, employees, representatives and servants of each and every one of them from any and all liability, all manner of actions, cause and causes of action, suits, debts, dues, sums of money, accounts, reckonings, bills, specialties, convenants, contracts, agreements, promises, damages, claims and demands whatsoever whether in law or in equity, whether now known 35 T.C. 326">332 or not, which he individually or otherwise now has or ever had to and including the date of these presents, including but not limited to claims arising out of, pertaining to or by reason of damages, attorneys' fees, costs and expenses suffered by him individually, as trustee or assignee or in any other capacity in connection with the ownership, operation or leasing of any theatre, including but not limited to the Liberty Theatre and the Sedalia Theatre in Sedalia, Missouri, including1960 U.S. Tax Ct. LEXIS 16">30 but not limited to claims and damages of every kind, nature or description whether or not by reason of violations or claimed violations of the antitrust laws of the United States, but excluding all rights accruing to party of the first part by reason of the separate contract of settlement entered into contemporaneously herewith.In accordance with the provisions of the "Agreement" and the "Release," Gilbert Carter, as trustee of the Mabel K. Carter Trust, received and distributed to beneficiaries of the trust in shares reported in the Form 1041 returns, the net amounts of $ 105,272.56 and $ 127,925.20 during the taxable years 1955 and 1956, respectively.In the year 1956, prior to any distribution by the trustee in respect of the interests of those deceased beneficiaries in that year, David Carter, petitioner in Docket No. 80042, succeeded to all of the Emma M. Vollrath interest and to one-fourth of the Mabel K. Carter interest, under and in accordance with their respective wills and in the distributions of their estates, which interests, added to a 10 per cent interest he already owned, gave him a total interest of 25 per cent in the said trust. In the year 1956 he received from1960 U.S. Tax Ct. LEXIS 16">31 the trustee the following distributions: $ 12,792.52 in respect of the interest he acquired from Emma M. Vollrath, deceased; $ 6,396.26 in respect of the interest he acquired from Mabel K. Carter, deceased; and $ 12,792.52 in respect of the 10 per cent interest he already owned, making a total of $ 31,981.30.In the year 1956, prior to any distribution by the trustee in respect of the interest of Mabel K. Carter, deceased, in that year, Gilbert Carter, petitioner in Docket No. 80007, succeeded to one-fourth of the Mabel K. Carter interest, which, added to the 2 per cent interest he already owned, gave him a total interest of 7 per cent in the said trust. In the year 1956 he received from the trustee the following distributions: $ 6,396.26 in respect of the interest he acquired from Mabel K. Carter, deceased, and $ 2,558.50 in respect of the interest he already owned, making a total of $ 8,954.76.OPINION.The starting point in cases involving the taxability of amounts received as the result of litigation or the settlement thereof is, in general, the answer to the question, "In lieu of what were the amounts paid under the settlement received?" Raytheon Production Corporation, 1 T.C. 952">1 T.C. 952, 1 T.C. 952">958,1960 U.S. Tax Ct. LEXIS 16">32 affd. 144 F.2d 110 (C.A. 1, 1944); Ralph Freeman, 33 T.C. 323">33 T.C. 323, 33 T.C. 323">327. Business profits are ordinary income. Therefore, if the amounts received are a substitute for or represent lost profits, they 35 T.C. 326">333 are taxable as ordinary income. 33 T.C. 323">Ralph Freeman, supra.However, it has been held that in some circumstances profits may be utilized as a gauge in ascertaining the amount of damages for the destruction of or permanent injury to goodwill which is accorded capital gains treatment. Durke v. Commissioner, 162 F.2d 184 (C.A. 6, 1947), reversing 6 T.C. 773">6 T.C. 773 (1946), 181 F.2d 189 (C.A. 6, 1950), affirming a Memorandum Opinion of this Court on remand. The only method of establishing that the goodwill, the going concern value of the business, has been partly or fully destroyed by the interference is by comparing the profits before the interference and the profits or lack of profits after the interference. It is not shown that petitioners carried any goodwill account on their books or had any measurable goodwill and we cannot1960 U.S. Tax Ct. LEXIS 16">33 find that any injury to goodwill has been shown in this case. As a matter of fact, petitioners concede that no basis for goodwill exists and we do not think it is necessary to pursue this aspect further.The amounts in question arose from the settlement before trial of antitrust litigation for treble damages in which the plaintiff alleged that the defendant by many acts in violation of the antitrust laws injured and damaged the plaintiff by reason of "lost income, profits, business, property and investments." The settlement was paid by the defendants in a lump sum, the petitioners sharing in the proceeds through the trust described in our Findings of Fact. There was no allocation of the amount paid to any of the individual elements of damage claimed, i.e. "lost income, profits, business, property or investments." The Commissioner determined that the amounts received under the settlement were taxable as ordinary income, contending that they represented in the main, lost profits, taxable as ordinary income, 33 T.C. 323">Ralph Freeman, supra, and that at least part was a substitute for treble or punitive damages which are also taxable as ordinary income. Commissioner v. Glenshaw Glass Co., 348 U.S. 426">348 U.S. 426.1960 U.S. Tax Ct. LEXIS 16">34 His determination is prima facie correct and petitioners have the burden of proving him in error. Chalmers Cullins, 24 T.C. 322">24 T.C. 322.The Commissioner's position is substantiated by an examination of the pretrial proceedings held in the antitrust case. There the following colloquies took place:PRE-TRIAL PROCEEDINGS ON JANUARY 24, 1955Mr. Boatright: [Attorney for plaintiffs]We are entitled to recover the profits that the Liberty Theatre would have made had it been operating first run. There is plenty of evidence to show what those profits were * . * * [Plaintiff] * * to choose the most favorable measure of damages to him. He might show it by rentals, he might show it by market value, he might show it by profits, loss of profits. Here we propose to show it by lost profits. We know what those profits would amount to down there. She is entitled to recover 35 T.C. 326">334 the full amount of profits that she could have made had she been permitted to remain in the theater business for such period of time as the jury, under all the evidence, would find that she would have operated. * PRE-TRIAL PROCEEDINGS ON JANUARY 29, 19551960 U.S. Tax Ct. LEXIS 16">35 The Court: Well, as I understand your claim -- * * * you are merely making a claim because Mabel Carter undertook the operation of the theatre and she was forced out of business by the conspiracy and that is all the damages that you are claiming. You are not claiming any damages in depreciation of realty or in the production of revenue from realty.Mr. Boatright: No, not in the nature of rent.Mr. Hardy: [Of defense counsel] Claiming profit for a reasonable period of time.Mr. Boatright: Claiming the profits, not for a reasonable period of time but the profits that she would have earned during all the time that she would have operated the business.PRE-TRIAL PROCEEDINGS ON FEBRUARY 7, 1955The Court: Now, as I understand, you are limiting your claim to the profits that you would have made --Mr. Boatright: Yes.The Court: -- from the operation?Mr. Boatright: That is all we are going to ask the Court to submit. [Emphasis supplied.]Petitioners concede that the amounts in question are taxable to them, but only as capital gains from which they are entitled to deduct basis in ascertaining the amount of gain. The petitioners do not predicate their claim of capital1960 U.S. Tax Ct. LEXIS 16">36 gains treatment upon the previously discussed goodwill situation but rather advocate an approach from a little different angle. They argue that the moneys recovered represent "damages for destruction of the business of Mabel K. Carter as an independent theatre operator" and constituted "the compulsory or involuntary conversion of a capital asset held for more than six months under section 1231, Internal Revenue Code of 1954." (This section of the 1954 Code has its source in section 117(j)(2), I.R.C. 1939, which is substantially unchanged.)In explanation of the fact that lost profits were the criteria upon which they predicated their recovery in the antitrust case, they argue that it was not a recovery of lost profits per se that was sought by the action, but simply that the profits were to be used as a measure of damages for the destruction or partial destruction of the theater business.In order for the petitioners to prevail under the theory they advance for capital gains treatment it is obvious that the property which petitioners claim was "involuntarily converted" into money must be a capital asset within the purview of the revenue laws. Even though under some circumstances1960 U.S. Tax Ct. LEXIS 16">37 the right to operate a theater business 35 T.C. 326">335 might be classified as a "property right," this is not enough, as it still must qualify under the tax laws as a capital asset.The "right to use its transportation facilities" was the basis of an involuntary conversion claim dealt with by the Supreme Court in Commissioner v. Gillette Motor Transport, Inc., 364 U.S. 130">364 U.S. 130. We do not believe that that right differs in any essential way from the right to engage in the theater business claimed by the petitioners in this case.In Gillette the facilities of the taxpayer, a common carrier, closed down because of a strike, were taken over by the Government for temporary operation and the question was whether compensation paid for such temporary use was to be treated as capital gain for the "involuntary conversion" of property, or was ordinary income. The Supreme Court pointed out that while the taxpayer's "right to use its transportation facilities" was a "property right compensable under the requirements of the Fifth Amendment," it was not necessarily a capital asset within the meaning of section 117, I.R.C. 1939. The Court stated further that while 1960 U.S. Tax Ct. LEXIS 16">38 the taxpayer's facilities were themselves capital assets, the Government did not take a fee in such facilities or physically damage them. All the Government did was to take "only the right to determine the use to which those facilities were to be put." This right was "not something in which respondent [taxpayer] had any investment, separate and apart from its investment in the physical assets themselves * * . Further, the right is manifestly not of the type which gives rise to the hardship of the realization in one year of an advance in value over cost built up in several years, which is what Congress sought to ameliorate by the capital-gains provisions.""In short," the Supreme Court went on to say, "the right to use is not a capital asset, but is simply an incident of the underlying physical property * ." It held that there was no involuntary conversion of a capital asset and that the amounts paid for the use of the facilities were taxable as ordinary income.Here, the petitioners had not before been in the theater business, except as lessors. They, or their predecessors, owned premises on which a theater was located which they had rented to others. There is evidence1960 U.S. Tax Ct. LEXIS 16">39 from which we could find this was profitable to the lessees based on operation of the theater and to the lessors based on rentals. But petitioners decided to go into the theater business themselves in 1940 when the lease terminated. They ceased operating in 1941 because the operation was not profitable. From the record here, it is a reasonable inference that the "movie" people (the defendants in the antitrust action) did not destroy a going business. However, what did occur was such an interference from the time the theater 35 T.C. 326">336 business was begun by the petitioners that they were never able to navigate freely in the ordinary flow of business. If the suppression of such a right to do business is included within the protection of the antitrust laws, the basis of a judgment arising out of litigation involving such interference would be to place the injured parties in the same profit position they would have been in had there been no interference and to punish by additional damages the ones responsible for the interference. Certainly there has been no proof here of a sale or exchange or involuntary conversion of a capital asset which would entitle the amounts received under1960 U.S. Tax Ct. LEXIS 16">40 the settlement agreement to be considered as capital gains. It follows that the lump sum received in settlement before trial perhaps differs in degree but not in kind from any judgment that might have been rendered had the case gone to trial. If a judgment had been received it would have been entirely taxable as ordinary income being a substitute for lost profits, 33 T.C. 323">Ralph Freeman, supra, and punitive damages, 348 U.S. 426">Commissioner v. Glenshaw Glass Co., supra, and we think a settlement before trial based on the same criteria is also entirely taxable as ordinary income.Having found that the petitioners' argument of involuntary conversion has no foundation we are unable to find any other proof introduced by the petitioners that would be sufficient to carry the burden the petitioners must bear in refuting the presumption of correctness that attaches to the Commissioner's determination. The Commissioner points to the fact that none of the participants in the settlement proceedings in the antitrust case testified in this case. This reference is probably to the attorneys who conducted the negotiations. Petitioners answer this 1960 U.S. Tax Ct. LEXIS 16">41 by showing that the main protagonist of the petitioners was deceased at the time of trial of this case and that the film companies' lawyers were more "available" to the Commissioner than they were to the petitioners. We can only guess whether the testimony of these uncalled witnesses would have helped either party; but the burden of proof was on petitioners and their failure to call or the impossibility of calling the witnesses and thus carrying their burden of proof cannot be ascribed by petitioners to the Commissioner. In the circumstances a presumption that these witnesses, if called, would have testified adversely to petitioners could properly be raised. Wichita Terminal Elevator Co., 6 T.C. 1158">6 T.C. 1158, affd. 162 F.2d 513 (C.A. 10, 1947). However, even without this presumption we think petitioners have failed to prove their case. We hold the Commissioner's treatment of the proceeds of the settlement as ordinary income to be proper.Our holding that the amounts received under the settlement agreement constituted ordinary income and that there was no involuntary conversion of a capital asset disposes of petitioners' contention1960 U.S. Tax Ct. LEXIS 16">42 that they are entitled to deduct "basis" in determining the amount of their 35 T.C. 326">*337 gain. We point out that some of the petitioners received a beneficial interest in the trust by devise or bequest. Even so, we think the amounts received by such petitioners must be included in their gross income as "income in respect of a decedent" under section 691(a) of the 1954 Code. Such income "has the same character in the hands of the recipient as it would have in the hands of the decedent." Edna S. Ullman, 34 T.C. 1107">34 T.C. 1107 (1960). In this case we have held that the amounts would have been ordinary income had they been received by decedents Emma M. Vollrath and Mabel K. Carter. It follows that they are ordinary income in the hands of petitioners since they were not received from a sale or exchange of the right to receive such amounts. 34 T.C. 1107">Edna S. Ullman, supra.Decisions will be entered under Rule 50. Footnotes1. Proceedings of the following petitioners are consolidated herewith: Estate of Emma M. Vollrath, Deceased, Gilbert Carter, Executor, Docket No. 80006; Gilbert Carter and Virginia Carter, Docket No. 80007; Patricia Carter, Docket No. 80008; Howard Carter, Docket No. 80009; Susan Carter, Docket No. 80010; David C. Carter and Frances M. Carter, Docket No. 80042.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621928/	GARY L. SIBEN, MICHELE SIBEN, SIDNEY SIBEN, STELLA SIBEN, STEPHEN G. SIBEN, EILEEN L. SIBEN, WALTER SIBEN AND LILLIAN SIBEN, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, RespondentSiben v. CommissionerDocket No. 5027-85United States Tax CourtT.C. Memo 1990-435; 1990 Tax Ct. Memo LEXIS 448; 60 T.C.M. 524; T.C.M. (RIA) 90435; August 13, 1990, Filed 1990 Tax Ct. Memo LEXIS 448">448 Held: Petitioner's motion for summary judgment will be denied on the basis of Fehlhaber v. Commissioner, 94 T.C. (June 13, 1990). Howard Philip Newman, for the petitioners. Randall L. Preheim, for the respondent. WHITAKER, Judge. WHITAKERMEMORANDUM FINDINGS OF FACT AND OPINION Pending before this Court is a motion for summary judgment filed by petitioners on June 11, 1990, together with respondent's notice of objection filed on July 5, 1990. The issue before the Court involves the statute of limitations, or more precisely whether this Court should1990 Tax Ct. Memo LEXIS 448">449 follow the decision of the Court of Appeals in Kelley v. Commissioner, 877 F.2d 756">877 F.2d 756 (9th Cir. 1989), revg. T.C. Memo. 1986-405 or this Court's more recent decision in Fehlhaber v. Commissioner, 94 T.C. (June 13, 1990). The parties agree that there is no genuine issue of material fact regarding the statute of limitations issue and thus summary judgment is appropriate. See Lyons v. Board of Education of Charleston, 523 F.2d 340">523 F.2d 340, 523 F.2d 340">347 (8th Cir. 1975). During the years 1979 and 1980 petitioners claimed deductions on their Federal income tax returns on account of an investment in a partnership known as Baltic Energy Ltd. (hereinafter "Baltic"). Baltic is a calendar-year limited partnership. Baltic filed its 1979 partnership return on August 15, 1980, pursuant to an extension, and filed its 1980 partnership return on or before April 15, 1981. Petitioners argue that the statute of limitations with respect to an adjustment of a partner which is attributable to a partnership item expires, in general, 3 years after the date on which the partnership return was filed, or was due to be filed, unless extended by agreement. Baltic and respondent1990 Tax Ct. Memo LEXIS 448">450 did not extend the statute of limitations. In fact, there was no occasion to take that action since Baltic was not a taxpaying entity. Sec. 701. 1 (We note that section 6229 is not applicable to the 1979 and 1980 years.) Each petitioner in this case executed special consents to extend the time to assess tax on Form 872-A which extended the period for assessment with respect to the years 1979 and 1980 to a period which is 90 days after either the taxpayer or the Internal Revenue Service issued a Form 872-T or the Internal Revenue Service mailed a notice of deficiency. No Forms 872-T were issued in this case. The statutory notices issued to petitioners Sidney and Stella Siben were mailed on December 3, 1984, and to the other petitioners on December 4, 1984. Both dates were within the period1990 Tax Ct. Memo LEXIS 448">451 of limitations. Petitioners rely solely on 877 F.2d 756">Kelley v. Commissioner, supra. In Kelley, the taxpayer-husband was a shareholder in an S corporation. The petitioners in that case had extended the statute of limitations by agreement with respondent and a notice of deficiency was issued to them with the only adjustments pertaining to pass-through items from the S corporation. The S corporation had not extended its statute of limitations. In reversing this Court, the Ninth Circuit held that the statute of limitations on adjustments derived from "pass-through" items from the S corporation expired 3 years from the filing of the corporate information return. However, this Court in 877 F.2d 756">Fehlhaber v. Commissioner, supra, expressly declined to adopt the position of the Court of Appeals in Kelley on this issue. Rather we reaffirmed the position taken by this Court in Kelley. See Kelley v. Commissioner, T.C. Memo. 1986-405, revd. 877 F.2d 756">877 F.2d 756 (9th Cir. 1989). Although there are distinctions between an S corporation and a partnership, the rationale of our opinion in Kelley and in Fehlhaber apply with equal force in the partnership-partner1990 Tax Ct. Memo LEXIS 448">*452 area. 2 Thus, we will follow our Court-reviewed opinion in Fehlhaber. Accordingly we hold that petitioners' motion for summary judgment is due to be denied. We note parenthetically that when the petitions were filed in this case, all petitioners resided in Brooklyn, New York. Appeal will lie to the Court of Appeals for the Second Circuit, which has not spoken on this issue. We are not, in any event, bound to follow the views of the Court of Appeals for the Ninth Circuit. See Golsen v. Commissioner, 54 T.C. 742">54 T.C. 742, 54 T.C. 742">757 (1970), affd. 445 F.2d 985">445 F.2d 985 (10th Cir. 1971). An appropriate order will be issued. Footnotes1. Unless otherwise noted, all section references are to the Internal Revenue Code of 1954, 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. We express no opinion on whether the rationale of the Ninth Circuit would similarly apply to a partnership.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621929/	WESER BROS., INC., PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Weser Bros., Inc. v. CommissionerDocket Nos. 10548, 17055, 25239.United States Board of Tax Appeals12 B.T.A. 1394; 1928 BTA LEXIS 3343; July 18, 1928, Promulgated 1928 BTA LEXIS 3343">3343 1. The evidence fails to establish that the Commissioner's determination of profit derived by petitioner upon collection of accounts receivable acquired for stock, was erroneous. 2. Value of intangible assets for invested capital purposes, and the value of patents for exhaustion, determined. Nelson S. Spencer, Esq., for the petitioner. John W. Fisher, Esq., for the respondent. LOVE 12 B.T.A. 1394">1394 OPINION. LOVE: These proceedings are brought to redetermine deficiencies in income and profits tax in the total amount of $41,230.61 for the fiscal years ended January 31, 1919, 1920, and 1921, in Docket No. 10548; in the amount of $2,444.67 for the fiscal year ended January 31, 1922, in Docket No. 17055; and income tax in the amount of $11,086.93 for the fiscal year ended January 31, 1923, in Docket No. 25239. Because the issues involved are common to all the appeals, the cases were consolidated for the purpose of hearing and decision. The petitioner alleges that in determining deficiencies for the years in question, the Commissioner erred in each of the following respects: (1) In including in the taxable income of the petitioner, for each1928 BTA LEXIS 3343">3344 of the years referred to, a profit on collections received in liquidation of accounts receivable acquired by petitioner in 1917. 12 B.T.A. 1394">1395 (2) In excluding from invested capital for the years 1919, 1920, and 1921, items of good will, patents and trade marks. (3) In excluding as a deduction from gross income exhaustion of patents. From 1879 to 1917, John A. Weser manufactured and sold pianos in the City of New York. From a relatively small beginning this business grew until on May 18, 1917, it occupied an eight-story factory building covering three acres of floor space and maintained four branch establishments at which pianos were sold with profits running upward to $100,000 a year. On that date Weser died and his widow, Elsie A. Weser, was appointed administratrix of his estate. Upon his death the actual conduct of the business was suspended and an inventory of its assets was taken. Thereupon, on May 26, 1917, a corporation was organized under the laws of the State of New York, known as Weser Bros., Inc., and all the assets of the business were transferred to it by the administratrix under a bill of sale dated July, 1917, in consideration of the issuance to her of the1928 BTA LEXIS 3343">3345 entire capital stock of the corporation of a par value of $1,000,000, with the exception of $3,000 which was paid for in cash, and the assumption of the outstanding liabilities of the business conducted by Weser during his lifetime. As of the date of the death of Weser there were on the books of the business notes and accounts receivable of a face value of $937,488.28, which were appraised in the inventory then made at a value of $684,147.60. These notes and accounts receivable arose from sales of pianos, usually on the installment plan, and discount on their face value represented the estimated cost of collection, based upon an experience extending over a number of years. With the other assets, these accounts were taken over by the corporation for stock at their discounted value, namely, $684,147.60. In the determination of the amount of deficiencies herein involved, the Commissioner held that the petitioner acquired a large number of separate accounts receivable, to each of which the discount from the face value applied uniformly, and that after the discounted value of each individual account was paid off by the debtor, the amount received in excess thereof, representing1928 BTA LEXIS 3343">3346 the discount at which such account was acquired, constituted profit realized by the petitioner and includable in gross income. On the contrary, the petitioner asserts that it acquired these assets as a single aggregate receivable, on which no profit was realized until it had first received a return of capital equal to the amount at which they were taken over. The record does not disclose the years in which the separate accounts became fully paid up, and in the absence of more accurate data, the 12 B.T.A. 1394">1396 Commissioner computed the profit of the petitioner by allocating part of each year's receipts from these accounts to profit, in the ratio of the total discount to the total face value of all the accounts taken over; that is, the Commissioner treated each account separately with a view to computing profit on each account, as, if, and when, payments thereon became in excess of the cost thereof; but in the absence of data tending to show when each individual account had been fully or partially paid off, he resorted to the installment method of treating as profit that part of each payment equal to the ratio between the total discount value and the face value of the accounts taken1928 BTA LEXIS 3343">3347 over. A careful consideration of the record in this case convinces us that the determination of the Commissioner on this issue should be sustained. Since the parties to the transaction by which the accounts receivable belonging to the estate of John A. Weser were transferred to the petitioner, were privileged to make the exchange for stock upon a basis which represented the true value of such accounts, it must be assumed that the discounted value at which they were taken over represented their actual worth at the time. There is no controversy as to this. As these choses in action were reduced by collection to choses in possession, there was gain to the petitioner to the extent that the amount collected on each account exceeded the basis on which it was acquired. There is no evidence in the record tending to show the status of each account during the years in question, and therefore, under the circumstances, the method of treatment of collection on these accounts adopted by the Commissioner must be affirmed. In filing its return for each of the years in question, the petitioner has included in invested capital the amounts of $150,000, $50,000, and $14,501.69, representing1928 BTA LEXIS 3343">3348 respectively good will, patents, trade-marks and trade-names transferred to it by the administratrix of the estate of John A. Weser at the time of its organization. The Commissioner, in the audit of the return of the petitioner, excluded such items from invested capital under section 331 of the Revenue Act of 1918, on the ground that there was no evidence tending to show that an account for good will, patents, trade-marks and trade-names had ever been carried on the books of the said John A. Weser, or that such assets could have been carried by him on his books through acquisition by purchase or otherwise, and that since he could not have included such items in invested capital had he lived, the administratrix, who is his personal representative and stands in his place, likewise had no power to escape the limitations contained in section 331 of the statute, by transferring such assets to the corporation 12 B.T.A. 1394">1397 formed after his death. While it is true that for some purposes the administratrix stands in the place of the intestate, 1928 BTA LEXIS 3343">3349 ; , for other and more vital purposes he represents adverse interests and takes title to the personal property of the intestate to administer it for the benefit of creditors, if any, or of the next of kin. ;; . Considered in the latter respect the estate and the deceased are separate and distinct entities and, except insofar as the assets of the estate may be chargeable with the payment of the decedent's debts, his entire interest has necessarily ceased. Under the facts of the instant case, therefore, the question is not as to the effect of the limitations of section 331, had John A. Weser himself transferred these assets to the petitioner, but whether that section of the statute applies to his administratrix, who for this purpose must be considered as the previous owner of the assets of the business conducted by him during his life time. The Revenue Act of 1918 provides that in the case of the reorganization, consolidation, or change of ownership of a trade or business, or change of ownership1928 BTA LEXIS 3343">3350 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 or received; provided, that if such previous owner was not a corporation, then the value of any asset so transferred or received shall be taken at its cost of acquisition (at the date when acquired by such previous owner). (Section 331.) Under the circumstances of this case it must be said either that the statute is inapplicable, since obviously there was no cost of acquisition to the previous owner, or that the term "cost of acquisition" as used in the statute means in this case the value of the assets at the date of acquisition by the administratrix. While the precise question now raised has not been considered heretofore, in the somewhat analogous case involving the basis for the computation of gain or loss resulting from the1928 BTA LEXIS 3343">3351 sale of property of an estate by an executor, the Board held that the basis is the same as the basis in the case of sale of property acquired by gift, namely, the value at the date of acquisition if that date be subsequent to March 1, 1913. ; ; , contra. See also . Accordingly we hold that in this case the cost of acquisition means value at date of acquisition by the administratrix, which was the date of the death of John A. Weser, and that under section 331 of the statute the petitioner may include in invested capital an amount equal to the value of the assets transferred to it by the administratrix of the estate of John A. Weser at the date of acquisition, provided such value is established by the record. This presents the sole remaining question in this issue. At the hearing the capital and profits of Weser Bros. for the six-year period from 1912 to 1917, inclusive, were established by stipulation. In1928 BTA LEXIS 3343">3352 view of the fact that the transfer of the assets of the business to the petitioner occurred in July, 1917, the amounts for that year should in our opinion be excluded from any computation made for the purpose of arriving at the value of intangibles used therein. The business earned a substantial profit each year from the beginning. The net tangible assets and net profits of the business for the years 1912 to 1916, inclusive, were as follows: CapitalProfits1912$377,994.95$95,659.991913588,691.15107,451.071914690,189.1380,899.851915742,858.1941,470.411916198,156.0864,907.633,197,889.50390,388.95A yearly average of639,577.9078,077.79From a consideration of the history of the business and of all the evidence in the record, we are of the opinion that the actual cash value of the intangibles transferred by the administratrix of the estate of John A. Weser to petitioner for invested capital purposes was $186,000. Accordingly, we conclude that the Commissioner erred in excluding from invested capital for the years 1919, 1920, and 1921, items of good will, trade-marks and trade-names, and patents to the extent of $186,000, 1928 BTA LEXIS 3343">3353 as shown herein. The third and last issue relates to the exclusion by the Commissioner of a deduction from gross income representing exhaustion of patents. As heretofore shown under the second issue, petitioner has established that it acquired at the time of organization an aggregate of intangibles valued at $186,000 from the administratrix of the estate of John A. Weser. These patents cover the development of player action used in the manufacture of player pianos. The privilege of manufacturing a 12 B.T.A. 1394">1399 few of the devices covered by the patents had been granted to other manufacturers of pianos, and between 1912 and 1916, inclusive, collection of royalties from this source averaged approximately $900 per year, and from 1917 to 1923, inclusive, approximately $2,100 per year. That these patents were a material income-producing factor is further shown by the fact that the major part of the business done consisted of the sale of player pianos. The only witness to testify at the hearing, after stating that his access to the books of John A. Weser was such as to enable him to determine the profits made and the channel through which they came, expressed his opinion that1928 BTA LEXIS 3343">*3354 the patents had a value of $50,000 at the date of transfer to petitioner. Considering the record in this case as a whole, we are convinced that for purposes of exhaustion the patents transferred to petitioner by the administratrix of John A. Weser had a value at the date of transfer of $40,000; and since it is admitted in the brief of the respondent that the only question involved in the issue is the value of the patents, we hold that the Commissioner erred in excluding an allowance therefor as a deduction from gross income and that such deduction should be allowed on the basis of the value of the patents as found herein. The exhaustion should be over the average life of such patents, which is not in controversy. Judgment will be entered under Rule 50.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621930/	Amfac, Inc., et al., 1 Petitioner v. Commissioner of Internal Revenue, RespondentAmfac, Inc. v. CommissionerDocket No. 7236-75United States Tax Court70 T.C. 305; 1978 U.S. Tax Ct. LEXIS 115; May 23, 1978, Filed 1978 U.S. Tax Ct. LEXIS 115">115 Decision will be entered for the respondent. Puna expended certain sums in priming three fields for the cultivation of sugar cane. Held, such amounts are not deductible under sec. 175 as expenditures incurred for the purpose of soil or water conservation. Richard L. Griffith, for the petitioner.Vernon R. Balmes, for1978 U.S. Tax Ct. LEXIS 115">116 the respondent. Sterrett, Judge. STERRETT70 T.C. 305">305 Respondent, on May 16, 1975, issued a statutory notice in which he determined a deficiency of $ 170,315 in petitioner's corporate income tax. The issue presented for our 70 T.C. 305">306 determination is whether petitioner may deduct under section 175(a), I.R.C. 1954, expenditures, otherwise characterized as capital in nature, incurred in 1969 to improve three fields.FINDINGS OF FACTSome of the facts have been stipulated and are so found. The stipulation of facts, together with the exhibits attached thereto, are incorporated herein by this reference.Petitioner AMFAC, Inc., is a corporation with its principal place of business located in Honolulu, Hawaii. Petitioner and its subsidiary corporations, including Puna Sugar Co., Ltd. (hereinafter Puna), filed a consolidated income tax return for the calendar year 1969 with the Internal Revenue Service Center, Honolulu, Hawaii. Petitioner is a common parent and for all purposes is a sole agent for each subsidiary in the group, duly authorized to act in its own name in all matters relating to the tax liability for the consolidated return year 1969. Sec. 1.1502-77, Income Tax Regs.1978 U.S. Tax Ct. LEXIS 115">117 2Puna operates a sugar plantation in the eastern section of the island of Hawaii. Puna's plantation has been in operation since approximately 1900. The plantation includes a sugar mill.In 1969 Puna owned or controlled approximately 9,929 acres of land available for production of sugar cane. According to crop records which show production at 5-year intervals the number of acres harvested per year ranged from a high in 1940 of 8,207 to a low in 1970 of 5,026.By 1967 certain equipment at the sugar mill, specifically the boilers and a crushing plant, which was used to extract juice from sugar, had become badly worn and in need of repair. In that year Puna's board of directors approved a boiler study which recommended installation of a new generator, diffuser, 1978 U.S. Tax Ct. LEXIS 115">118 and boiler. It was suggested therein that the new equipment could accommodate considerable crop expansion. Puna installed a new boiler and diffuser in the mill. Installation of the new equipment substantially raised the mill's capacity with the result that it became feasible for Puna to cultivate new lands.70 T.C. 305">307 In 1968 Puna considered a proposal to cultivate an additional 5,000 acres over the next 7 years. 3 A plan was adopted in the latter part of 1968 pursuant to which the following expenses were incurred by Puna and claimed as deductible soil and water conservation expenses for its taxable year 1969:FieldAcres on whichInterestnumberswork performedAmountFee090131.11$ 105,272.06Fee151297.29194,828.82Fee22014.587,745.40Fee2606.832,280.20Fee1802.751,367.60Fee3907.801,619.80Leased39184.8035,523.75Leased10130.3615,952.08364,589.71The following amounts remain in issue:FieldnumberAmount090$ 73,310.06151194,828.822200 2600 1800 3900 39119,266.751010 287,405.63The acres on which these expenditures were incurred will hereinafter1978 U.S. Tax Ct. LEXIS 115">119 be referred to as the work areas.The fields selected for cultivation by Puna were located in 70 T.C. 305">308 three geographical growing zones. Land was selected in each zone in order that the crops would have varying maturity dates of 24, 27, and 30 months. A balanced flow of cane to the mill would result from the staggered maturity dates.The parties have agreed that the following list basically describes the steps that petitioner intended to take prior to planting. No issue has been raised that these steps were not in fact taken:(1) Establish exploration lines to determine terrain and soil conditions.(2) Determine detailed Soil Conservation Plan and location of permanent roads and drainage.(3) Eradicate trees and brush and locate low areas where big rocks and brush will be placed.(4) Remove from the low areas and stockpile all soil and organic matter to 1978 U.S. Tax Ct. LEXIS 115">120 be used later as top dressing.(5) Push brush and other waste material into the holes created by removal of soil.(6) Remove and stockpile soil from higher spots.(7) Rip high spots which are usually solid rock and move earth and rock from high spots into the holes on top of the brush and waste. This is the step during which the main land leveling and grading for drainage occurs.(8) Push the stock piled soil evenly across the prepared surface with special consideration for saving of the soil and grading for drainage. The soil is compacted in this operation to prevent losses down through the loose underlying rock.(9) Soil is removed from the prelocated road beds and spread across the prepared surface so that no soil will be lost under the road.(10) Install roads by preparing roadbed leveling higher spots and bringing in gravel from infield stockpiles or from outside quarries. This cost is charged to roads.(11) Necessary drainage ditches and culverts are constructed.However, the work done in the work area of field 391 in 1969 consisted primarily of spreading waste mud which was collected at the mill during washing and processing of the cane. This mud was scooped up at the 1978 U.S. Tax Ct. LEXIS 115">121 mill and piped to the work area where it was spread.Field 391 covers 319.364 acres. Of the total acreage 79 acres were improved in 1968. The work area covered 84.8 acres. The contemporary records of Puna do not reflect cultivation of sugar cane in the work area prior to 1969. Planting of the work area commenced in January of 1970 and continued through February of 1970. The work area was planted in increments when it was ready for cultivation.Field 090 covers 451.743 acres. Of the total acreage 252 acres 70 T.C. 305">309 had intermittently been cultivated in sugar cane by Puna. An additional 68 acres were improved in 1968 at a cost of $ 31,962. The work area covered the remaining 131 acres. The contemporary records of Puna do not reflect cultivation of sugar cane in the work area prior to 1969. Planting of the work area commenced in July of 1968 and continued through November of 1969. The work area was planted in increments as it was ready for cultivation.Field 151 covers 297 acres. Prior to and during 1969 sugar cane was being cultivated in this field in a 5-acre experimental plot. The work area covered the remaining 292 acres. The contemporary records of Puna do not reflect1978 U.S. Tax Ct. LEXIS 115">122 cultivation of sugar cane in the work area prior to 1969. Planting of the work area commenced in September of 1969 and continued through February of 1970. The work area was planted in increments as it was ready.OPINIONPuna expended certain sums in priming three fields for the cultivation of sugar cane. Petitioner contends that such amounts are deductible under section 175, I.R.C. 1954, as expenditures incurred for the purpose of soil or water conservation.There is no question that such amounts were expended on work done to the three fields. However, respondent has determined that such items are nondeductible capital expenditures for the development of land that failed to satisfy the section 175(c)(2) definition of "land used in farming."That definition requires that the land be used for the production of crops 4 by the taxpayer either prior to or simultaneous with the expenditure. The Income Tax Regs. expand this definition to include land newly acquired by the taxpayer if the previous owner used the land for farming and the taxpayer's use of the land is substantially a continuation of such prior use. Sec. 1.175-4(a)(2), Income Tax Regs. In Estate of Straughn v. Commissioner, 55 T.C. 21">55 T.C. 21, 55 T.C. 21">25 (1970),1978 U.S. Tax Ct. LEXIS 115">123 the Court held that in determining whether there has been a substantial continuation of use, a change in the type of crop cultivated is not significant because the definition of use in section 175(c)(2)70 T.C. 305">310 makes only the broad distinction between the production of crops and livestock.Petitioner contends that because the evidence discovered at the time Puna cleared the work area points to prior use of the land for sugar cane (field 090 appeared to have been furrowed at some time), coffee, oranges, bananas, and taro (in field 151 a few of these plants were discovered), Puna's cultivation of sugar cane was a substantial continuation of a prior use. Petitioner supports its contention by comparing the factual situation herein to that of Behring v. Commissioner, 32 T.C. 1256">32 T.C. 1256 (1959). In Behring the taxpayer's1978 U.S. Tax Ct. LEXIS 115">124 land was not newly acquired and had not been used in farming by the previous owner, but had been so used 30 years prior to the time of taxpayer's expenditures. The taxpayer contracted for the implementation of the conservation measures and in the same month entered into an agricultural lease. The lessees immediately entered upon the land and "planted it * * * as rapidly as the condition of the land made possible." 5 Admittedly there are some parallels between Behring and the factual situation herein. However, we find a number of distinguishable features.In Behring the prior use of the land was within recorded history. Herein the prior use alleged by petitioner was not within recorded history. In Behring cultivation had been discontinued due to a climatic change; the declining rainfall. The taxpayer's use was enhanced by the availability of irrigation. The Court in Behring specifically noted that the land was1978 U.S. Tax Ct. LEXIS 115">125 ready for farming before it was irrigated. Herein the alleged prior use was so remote that the work area had to be recleared and developed into cultivable fields.From the steps detailed in Puna's "conservation program" we discern that the work areas were not presently ready for farming. Step three calls for the eradication of trees and brush, an activity more accurately classified as clearing land than as soil and water conservation. Petitioner's witness testified that such activity constituted 30-35 percent of the time and cost of preparing the work areas of fields 090 and 151, and 25 percent of the time and cost of preparing the work area of field 391.The legislative history of section 175 makes it clear that the 70 T.C. 305">311 section was not intended to apply to development costs or the costs of making a field cultivable. At the time section 175 was enacted it was expected to affect the farmer in two ways. The most obvious of the two was to provide incentive for implementation of conservation measures. It was noted that little incentive existed where the conservation measure did not yield a return (Hearings on H.R. 8300 Before the Committee on Ways and Means, 83d Cong., 1st1978 U.S. Tax Ct. LEXIS 115">126 Sess. 936 (1953)) and constituted a nondepreciable expenditure whose cost could only be recovered on sale. Joint Comm. on Internal Revenue Taxation, Summary of the New Provisions of the Internal Revenue Code of 1954, p. 23 (1955). Recovery on sale is not only remote but often nonexistent due to obsolescence and deterioration. Often the increase in basis which should result from the "capital" improvement is difficult to substantiate. Hearings on H.R. 8300 Before the Committee on Ways and Means. 83d Cong., 1st Sess. 930 (1953). Secondly, the deduction of such amounts simplifies the accounting problems of the farmer. By specifying that such expenditures are deductible 6 the problem of distinguishing such amounts from normal operating costs is avoided. Hearings on H.R. 8300 Before the Committee on Finance, 83d Cong., 2d Sess. 1888 (1954).1978 U.S. Tax Ct. LEXIS 115">127 We do not find Puna to be the type of farmer Congress was attempting to benefit by passage of section 175. With respect to the incentive aspect of section 175 the testimony of the witnesses uniformly reveals that the improvements undertaken by Puna resulted in superior fields of sugar cane. Thus, Puna can recover the costs through increased yield. The accounting problem is minimal because the amounts expended on these fields is readily distinguishable from the normal operating costs and, hence, are not difficult to substantiate.Neither do we find that Puna used the land simultaneously with the expenditures. Close proximity of use is not sufficient. Cf. A. Duda & Sons, Inc. v. United States, 383 F. Supp. 1303">383 F. Supp. 1303, 383 F. Supp. 1303">1307 (M.D. Fla. 1974) revd. on other issues 560 F.2d 669">560 F.2d 669 (5th Cir. 1977). Although we have found simultaneous use where some 70 T.C. 305">312 parts of the land were ready for planting prior to any improvement, 32 T.C. 1256">Behring v. Commissioner, supra at 1260, where the total work area must be developed prior to cultivation the term simultaneous use does not encompass incremental planting of the area1978 U.S. Tax Ct. LEXIS 115">128 as the development of each portion is completed.Decision will be entered for the respondent. Footnotes1. The subsidiaries of AMFAC, Inc., were not named in the petition.↩2. Sec. 1.1502-77↩ specifically provides that the petitioner as such common parent will file petitions and conduct proceedings before the United States Tax Court, and any such petition shall be considered as also having been filed by each subsidiary of the group.3. In subsequent years substantial changes were made to this program due to cash flow problems and the failure of the mill to attain the capacity as forecasted.↩4. The sec. 175(c)(2)↩ definition more specifically includes land used "for the production of crops, fruits, or other agricultural products or for the sustenance of livestock."5. Behring v. Commissioner, 32 T.C. 1256">32 T.C. 1256, 32 T.C. 1256">1258↩ (1959).6. Such expenditures were generally capitalized, therefore the Tax Court's holding in Collingwood v. Commissioner, 20 T.C. 937">20 T.C. 937, 20 T.C. 937">943↩ (1953), that substantial expenditures for terracing were deductible as maintenance costs, encouraged Congress to enact legislation specifying criteria for deductibility. Joint Comm. on Internal Revenue Taxation, Summary of the New Provisions of the Internal Revenue Code of 1954, p. 23 (1955).	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621931/	Oswill M. Cummings, Jr. v. Commissioner.Cummings v. CommissionerDocket No. 3183-65.United States Tax CourtT.C. Memo 1968-52; 1968 Tax Ct. Memo LEXIS 245; 27 T.C.M. 273; T.C.M. (RIA) 68052; March 29, 1968. Filed S.P.Keith, Jr., P.O.Box 8332, Birmingham, Ala., for the petitioner. Homer F. Benson, for the respondent. 274 TIETJENSMemorandum Findings of Fact and Opinion TIETJENS, Judge: The respondent determined deficiencies in income tax and additions to tax as follows: Additions to TaxSec. 293(b)I.R.C. 1939Sec. 294TaxableSec. 291(a)or sec. 6653(b)(d)(1)(A)Sec. 6654(a)YearDeficiencyI.R.C. 1939I.R.C. 1954I.R.C. 1939I.R.C.19541944$1,011.63$252.91$ 505.82$ 91.0419451,292.48323.12646.24116.3219461,920.77480.19960.39172.8719472,483.27620.821,241.64223.4919481,637.79409.45818.90147.4219491,038.22259.56519.1193.4519502,027.2250 6.811,013.61182.4519512,116.42529.111,058.21183.2019522,067.89516.971,033.94178.8119533,064.75766.191,532.38268.5319543,773.841,886.92339.1019555,045.012,522.51$137.73The issues for our determination are: (1) Whether Oswill M. Cummings, Jr. (hereinafter sometimes referred to as petitioner), 1968 Tax Ct. Memo LEXIS 245">247 received taxable income during the years 1944 through 1955 and, if so, what amount; (2) Whether any parts of the deficiencies, if so found, were due to fraud so as to make the additions to tax under section 293(b), I.R.C. 1939, and section 6653(b), I.R.C. 1954, applicable; (3) Whether petitioner's failure to file income tax returns for the years 1944 through 1953 was due to reasonable cause and not willful neglect so as to make the additions to tax under section 291(a), I.R.C. 1939, improper; (4) Whether petitioner is subject to the additions to tax under section 294(d)(1)(A), I.R.C. 1939, for failure to file a declaration of estimated income tax for the years 1944 through 1954, and under section 6654(a), I.R.C. 1954, for his failure to pay estimated income tax for the year 1955; and (5) Whether petitioner is entitled to claim his wife as a dependency exemption for the taxable years. Findings of Fact Oswill M. Cummings, Jr., is an individual who was married throughout the years 1944-1958. Petitioner resided in Tuscaloosa, Alabama at the time the petition herein was filed. During the taxable years 1944 through 1958, petitioner owned1968 Tax Ct. Memo LEXIS 245">248 the Tuscaloosa Motor Express (hereinafter referred to as the Motor Express or the business), a sole proprietorship which operated a motor-truck line under a franchise granted by the Alabama Public Service Commission. During 1944 and through most of the year 1945, petitioner was stationed in Europe as an officer with the rank of major in the U.S. Army, Transportation Corps. While petitioner was absent from Tuscaloosa and in the armed services his business was operated on his behalf by his father, with some assistance from petitioner's wife who held his power of attorney. Sometime in 1945 petitioner returned from Europe and in 1946 he was officially discharged from the Army. From the time petitioner returned in 1945, through 1958, he personally conducted his business of hauling freight by motortrucks on a regular schedule between his principal place of business in Tuscaloosa, Alabama and Birmingham, Alabama. Occasionally, he would make unscheduled hauls to other cities both in and out of the State of Alabama. In the course of his business, petitioner maintained C.O.D. and interline accounts. The C.O.D. account was a standard "collect on delivery" account whereby the petitioner1968 Tax Ct. Memo LEXIS 245">249 at the time of the delivery collected the total cost of the goods plus the freight charges. The petitioners then deducted from this remittance his fee and freight charges and remitted the remaining amount to the sender-vendor. An interline account arose when petitioner hauled freight only a small portion of the total distance shipped. On such accounts petitioner would collect the total freight charges from the recipient of the shipment, deduct his hauling charge and remit the remainder to the prior carrier or carriers. In all these instances the total amounts 275 received were deposited in petitioner's business checking account. Petitioner executed checks for the reduced amounts and thereafter remitted these to the prior parties. In 1947 petitioner transferred to his wife the terminal buildings in Tuscaloosa, Alabama and in Birmingham, Alabama, which were then occupied and used in petitioner's business. Petitioner continued to use both properties in his business, with no rental charge paid to his wife. Petitioner did not file individual Federal income tax returns or pay income taxes for any of the years between 1944 and 1955. In addition, he failed to file declarations of estimated1968 Tax Ct. Memo LEXIS 245">250 tax for any of the years between 1944 and 1954 and he did not pay any estimated tax for the year 1955. Petitioner failed to maintain an adequate set of books or records from which his correct taxable income could be computed for any of the years in issue. At all times in question, petitioner filed periodic reports to the Alabama Public Service Commission and to the Interstate Commerce Commission. In the course of the audit of petitioner's income tax liabilities, respondent's agents asked petitioner for his cancelled checks, deposit slips, bank statements, and other documents from which his income could be ascertained for any of the taxable years between 1944 and 1955. Petitioner stated he did not possess any records and was uncooperative with respondent's agents in their investigation. Respondent's agents determined from the records of the City National Bank of Tuscaloosa, Alabama that during the taxable years petitioner made or had made for him the following deposits to his business and personal bank accounts, his savings account, and the savings account of his minor son, Jackie Cummings, as shown in the following schedule: CalendarTuscaloosaPersonalSavingsMinor Son'sTotalYearMotor ExpressCheckingAccountSavings Acct.Deposits1944$125,128.83$7,377.57$132,506.401945142,318.188,814.03$2,500.00153,632.211946212,310.678,691.611,100.00222,102.281947257,36 9.902,720.00260,089.901948215,994.913,145.90219,140.811949164,593.783,245.00167,838.781950239,550.503,431.00242,981.501951223,874.253,260.00227,134.251952208,196.263,065.00211,2 61.261953266,805.132,940.00269,745.131954322,228.763,188.00325,416.761955368,152.844,202.12$700.00373,054.961968 Tax Ct. Memo LEXIS 245">251 The above schedule sets forth the total bank deposits for each of the taxable years, which may include nontaxable items deposited to the above accounts. Respondent did not attempt to eliminate any of these nontaxable amounts from the bank deposits as he was unable to determine from the available information what amount or amounts should have been eliminated for this reason. Due to the absence of adequate records, respondent resorted to another means for determining petitioner's taxable income during these years. First, respondent computed petitioner's income and profit from petitioner's business income for the years 1956, 1957, and 1958 (years for which adequate records existed), adjusting it to eliminate unusual income items. He then determined the ratio between petitioner's average computed adjusted income and profits and petitioner's average adjusted total bank deposits for the same years. These bank deposits were also adjusted by respondent in order to eliminate non-income receipts. This ratio, 4.58435 percent, was then applied to the total bank deposits for each calendar year in issue (1944 through 1955) in order to approximate petitioner's income for these years. Respondent1968 Tax Ct. Memo LEXIS 245">252 determined petitioner's net profit and income to be as follows: YearNet Profits and Other Income 4.58435 Percent of Adjusted Bank Deposits1944$ 6,074.5619457,043.04194610,181.95194711,923.43194810,046.1819497,694.32195011,139.12195110,412.6319529,684.96195312,366.06195414,918.24195517,102.15Ultimate Findings of Fact Except as indicated hereafter, petitioner has not shown error in respondent's 276 determination of petitioner's net profit and income for any of the years 1944 through 1965. Part, if not all, of the underpayments in each year was due to petitioner's fraud with an intent to evade the tax. Petitioner has not shown that his failure to file income tax returns for each of the years 1944 through 1953 was due to reasonable cause. Petitioner has not shown that his failure to file the declarations of estimated income tax for each of the years 1944 through 1954 and his failure to pay estimated income tax for the year 1955 were due to reasonable causes. Petitioner has proven he is entitled to an exemption for his wife in each of the taxable years. Opinion Deficiencies We are faced with a1968 Tax Ct. Memo LEXIS 245">253 frustrating record. No facts were stipulated and the parties have apparently been at loggerheads even to the time of trial. Initially, the question is whether the respondent properly determined the income tax deficiencies of petitioner. It is well established that the Commissioner may use any reasonable method to determine deficiencies where the petitioner fails to maintain records from which his income can be ascertained. Burka v. Commissioner, 179 F.2d 483, 485 (C.A. 4, 1950), affirming a Memorandum Opinion of this Court; Kenney v. Commissioner, 111 F.2d 374, 375 (C.A. 5, 1940), affirming 38 B.T.A. 1531">38 B.T.A. 1531. Moreover, respondent's determinations are presumed to be correct and the burden of disproving his determinations lies with petitioner. Rule 32, Tax Court Rules of Practice; Bryan v. Commissioner, 209 F.2d 822, 825 (C.A. 5, 1954), affirming a Memorandum Opinion of this Court, certiorari denied 348 U.S. 912">348 U.S. 912 (1955). Petitioner's main argument is that respondent's determinations are arbitrary and excessive and for this reason the presumption of correctness should not attach. In support, petitioner attempts to show1968 Tax Ct. Memo LEXIS 245">254 that respondent's manner of calculating the deficiencies was erroneous. Petitioner makes this assertion even though he concedes that respondent's use of a bank deposit method would be proper in certain circumstances. Cf. Doll v. Glenn, 231 F.2d 186 (C.A. 6, 1956); Boyett v. Commissioner, 204 F.2d 205, 208 (C.A. 5, 1953), affirming a Memorandum Opinion of this Court [Dec. 18,198(M)]. The petitioner here failed to maintain an adequate set of books, and we think it is entirely proper for respondent to employ a bank deposit method in calculating deficiencies for the years 1944 through 1955, inclusive. Louis Halle, 7 T.C. 245">7 T.C. 245 (1946), affd. 175 F.2d 500 (C.A. 2, 1949), certiorari denied 338 U.S. 949">338 U.S. 949, 70 S. Ct. 485">70 S. Ct. 485 (1950), and U.S. v. Doyle, 234 F.2d 788 (C.A. 7, 1956). Respondent totaled the amount of bank deposits during the years 1956 through 1958, but eliminated all nontaxable deposits such as interline accounts, C.O.D.'s, and loans. After making these adjustments, respondent compared the average net bank deposit figure with petitioner's average net income for 1956 through 1958, which had also been1968 Tax Ct. Memo LEXIS 245">255 adjusted to reflect nonrecurring income items. Respondent thereby determined that for this period net income and profits represented 4.58435 percent of these net bank deposits. Respondent then totaled the daily bank deposits made by petitioner during the years 1944 through 1955 and applied this percentage figure to each year's total. The amount computed was determined to be the amount of petitioner's taxable income for each of the years in issue. Initially, petitioner argues that the amount of total bank deposits for the period 1944 through 1955 should have been adjusted to eliminate all nontaxable items as was done during the period 1956 through 1958, years not before us. He argues that by failing to do this, respondent was not consistent in calculating the deficiencies. Petitioner asserts that failure to make these adjustments demonstrates respondent's lack of care and thus, that respondent's determinations are arbitrary and excessive. He therefore concludes that the determinations should not be afforded the luxury of presumptive correctness. Despite these contentions, the burden of proving the respondent's determinations to be arbitrary still remains with petitioner. Respondent1968 Tax Ct. Memo LEXIS 245">256 did not deliberately omit adjustments for non-income items in the daily bank deposit totals for the taxable years. For those years he had no information from which he could have 277 ascertained the amount of deposits that represented nontaxable income. Petitioner argues that the bank deposits should be adjusted downward by 50 percent in order to eliminate the C.O.D. and interline accounts. Petitioner, however, has failed to prove this amount by any evidence other than by his own self-serving statements. We are not obliged to give his testimony full credence and we cannot do so on this record. Traum v. Commissioner, 237 F.2d 277, 280 (C.A. 7, 1956), affirming a Memorandum Opinion of this Court. However, we do think some adjustment for C.O.D. and interline accounts should be made, and, bearing heavily against the petitioner, we find that a 10 percent figure is reasonable. Cohan v. Commissioner, 39 F.2d 540 (C.A. 2, 1930); Rogers v. Commissioner, 248 F.2d 452 (C.A. 7, 1957), affirming a Memorandum Opinion of this Court. This adjustment can be reflected in a Rule 50 computation. Petitioner also argues that in the years 1949, 1951, and 1952, 1968 Tax Ct. Memo LEXIS 245">257 the bank deposits totals included loans in the amounts of $6,000, $15,000, and $10,000, respectively. Petitioner has adequately proven that the loans were in fact made. However, we find no evidence from which we can conclude that the amounts of these loans were ever deposited to petitioner's account. We hold that the bank deposits need not be adjusted by the amounts of these loans. Next, petitioner argues that respondent's determination was totally erroneous as business records were available from which respondent could have ascertained petitioner's income. To prove this, petitioner presented at trial some "papers" and other fragmentary foolscap summaries which purported to represent the actual income and expenses of his business for the years 1949 through 1953. This "evidence," which in some respects varied from other "evidence" offered by petitioner, was allegedly discovered by petitioner just two or three days prior to the trial. It indicated, contrary to petitioner's argument that he had no income in the years in issue, that the income of the business was as follows: Salaries PaidCummingsYearBusiness ProfitDuring Year1949$4,063.3519504,996.5419515,583.41$2,600.0019526,627.812,600.0019537,393.571968 Tax Ct. Memo LEXIS 245">258 Petitioner argues, relying on Aaron Samuelson, Executor, 10 B.T.A. 860">10 B.T.A. 860 (1928), that this "evidence" should be accepted as a true representation of petitioner's income for these years. Petitioner's reliance upon Samuelson is inappropriate. We are not convinced, as the Court apparently was in Samuelson, that the summaries and other papers introduced by petitioner by any means establish all the income which should have been reported by petitioner. In Samuelson, the working papers were accepted because the regular books and records had unfortunately been lost or destroyed. The Court there was convinced that the summary papers fairly represented the operations of the business. They were records audited every month by independent public accountants, copied directly from the books, and served as a basis of the accountants' reports upon which the Court was willing to place reliance. However, in the instant case, petitioner has not shown that he ever maintained a proper set of books and records for any of the years in issue; and this despite the testimony of his bookkeeper that he had counseled petitioner to initiate proper recordkeeping procedures. The documents presented1968 Tax Ct. Memo LEXIS 245">259 were not working papers drawn up by independent public accountants in connection with a monthly audit of the books and records. They were simply an unacceptable and unreconciled set of numbers totaled by petitioner's bookkeeper, purportedly based on checkbooks, waybills, etc. Petitioner next argues that the income determined by respondent for the years 1944 through 1955 would actually be less than properly allowable additional depreciation which respondent did not allow. In effect he reasons that the deficiencies must be erroneous because the business actually lost money in almost every year. Petitioner attempts to support this argument by a schedule drawn up, apparently after the fact, by one of his employees as shown below: EquipmentYearDepreciation1945$ 1,989.4119466,254.01194710,376.26194812,029.25194910,788.61195011,079.74195117,259.39195215,641.98195315,220.76195414,268.97195516,245.90 278 This schedule shows petitioner in possession of no less than 18 personal automobiles on which depreciation was calculated in 1955 all of which, without further proof, petitioner claims were used in the business. Petitioner, 1968 Tax Ct. Memo LEXIS 245">260 in calculating the depreciation expense, used a six-year life. It is apparent that the depreciation shown on the schedule was erroneously computed; for, although using a six-year life, petitioner calculated depreciation for the year 1955 on equipment purchased in 1945, 1946, and 1947. In addition, petitioner himself offered other evidence purportedly showing business income in the years 1949, 1950, and 1951, and for these years his depreciation was shown to be $5,953, $6,350, and $7,600, respectively. However, on the schedule, which the petitioner presently wishes us to accept, the depreciation expense totals are $13,411, $14,273, and $20,453, respectively, for the same years. The latter schedule was not prepared in the regular course of business and does not possess the inherent truthfulness generally surrounding a business record. Petitioner failed to present the underlying documents from which the schedule was made. We are not bound to accept as conclusive the estimates of petitioner's bookkeeper, and we do not. See Burka v. Commissioner, supra. Alternatively, petitioner argues that during 1944 and a portion of 1945, the petitioner was attached to the United States1968 Tax Ct. Memo LEXIS 245">261 Army, stationed in Europe. He reasons that as he was not in the United States during this time, and even though the business might have earned income in that period, he was not required to recognize this as his income as he did not earn it. We agree that while petitioner was stationed in Europe during 1944 and a major portion of 1945, he probably did not work at his business. Nevertheless, petitioner's reasoning is faulty. The fact is that petitioner owned the business as a sole proprietor. It does not matter whether or not he personally took part in its daily operation. The important issue is whether or not he was legally entitled to the business income. If so, the income is his and he is taxable on it. Petitioner has not presented evidence sufficient to overcome the presumption of correctness which attached to respondent's determination. We hold that even for the time petitioner was stationed in Europe the income which was earned by the business was petitioner's and that he is taxable on it. Lastly, petitioner argues that he should be allowed an exemption for his wife for each year here in question. E.g., section 25(b)(1)(A), I.R.C. 1939, as amended in 1948, and section 151(b), I.R.C. 1968 Tax Ct. Memo LEXIS 245">262 1954. We hold that there is enough evidence in the record, though sketchy, to entitle petitioner to claim an exemption for his wife in each of the taxable years. Effect for this can be given in the Rule 50 computation. Additions to Tax Respondent also determined that in addition to the deficiencies, petitioner is guilty of fraud with the intent to evade the tax and therefore he is liable for the additions to tax under section 293(b), 1 I.R.C. 1939, and section 6653(b), 2 I.R.C. 1954. To prevail respondent cannot rely upon the presumption of correctness of the deficiencyy determinations above, but must bear the burden of proving fraud, section 7454(a), I.R.C. 1954; Rule 32, Tax Court Rules of Practice; Cefalu v. Commissioner, 276 F.2d 122 (C.A. 5, 1960), affirming a Memorandum Opinion of this Court; Arlette Coat Co. 14 T.C. 751">14 T.C. 751 (1950), and this must be proven by "clear and convincing evidence." M. Rea Gano, 19 B.T.A. 518">19 B.T.A. 518 (1930); Carter v. Campbell, 264 F.2d 930 (C.A. 5, 1959). 1968 Tax Ct. Memo LEXIS 245">263 We believe that petitioner knew that he was obligated to file a tax return at all times in question. He operated a going business and apparently had a reasonable amount of education and business acumen. 279 Petitioner, as discussed in the facts, was an officer with a rank of major in the U.S. Army during World War II and subsequent to his return ran a business which had average gross revenues of over $225,000 per year (from 1944 to 1955). It is inconceivable that petitioner, a person required to file specific financial reports with the Alabama Public Service Commission and the Interstate Commerce Commission, did not believe he was also required to file a Federal income tax return. As is usual in fraud cases the direct evidence does not disclose what petitioner's intention was. This must be ascertained from the surrounding facts, considering the normal and reasonable inferences therefrom. 19 B.T.A. 518">M.Rea Gano, supra; William C.De Mille Productions, Inc., 30 B.T.A. 826">30 B.T.A. 826 (1934). Petitioner's failure to file any return at all importantly indicates fraud. Albert Gemma, 46 T.C. 821">46 T.C. 821 (1966); Charles F. Bennett, 30 T.C. 114">30 T.C. 114 (1958); 19 B.T.A. 518">M. Rea Gano, supra.1968 Tax Ct. Memo LEXIS 245">264 Petitioner's failure to file cannot be excused as mere inadvertence where, as in this case, petitioner was an intelligent man, the amounts involved are significant, the omissions occurred over a long period of time, and petitioner failed to give a reasonable explanation. See Louis Halle, 7 T.C. 245">7 T.C. 245 (1946), affd. 175 F.2d 500 (C.A. 2, 1949), certiorari denied 338 U.S. 949">338 U.S. 949, 70 S. Ct. 485">70 S. Ct. 485 (1950); Myrtle Berlin [Dec. 26,789], 42 T.C. 355">42 T.C. 355 (1964); Kalil v. Commissioner, 271 F.2d 550 (C.A. 5, 1959), affirming a Memorandum Opinion of this Court; J. K. Vise, 31 T.C. 220">31 T.C. 220 (1958), affd. 278 F.2d 642 (C.A. 6, 1960); Abraham Galant, 26 T.C. 354">26 T.C. 354 (1956); Charles A. Rogers, 38 B.T.A. 16">38 B.T.A. 16 (1938), affd. 111 F.2d 987 (C.A. 6, 1940). In addition, petitioner failed to maintain a proper set of records from which his correct income could have been ascertained. This too is another factor to be considered. Bryan v. Commissioner, 209 F.2d 822 (C.A. 5, 1954), affirming a Memorandum Opinion of this Court, certiorari denied 348 U.S. 912">348 U.S. 912 (1955); cf. 1968 Tax Ct. Memo LEXIS 245">265 Zeddies v. Commissioner, 264 F.2d 120 (C.A. 7, 1959), affirming a Memorandum Opinion of this Court; Baungardner v. Commissioner, 251 F.2d 311 (C.A. 9, 1957), affirming a Memorandum Opinion of this Court; Merritt v. Commissioner, 301 F.2d 484 (C.A. 5, 1962), affirming a Memorandum Opinion of this Court. Petitioner also refused to cooperate with the internal revenue agents. In light of the above, this is another factor which we cannot ignore in determining whether petitioner was guilty of fraud. See Granat's Estate v. Commissioner, 298 F.2d 397 (C.A. 2, 1962), affirming a Memorandum Opinion of this Court; and 31 T.C. 220">J. K. Vise, supra. Evaluating the acts of petitioner in accordance with the standard of evidence required and also taking into consideration petitioner's intelligence, experience, and abilities, we are convinced that petitioner was guilty of fraud with the intent to evade the tax. See E. S. Iley, 19 T.C. 631">19 T.C. 631 (1952); and 30 T.C. 114">Charles F. Bennett, supra. We find respondent's additions to tax under section 293(b) and section 6653(b) to be proper.31968 Tax Ct. Memo LEXIS 245">266 Two issues remain for our determination. First, we must decide whether petitioner's failure to file his income tax returns for the years 1944 through 1953 was due to reasonable cause and not willful neglect so as to make the additions to tax under section 291(a), 4 I.R.C. 1939, improper. 1968 Tax Ct. Memo LEXIS 245">267 With respect to this issue, petitioner has presented no evidence from which we could find respondent's determination to be erroneous. Petitioner relies solely on his argument that he did not have any taxable 280 income during the years in question and therefore the penalties are inappropriate. This is belied by the record. The facts show petitioner's gross income before deductions for all the years in issue exceeded $600 per year. Applying section 51(a), 5 I.R.C. 1939, petitioner was clearly required to file an income tax return for each of these years. The burden rests on the petitioner to prove that his failure to file was not due to his negligence, but to some reasonable cause. He has failed to carry his burden, and we uphold respondent's determination with respect to the additions to tax under section 291(a). Next, we must decide whether petitioner's failure to file a declaration1968 Tax Ct. Memo LEXIS 245">268 of estimated income tax for the years 1944 through 1954, and failure to pay estimated income tax for the year 1955, were due to reasonable causes and not willful neglect as to make the additions to tax under section 294(d)(1)(A), 6 I.R.C. 1939, and section 6654(a), 7 I.R.C. 1954, inapplicable. 1968 Tax Ct. Memo LEXIS 245">269 Again, petitioner has presented no evidence, nor has he even attempted to take issue with respondent's determination on this question. Accordingly, we find for respondent. Decision will be entered under Rule 50. Footnotes1. SEC. 293. ADDITIONS TO THE TAX IN CASE OF DEFICIENCY. * * (b) Fraud. - If any part of any deficiency is due to fraud with intent to evade tax, then 50 per centum of the total amount of the deficiency (in addition to such deficiency) shall be so assessed, collected, and paid, in lieu of the 50 per centum addition to the tax provided in section 3612(d)(2). ↩2. SEC. 6653. FAILURE TO PAY TAX. * * * (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 income taxes and gift taxes, this amount shall be in lieu of any amount determined under subsection (a).↩3. In holding petitioner liable for these additions to tax, we have not relied alone upon the presumption of correctness in favor of respondent's determination of deficiencies in tax.↩4. SEC. 291. FAILURE TO FILE RETURN. (a) In case of any failure to make and file return required by this chapter, within the time prescribed by law or prescribed by the Commissioner in pursuance of law, unless it is shown that such failure is due to reasonable cause and not due to willful neglect, there shall be added to the tax: 5 per centum if the failure is for not more than thirty days with an additional 5 per centum for each additional thirty days or fraction thereof during which such failure continues, not exceeding 25 per centum in the aggregate. The amount so added to any tax shall be collected at the same time and in the same manner and as a part of the tax unless the tax has been paid before the discovery of the neglect, in which case the amount so added shall be collected in the same manner as the tax. The amount added to the tax under this section shall be in lieu of the 25 per centum addition to the tax provided in section 3612 (d)(1). * * ↩5. SEC. 51. INDIVIDUAL RETURNS. (a) Requirement. - Every individual having for the taxable year a gross income of $500 [$600, amended as of 1948] or more shall make a return, which shall contain or be verified by a written declaration that it is made under the penalties of perjury. * ↩6. SEC. 294. ADDITIONS TO THE TAX IN CASE OF NONPAYMENT. * * (d) Estimated Tax. - (1) Failure to File Declaration or Pay Installment of Estimated Tax. - (a) Failure to File Declaration. - In the case of a failure to make and file a declaration of estimated tax within the time prescribed, unless such failure is shown to the satisfaction of the Commissioner to be due to reasonable cause and not to willful neglect, there shall be added to the tax 5 per centum of each installment due but unpaid, and in addition, with respect to each such installment due but unpaid, 1 per centum of the unpaid amount thereof for each month (except the first) or fraction thereof during which such amount remains unpaid. In no event shall the aggregate addition to the tax under this subparagraph with respect to any installment due but unpaid, exceed 10 per centum of the unpaid portion of such installment. * * * ↩7. SEC. 6654. FAILURE BY INDIVIDUAL TO PAY ESTIMATED INCOME TAX. (a) Addition to the Tax. - In the case of any underpayment of estimated tax by an individual, except as provided in subsection (d), there shall be added to the tax under chapter 1 for the taxable year an amount determined at the rate of 6 percent per annum upon the amount of the underpayment (determined under subsection (b)) for the period of the underpayment (determined under subsection (c)). * * *↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621932/	H. V. GREENE CO., PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.H. v. Greene Co. v. CommissionerDocket No. 3127.United States Board of Tax Appeals5 B.T.A. 442; 1926 BTA LEXIS 2857; November 11, 1926, Decided 1926 BTA LEXIS 2857">2857 1. During 1919 petitioner had contracts whereby it was obligated to sell the entire stock issues of other companies at such an amount as would net the issuing company a stated amount per share, the difference between said stated amount and the price at which the stock was sold representing petitioner's commission. This commission was payable out of the first money paid by the subscriber. No stock was issued or delivered until the subscriber had fully paid therefor. Subscribers who did not desire to pay the entire purchase price in cash were permitted to pay 20 per cent in cash and give promissory notes payable monthly for the balance. In such cases the subscription contract provided (1) that should the subscriber become ill or die the installments paid would be refunded to him or his estate and the remaining installments canceled; (2) that should the subscriber become dissatisfied with his purchase before he had completed the payments he could cancel the contract and receive back the amount paid less 7 1/2 per cent for expenses; (3) that upon application of the subscriber a reasonable extension not exceeding 90 days would be granted for the payment of installments; and (4) that1926 BTA LEXIS 2857">2858 if a subscriber failed to pay the installments when due, and such default continued for 30 days, the issuing company might at its option cancel the subscription contract and all rights of the purchaser thereunder. The petitioner sold many shares of stock during 1919, and on December 31 of that year commissions totaling $311,573.75 on the sale of 24,180 shares of stock were eliminated from gross income for the reason that subscribers for those shares were 60 days or more in arrears with one or more of their installment payments, and for the further reason that it might become necessary for petitioner to resell these shares. The petitioner kept its books upon the accrual basis. Held, that the Commissioner properly included the $311,573.75 in gross income for 1919. 2. Petitioner, a stock-selling organization, by proper resolution fixed the compensation of its officers at a stated amount per month and authorized the payment to them of a certain commission upon the sale of stock of other corporations. Held that, in the circumstances, such compensation was reasonable and constituted a proper deduction from gross income. 3. Petitioner and five other corporations were affiliated1926 BTA LEXIS 2857">2859 during the year 1919. W. W. Spalding, Esq., for the petitioner. J. Arthur Adams, Esq., for the respondent. LITTLETON5 B.T.A. 442">442 This proceeding involves income and profits taxes for the calendar year 1919 in the amount of $270,711.60. The petitioner, a stock-selling organization, advances four claims as follows: (1) That it should be permitted to adjust its books at 5 B.T.A. 442">443 the end of the year so as to exclude from gross income commissions totaling $311,573.75 upon the sale of stock of other corporations during the year, upon the ground that under the terms of its underwriting contracts that amount of commissions was unearned. The Commissioner refuses to permit it to do this. (2) That the Commissioner erred in refusing to allow it to deduct, as a part of the compensation for its president and vice president, $241,505.78 representing the total commissions paid to its president and vice president. The Commissioner allowed the petitioner to deduct compensation of $26,000 for its president and $5,777.76 for its vice president. (3) That the Commissioner erred in declining to permit petitioner and five other corporations to file a consolidated1926 BTA LEXIS 2857">2860 return. (4) That petitioner's profits tax should have been determined under the provisions of section 328 of the Revenue Act of 1918. FINDINGS OF FACT. Petitioner was organized on January 5, 1918, to engage in the business of promoting and selling stock of finance corporations, with principal office at Boston, Mass. About 1917, Henry V. Greene perfected plans for the organization of corporations and trusts to carry on a general banking business, to finance automobile sales and to deal in manufacturers' open book accounts, and for the organization of another corporation, the petitioner herein, to sell the stock issues of these corporations. About October, 1917, he organized the Commercial Finance Corporation. On December 28, 1917, Greene, party of the first part, and this corporation, party of the second part, entered into the following agreement: Whereas the said party of the second part is a corporation organized and existing under the laws of the Commonwealth of Massachusetts, with an authorized capital of two million dollars, consisting of one million dollars par value of seven per centum cumulative preferred stock, participating as to dividends and preferred as to assets1926 BTA LEXIS 2857">2861 on liquidation to its par value and accumulated dividends, and one million dollars par value of common stock, each of said classes of stock being divided into twenty thousand shares of the par value of fifty dollars each, and all of which said preferred stock is to be offered for public subscription. And whereas the said party of the first part is engaged in the business of offering for sale to investors and others the securities of corporations. Now, therefore, in consideration of the issuance to the said party of the first part of nineteen thousand nine hundred ninety-six shares of the said common stock of the said party of the second part, the said party of the first part agrees to underwrite said preferred stock at the price of forty-seven dollars and fifty cents per share, one-half the amount of the difference between said underwriting price and the price at which the said stock is sold is to be paid in cash by said party of the second part to said party of the first part upon the receipt of each installment subscription to said stock, the balance to be paid weekly or monthly as paid in by subscriber. 5 B.T.A. 442">444 Where the amount of the cash payment equals or exceeds1926 BTA LEXIS 2857">2862 the amounts due said party of the first part under this agreement, then the entire sum so due shall at once be paid in full by said party of the second part. It is hereby agreed that any and all sums received by the said party of the first part for or on account of subscriptions to said preferred stock shall be promptly paid over to the said party of the second part. It is hereby agreed by the said Henry V. Greene that he will not engage in the marketing or the promotion of any other proposition during the space of six months from the date of this instrument. In witness whereof the day first above written, the said Henry V. Greene does hereto set his hand and seal and the said Commercial Finance Corporation, by its President duly autorized, does hereto set its hand and affix its corporate seal. On January 5, 1918, Greene executed the following assignment of this contract to the petitioner: Know all men by these presents that I, the undersigned, Henry V. Greene, in consideration of the issuance to me to 1,200 shares of the capital stock of the H. V. Greene Company, do hereby sell, transfer, assign to H. V. Greene Company all of my title and interest in and rights under1926 BTA LEXIS 2857">2863 the agreement hereto attached, expressly reserving to myself, however, free from the operations of this assignment, the common stock of Commercial Finance Corporation issued to me in connection with the said agreement. That I hereby authorize and empower the said H. V. Greene Company upon its performance of the conditions and covenants therein mentioned to demand, enforce and receive all relief concerning the same to obtain in the same manner, to all intents and purposes, as I myself could do with these presents not executed. At a meeting of the petitioner's directors on December 10, 1918, the following proceedings were had: The president, H. V. Greene, read to the directors a contract entered into between himself and the Commercial Finance Corporation to underwrite a new issue of 40,000 shares of the preferred stock of that corporation, and, after discussion, upon motion duly made and seconded, it was voted that H. V. Greene Company assume and take over the rights and liabilities ofH. V. Greene under the said underwriting agreement; Whereupon, Mr. Greene executed to the corporation an assignment of said contract. In 1918, Greene organized the Mutual Finance Corporation, 1926 BTA LEXIS 2857">2864 and on September 26, 1918, Greene, as party of the first part, and this corporation, party of the second part, entered into the following contract: Whereas, the party of the second part is a corporation organized and existing under the laws of the Commonwealth of Massachusetts, with an authorized capital stock of one hundred thousand dollars ($100,000), consisting of eighty thousand dollars ($80,000) par value seven per centum (7%) cumulative preferred stock, participating as to dividends and preferred as to assets on liquidation to its par value and accumulative dividends and twenty thousand dollars ($20,000) par value of common stock, each of the said classes of stock being of the par value of $50.00 per share and all of which preferred stock is to be offered for public subscription. 5 B.T.A. 442">445 Whereas, the said party of the first part is engaged in the business of offering for sale to investors and others the securities of corporations. Now, therfore, in consideration of the issuance to the said party of the first part of the three hundred and ninety-seven (397) shares of the said Common Stock of the said party of the second part, said party of the first part agrees to1926 BTA LEXIS 2857">2865 underwrite said preferred stock at a price of fifty dollars ($50.00) per share to be paid in cash or promissory notes to the said party of the second part as and when the said preferred stock shall be sold. In witness whereof on the day first above written, the said Henry V. Greene does hereto set his hand and seal and the said Mutual Finance Corporation, by its President duly authorized, does hereto set its hand and affix its corporate seal. At a meeting of the petitioner's directors on October 10, 1918, the following proceedings were had: The president laid before the directors the contract between himself and the Mutual Finance Corporation to underwrite the preferred stock of said Mutual Finance Corporation, and outlined the desirability of having his interest in said contract taken over and assigned by the company. After discussion, and upon motion duly made and seconded, it was voted to approve the terms of said contract to take over and assign the interest, rights, and liabilities of Henry V. Greene, with the exception of any title and interest in any common stock of the Mutual Finance Corporation issued to Henry V. Greene in connection with the original execution of1926 BTA LEXIS 2857">2866 said contract, and to issue therefor to Henry V. Greene 100 shares of the preferred stock of the H. V. Greene Company upon receipt of a proper assignment as herein stated on said contract, said stock to be so issued at par. On the same day Greene executed an assignment of this contract to the petitioner in the same form as that relating to the assignment of the Commercial Finance Corporation's contract above quoted. On May 19, 1919, Greene, party of the first part, and the Mutual Finance Corporation, party of the second party, entered into the following contract relating to the sale of the second issue of preferred and common stock: (1) Whereas the said party of the first part is engaged in the business of offering for sale the securities of corporations and has acquired several thousand clients who are satisified with the investments they have already made and therefore offer a field for quick distribution of large stock issues: and (2) Whereas the said party of the second part is a corporation organized under the laws of the Commonwealth of Massachusetts with an original capitalization of $100,000.00 all of which has been subscribed: and (3) Whereas the said capitalization1926 BTA LEXIS 2857">2867 being insufficient to do business on lines importing a great success, the said party of the second part has voted to increase its capitalization by 60,000 shares of 8% Preferred and 40,000 shares Common Stock, both of the par value of $50.00: and (4) Whereas the said party of the second part has no facilities for the placing of its preferred stock in such a manner as to benefit the corporation: 5 B.T.A. 442">446 (5) Now THEREFORE, in consideration of these presents and in further consideration of the issuance to the said party of the first part of 40,000 shares of the common stock of the said party of the second part, the said party of the first part, for himself or his assigns, hereby agrees as follows: (a) That he will sell or cause to be sold the entire issue of the preferred stock (60,000 shares) of the said party of the second part at such price as will net the corporation a sum not less than $51.25 for each share thereof; (b) That he will give as a bonus to each and every purchaser of the said preferred stock, a trust certificate for one share of common for every two shares of preferred stock so purchased; (c) That he will give to all holders of the original issue of preferred1926 BTA LEXIS 2857">2868 stock, as hereinbefore set forth, a trust certificate for a full share of common stock for each two shares of preferred stock of said original issue, so held; (d) That whenever any of the said preferred stock shall be sold for cash, the said sum of $51.25 shall forthwith be remitted to the said party of the second part, for each and every share so sold; (e) That whenever any of the said preferred stock shall be sold other than for cash, where the amount of the cash payment on account exceeds the amount of the difference between the above mentioned net price and the price at which said stock shall be sold, then the said party of the second part is to remit forthwith to the party of the first part the total amount of his commission due thereunder. (f) That whenever any of the said preferred stock shall be sold other than for cash, where the amount of the cash payment on account is less than the total amount of commission due the said party of the first part, for said sale, then the said party of the second part shall remit forthwith to the party of the first part an amount which shall equal 5/6 of the commission due to the said party of the first part hereunder and shall remit1926 BTA LEXIS 2857">2869 the remaining 1/6 out of the next payment made by the client under said sale. (6) It is hereby understood and agreed by both the parties hereto that all the terms and conditions of this sales contract appear in the within agreement. This contract was duly assigned by Greene to the petitioner. At a directors' meeting held June 10, 1919, the following resolution was adopted: Upon motion duly made and seconded, it was voted that the commissions secured from the sales of Mutual Finance Corporation's stock under a contract of the H. V. Greene Company with said Mutual Finance Corporation, be divided as follows: Salesmen 10 per cent, managers 5 per cent, superintendents 1 1/2 per cent, general manager 1 1/2 per cent, president, H. V. Greene, 10 per cent, H. V. Greene Company the remainder. All of the foregoing per cents being based on the par value of the stock. Mr. Greene called the attention of the Board to his desire to have the amount of his compensation spread upon the minutes of the company that they may be recorded in due form. On motion duly made and seconded, it was provided that the salary of H. V. Greene shall be, until otherwise voted, $500 per week, together1926 BTA LEXIS 2857">2870 with any bonus or commissions that may be voted him from time to time. At a meeting on December 26, 1919, the petitioner's directors adopted the following resolution: On motion by Mr. Campbell, duly seconded, it was voted that the corporation pay to Henry V. Greene as additional bonus for his service in connection with 5 B.T.A. 442">447 the sale of Mutual Finance Corporation stock the sum of $1.75 for each share of preferred stock of said corporation so sold. The First People's Trust was organized on October 28, 1919, and on October 30, 1919, J. Henry Neal et al., trustees, as parties of the first part, and Henry V. Greene, as party of the second part, entered into the following contract: THAT WHEREAS, in accordance with the plan of organization referred to in said Declaration of Trust, said Trust proposes to sell One Hundred Ninety Thousand (190,000) first preferred shares, One Hundred Ninety Thousand (190,000) second preferred, and One Hundred Ninety Thousand (190,000) common shares of said First People's Trust through the agency of said Greene. NOW THEREFORE, in consideration of the premises and the mutual promises herein contained, it is agreed by and between the parties1926 BTA LEXIS 2857">2871 hereto as follows: 1. Said Trust covenants and agrees to issue or transfer, or cause to be issued or transferred, to said Greene Ten Thousand (10,000) common shares of said Trust in consideration of the undertaking on the part of said Greene hereinafter set forth. 2. Said Greene undertakes to sell One Hundred Ninety Thousand (190,000) shares first preferred, One Hundred Ninety Thousand (190,000) shares second preferred, and One Hundred Ninety Thousand (190,000) common shares of said First People's Trust in blocks consisting of two first preferred shares, two second preferred shares and two common shares in each block at a price to net the Trust Two Hundred Dollars ( $200) for each block of shares as aforesaid. 3. Said Greene shall have the right to fix the price in excess of Two Hundred Dollars ( $200) at which each block of shares aforesaid shall be sold, and said Trust agrees to pay to said Greene as commission the excess above Two Hundred Dollars ( $200) received for each block of shares sold as aforesaid, the evidence of such sale to be a subscription agreement validly executed by the purchaser thereunder. Said Greene shall receive no other commission or any compensation1926 BTA LEXIS 2857">2872 from said Trust for expenses or otherwise except as provided herein. 4. Said shares are to be sold in accordance with the terms of subscription agreement, copy of which is hereto attached, and all payments under said subscription agreement are to be made to the First People's Trust. The commission to which the said Greene is entitled under this contract shall be paid to said Greene or his order from the first payment made by the purchaser under said subscription agreement, and shall not be payable until said first payment is made, it being understood that said first payment shall be at least sufficient to pay said commission. 5. Until this contract is revoked in writing by the parties hereto, said Greene shall have the sole and exclusive agency for the sale of said shares of the First People's Trust as hereinbefore set forth. Soon after the execution of the above contract it was assigned to the petitioner by Greene, whereupon the directors voted to pay Greene a commission of $1.25 a share on the stock of this corporation. During 1918 and 1919 petitioner marketed the stock of the aforementioned corporations. The system of selling stock devised for the petitioner by Greene, 1926 BTA LEXIS 2857">2873 its president, contemplated the wide distribution of the stock to the public through an extensive organization of salesmen, district managers, general sales managers, and executive 5 B.T.A. 442">448 officers. Branch offices were opened in the more important cities of the United States. Training schools for salesmen were established at which the more recently employed stock salesmen were instructed and the experienced salesmen enthused over the work at hand. Sixty branch offices were established and 1,800 salesmen were employed. The stock of the three corporations sold in 1918 and 1919 amounted to several millions of dollars. No stock was issued or delivered to any subscriber until he had fully paid for the shares for which he had subscribed. Subscribers were given the option of paying for the stock in full at the time of the signing of the contract, by which they agreed to purchase so many shares at a specified amount, or of paying 20 per cent in cash and the remainder in monthly installments. Non-interest-bearing promissory notes were given for the unpaid installments. All installment contracts between the issuing company and the purchaser of the stock provided, first, that if1926 BTA LEXIS 2857">2874 the purchaser should fail to make any of the installment payments when due and such default should continue for 30 days, the issuing company might at its option cancel the subscription contract; second, that upon written request of the purchaser within one week from the date of such default the issuing company would grant a reasonable extension on installments in arrears, not exceeding three months; third, in case of the death of the purchaser before the amount subscribed had been fully paid, the issuing company would pay to the purchaser's estate the full amount paid in; fourth, should the purchaser become dissatisfied with his contract before the installments had been fully paid, all amounts paid in by him, less 7 1/2 per cent for expenses, would be refunded. All cash, subscription contracts, and notes received by salesmen were transmitted direct to the company the stock of which had been sold, and daily reports were made by branch managers to the petitioner of the sales made during the preceding day. The issuing companies maintained upon their books an account in the name of each person who had signed a contract to purchase stock showing payments, etc. The petitioner did not1926 BTA LEXIS 2857">2875 maintain such accounts upon its books. Upon receipt by the petitioner of the daily reports of sales made, it forthwith, upon its books, charged the company the stock of which had been sold with the total commission upon the stock sold and credited the commission account. The companies whose stock was being sold made remittances to the petitioner of the commissions to which it was entitled under the contracts out of the first money received from the purchaser of the stock. The number of shares sold by the petitioner during the year 1919, after eliminating subscription contracts which had been definitely canceled, and the commissions of H. V. Greene thereon, were as follows: Net shares sold.Rate.Amount of commission.Commercial Finance Corporation35,627$.50$17,813.50Mutual Finance Corporation62,0112.75170,530.25First People's Trust37,4361.2546,795.00Total135,074235,138.755 B.T.A. 442">449 At the end of 1919 certain purchasers of stock were in arrears with their installment payments. The petitioner examined the books of the companies the stock of which it was selling, carefully scrutinizing each contract and the account of1926 BTA LEXIS 2857">2876 each purchaser of stock, and made a list of the number of shares of stock which had been sold as to which the purchasers were 60 days or more in arrears with one or more of their installment payments. This examination showed that purchasers of 11,910 shares of the stock of the Commercial Finance Corporation and of 12,270 shares of stock of the Mutual Finance Corporation were 60 days or more in arrears with one or more installment payments. The petitioner's commissions upon these shares amounted to $311,573.75. Whether all or any portion of the petitioner's commissions upon these shares had been paid to it is not shown. Neither the purchaser of any of these shares nor the issuing company had evidenced a desire to cancel any of the contracts. On December 31, 1919, petitioner debited its commission account with $311,573.75 and credited the Commercial Finance Corporation with the amount of the commission upon 11,910 shares and the Mutual Finance Corporation with the commission on 12,270 shares, the two credits totaling $311,573.75. The explanation of the entry made upon the journal at the time was as follows: To credit the Commercial Finance Corporation and the Mutual Finance1926 BTA LEXIS 2857">2877 Corporation for the commissions on sales of stock. All of the sales, on which the above commissions were computed, were made to subscribers who were at least 60 days in arrears on their payments on December 31, 1919. These contracts are known to be worthless and the stock will have to be resold. No adjustment was made of commissions on stocks sold as to which the purchaser was delinquent in his installment payments for less than 60 days. On September 30, 1920, petitioner desired to show a large book net worth and, without making any further examination of the delinquent accounts, debited the Commercial Finance Corporation and the Mutual Finance Corporation with the amounts previously credited to them and credited the commission account with $311,573.75, thereby reversing the entry of December 31, 1919. Greene was primarily responsible for the petitioner's activities. He formulated all of its plans of operations and supervised and directed 5 B.T.A. 442">450 the carrying out of those plans. Every employee worked under his supervision. He labored long hours each day and was constantly planning for the success of the company and urging others to greater efforts. He edited and1926 BTA LEXIS 2857">2878 published a "House Organ," having for its purpose the success of the company through greater effort and better salesmanship on the part of employees and salesmen. Petitioner's entire income consisted of commissions on stock sold, and for the year 1919 was in excess of $2,000,000. After deducting all expenses, including commissions paid to salesmen of $103,655.77, to branch managers of $349,361.50, to sales directors of $113,183.50, and to district superintendents of $120,293, and after eliminating from gross income the alleged unearned commissions totaling $311,573.75, and, also, after deducting $229,691.03 commissions paid or credited to Greene and A. D. Howard, petitioner's return for 1919 showed a net income of $84,441.31, or 138 per cent return on invested capital of $61,170.16. The petitioner kept its books and rendered its returns upon the accrual basis. The total compensation paid to H. V. Greene, president and treasurer, for 1919 amounted to $249,324.04, consisting of a fixed salary of $26,000 and commissions upon stock sold of $223,524. A. D. Howard was a director and vice president and devoted his entire time to petitioner's business. With the exception of one qualifying1926 BTA LEXIS 2857">2879 share, he owned no stock of the petitioner. His total compensation for the year 1919 amounted to $12,144.79, consisting of a fixed salary of $5,777.76 and commissions on stock sold of $6,367.03. The Commissioner allowed the deduction of Howard's fixed compensation but disallowed the commissions paid to him. Commissions were paid upon stock sold during the year 1919, as follows: Salesmen, 10 per cent; branch managers, 5 per cent; district superintendents, 2 1/2 per cent; sales directors, 1 1/2 per cent. The petitioner filed a consolidated return with L. W. Westcott, Inc., hereinafter designated the Westcott Company; Backus Heater & Foundry Co., hereinafter designated the Backus Company; California Carbon Co., hereinafter designated the Carbon Company; Southern Labrador Pulp & Lumber Co., hereinafter designated the Lumber Company; and the College of the Spoken Word, hereinafter designated the College Company. The petitioner claimed that its stock and the stock of the corporations named above was owned or controlled during 1919 by the same interests, namely, H. V. Greene, president of the petitioner. The Commissioner denied the right to affiliation. The preferred stock of the1926 BTA LEXIS 2857">2880 corporations had no voting rights. At the beginning of 1919, H. V. Greene owned 99.98 per cent of the stock of the Westcott Company and 99.2 per cent of the stock of the Backus Company. 5 B.T.A. 442">451 In the Carbon Company he owned 7,497 shares, or more than 99 per cent of the outstanding stock. In 1919 there were issued to H. V. Greene 37,497 additional shares of stock of the Carbon Company. The College Company was organized June 7, 1919, and throughout the remainder of that year H. V. Greene owned 99.8 per cent of its stock. The Lumber Company was organized September 8, 1919, and throughout the remainder of that year H. V. Greene owned 99.8 per cent of its stock. H. V. Greene owned 70.5 per cent of the petitioner's stock; the minority interest was owned as follows: Alice Fowler, 100 shares; Mary Warren, 100 shares; Marjorie Mayo, 100 shares; N. R. Black, 50 shares; Lillian Coleman, 85 shares; A. D. Howard, 1 share; E. C. Campbell, 101 shares; H. B. Robinson, 100 shares, and W. C. Burns, 100 shares. The stockholders at the end of 1919 were as follows: In the Westcott Company there was no change during the year. In the Backus Company - H. V. Greene, 51 per cent; 1926 BTA LEXIS 2857">2881 F. Liston Collins, 5 per cent; F. E. Backus, 37.5 per cent; and A. L. West, 6.3 per cent. Collins and West were employees of the petitioner. The certificates of stock in the Backus Company were written up and reserved for them but the title thereto did not pass from the company. The future ownership of this stock was offered as an inducement to them to make a market for the product of the Backus Company. In this they were unsuccessful and the stock was never issued or delivered to them. The same was true in respect of the stock reserved for but not issued to Backus. All of the outstanding stock of the Backus Company during 1919 was therefore owned by H. V. Greene. In the Carbon Company, the College Company, and the Lumber Company, the stock was owned at the end of the year by H. V. Greene in the same proportion as at the beginning of the year. The stockholdings in the petitioner company were substantially the same at the end as at the beginning of the year. There were certain changes which will be referred to hereafter. Pursuant to a provision in its charter, the stock certificates of the petitioner contained the following indorsement: No stock of this corporation shall1926 BTA LEXIS 2857">2882 be transferred upon the books of the corporation unless it shall appear that prior to the sale thereof by the stockholder, such stock was in writing offered for sale to the corporation at par. If it shall appear that said stock was so offered for sale to the corporation, and offer was not accepted within fifteen days from the date of offer, then said stock may be otherwise sold and transferred. Early in 1918, H. V. Greene, having optimistic ideas and definite plans for selling the stock of the finance corporations but no capital for this purpose, approached H. B. Robinson, an investor, with the 5 B.T.A. 442">452 proposal that Robinson lend him $1,000 for which he, Greene, would issue to Robinson stock of the petitioner having a par value of $1,000; that upon Robinson's demand Greene would repay to him the amount so advanced; that Greene should have the right to reply the loan at any time and to reclaim the stock, and that Robinson's profit on the transaction would be the dividends on the stock, which it was contemplated would be large during the period the stock stood in his name. This proposal was accepted by Robinson. He also made the same arrangement with Greene for one of his, 1926 BTA LEXIS 2857">2883 Robinson's employees and his nieces, Mary R. Warren, Marjorie R. Mayo, Nellie R. Black, and Alice M. Fowler. The same arrangement was made by Greene with E. C. Campbell and Walter Burns. It was the purpose of Greene to issue no stock of the petitioner which could not be repurchased by him at any time he might wish to do so. The arrangement concerning the repurchase of the stock of the individuals named was carried out in December, 1919, except as to the stock of Nellie R. Black and H. B. Robinson. At the close of 1919, Greene owned all of the stock of the petitioner, except 50 shares standing in the name of Nellie R. Black, 100 shares in the name of H. B. Robinson, 1 share in the name of A. D. Howard, and 3 shares in the name of F. Liston Collins. The total outstanding stock of the petitioner was 2,500 shares. At all meetings of stockholders in 1919, H. V. Greene, with the exception of qualifying shares in the names of the other directors, voted all of the stock of the petitioner pursuant to proxies given him by the minority stockholders. The voting of the stock and the entire management of the company was left in his hands by the stockholders and the board of directors. 1926 BTA LEXIS 2857">2884 As to the other companies, all of them except the Carbon Company had their offices in the offices of petitioner, where their books of account were kept by petitioner's employees at its own expense. The meetings of their stockholders were held in petitioner's offices. The several companies mentioned were financed by the petitioner and H. V. Greene individually. The officers and directors of petitioner and of the other companies were interlocking. The activities of all were directed by the officers of the petitioner. In 1919 the following profits or losses were earned or suffered by the companies claimed to have been affiliated with the petitioner: Loss.Profit.Backus Heater & Foundry Co$25,736.27California Carbon Co8,891.74L. W. Westcott, Inc$398.84Southern Labrador Pulp & Lumber Co3,262.31College of the Spoken Word1,302.235 B.T.A. 442">453 OPINION. LITTLETON: The position of the petitioner is that the commissions to which it was entitled under its contracts with the companies the stock of which was being sold, were not earned until all installment payments had been completed by the purchaser, and that the method adopted by it of1926 BTA LEXIS 2857">2885 eliminating from gross income all commissions on stock sold, as to which the purchaser was 60 days or more in arrears with one or more of his installment payments, was correct. It is argued that under the terms of the underwriting contracts petitioner was not entitled to claim as its own any commission until full and complete payment for the stock which it had sold had been made. It appears that under the underwriting contracts petitioner's commission was payable out of the first payments made by the subscriber. It is insisted, however, that notwithstanding the fact that when the payments made at the time of the subscription contract, or prior to the end of the year, equaled or exceeded the amount of the petitioner's commission, and that it had the right to charge the issuing company with the commission, the petitioner was still "under duty to see to it that the subscriber completed his payments and that the stock was actually sold, because petitioner had received compensation for making that particular sale and until the stock was paid for there was no completed sale - no stock was issued or delivered. Moreover, petitioner had by written contract agreed to underwrite the entire1926 BTA LEXIS 2857">2886 issue - to place the entire issue at a stipulated amount - and where a subscriber became delinquent, or he did not comply with his contract, there was only one thing for petitioner to do, and that was to resell the stock." By reason of this situation it is claimed that the method adopted by the petitioner of determining its income by eliminating therefrom commissions on shares sold, but as to which the purchaser was 60 days or more in arrears with his payments, should be approved. The method adopted by the petitioner in respect to unearned commissions is not essentially different from the setting up of a reserve for future contingencies, which is unauthorized in cases of this kind by the Revenue Act of 1918. ; ; ; ; ; ; 1926 BTA LEXIS 2857">2887 ; . It is not claimed by the petitioner that an amount equal to or in excess of its commissions had not been paid by the subscriber. Neither the company the stock of which had been sold nor the 5 B.T.A. 442">454 subscriber had indicated any intention of canceling the subscription contract, and the evidence does not warrant the conclusion that either was likely to do so. The petitioner excluded from income commissions on shares in respect of which the subscription contract had been canceled and which shares had not been resold, and the Commissioner does not question this. The Board is of the opinion that the commissions, totaling $311,573.75, constituted income within the meaning of the statute, and the action of the Commissioner in increasing the income in that amount is approved. The next question relates to the disallowance by the Commissioner of $229,691.03, claimed as a deduction as part of the compensation paid to Greene and A. D. Howard in the form of commissions on stock sold during the year. Two hundred and twenty-three thousand three hundred and twenty-four1926 BTA LEXIS 2857">2888 dollars of the amount represented commissions paid to Greene in addition to his fixed compensation of $26,000, and $6,367.03 represented commissions paid to Howard in addition to his fixed compensation. The amount of commissions due Greene on the total net shares sold during 1919 was $235,138.75, which brings into issue the propriety of a deduction of $241,505.78 as a part of the compensation of these two officers. The compensation of the officers was duly and regularly fixed by resolutions of the directors and was duly paid or credited to them. Two hundred thousand dollars or more of Greene's compensation was paid to him and he reported the same in his tax return. Howard's total compensation was paid to him. The compensation of officers was authorized without consideration of their stock ownership. It was predicated entirely upon the value placed by the directors upon the services rendered and to be rendered during the year. Howard was vice president and a director and owned only one qualifying share of stock. He devoted his entire time and energy to the conduct of the petitioner's business and, as an aid to Greene, he was instrumental in the success of the company. F. 1926 BTA LEXIS 2857">2889 Liston Collins, who owned only three shares of stock, was a sales director and was paid commissions amounting to $113,183.50. This amount was deducted by the petitioner and allowed by the Commissioner without question. Compensation in the form of commissions paid to salesmen, sales directors, branch managers, and district superintendents, only one or two of whom owned a small amount of petitioner's stock, appears to equal, in comparison with the value of the services rendered to the petitioner, the compensation paid to Greene. No question is raised as to the deduction claimed for compensation paid to any one other than Greene and Howard. Greene organized the three finance corporations and procured the contracts for the sale of their stock to which petitioner's income was 5 B.T.A. 442">455 entirely attributable. He formulated and was largely responsible for the success and plans adopted by the petitioner. He devoted all of his energies to the business for the greater portion of time long after the usual working hours. The policies of the company represented merely the embodiment of his ideas. The responsibility of solving its problems as they arose devolved upon him. The reason1926 BTA LEXIS 2857">2890 given by the Commissioner for the disallowance of the deduction of commissions paid to Greene and Howard in the notice of the deficiency mailed to the petitioner was as follows: Commissions paid to officers are tentatively disallowed in the absence of copy of agreement, or other evidence showing authorization, how computed, etc. However, due consideration will be given to any information you may desire to submit tending to prove the correctness of the deduction, provided same is submitted within the time limit prescribed by Section 274 of the Revenue Act of 1924. At the hearing, and after the petitioner had proved the authorization of the salaries and the character of services rendered, the Commissioner insited that the compensation paid to Greene and Howard was unreasonable and represented a distribution of profits. In support of this claim the Commissioner pointed to the fact that Greene's income from other activities in years prior to 1918 was small in comparison with the amount paid him by the petitioner in 1919. We do not consider this as proof that Greene's services to the petitioner during the taxable year were not worth what it paid him. Although the compensation paid1926 BTA LEXIS 2857">2891 was large, we find no sufficient evidence to justify the conclusion that the amount paid, or any portion thereof, represented a distribution of profits in the guise of compensation. In view of the evidence the Board can not, in justice, say that the value which the corporation placed upon Greene's services was unreasonable. No reason was advanced as to why the compensation paid Howard was considered unreasonable. We think it was not. The Board is of the opinion that the compensation of $235,138.75 paid to Greene and $6,367.03 paid to Howard should be allowed as deductions from gross income. We are of the opinion from the evidence that H. V. Greene owned and controlled substantially all of the stock of the petitioner and the other corporations mentioned. The minority stock in the petitioner corporation was held by persons who had received it under a contract providing that Greene might repurchase it at any time; they took no interest in the affairs of the corporation; he always voted the minority stock. The minority stock was at all times under the control of H. V. Greene. Had there been the slightest indication of opposition by the minority stockholders, it would only have1926 BTA LEXIS 2857">2892 been necessary for Greene to repay the loan, which he was at all times able to do, and take over the stock. In these circumstances, we are of 5 B.T.A. 442">*456 the opinion that he controlled the outstanding minority stock of the petitioner. Greene owned more than 99 per cent of the outstanding stock of the other corporations and they were therefore affilated with the petitioner. The statutory invested capital of the petitioner for 1919 was $61,170.16. It is claimed that its profits tax should be computed under the provisions of section 328 of the Revenue Act of 1918. However, in view of our decision that the net income and invested capital of the petitioner and the other corporations mentioned should be computed upon the basis of a consolidation return, it is unnecessary to pass upon this question. Judgment will be entered on 15 days' notice, Rule 50.MILLIKEN and STERNHAGEN concur in the result only.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621933/	James L. Meldon v. Commissioner. Theo. J. Ely Manufacturing Company, James L. Meldon, Receiver v. Commissioner.Meldon v. CommissionerDocket Nos. 30426, 30433.United States Tax Court1953 Tax Ct. Memo LEXIS 73; 12 T.C.M. 1236; T.C.M. (RIA) 53353; October 30, 1953Enoch C. Filer, Esq., 1005 Arial Building, Erie, Pa., for the petitioners. Fortescue W. Hopkins, Esq., for the respondent. LEMIRE Memorandum Findings of Fact and Opinion These consolidated proceedings involve deficiencies and penalties as follows: Docket No. 304335%NegligenceYearDeficiencypenaltyIncome tax1942$4,415.98$220.80Declared value ex-cess profits tax19422,686.22134.31Docket No. 30426Income tax194327,610.30 By amended answer the respondent requested the imposition of a 50 per cent addition1953 Tax Ct. Memo LEXIS 73">74 to the tax for fraud under section 293(b) of the Internal Revenue Code, in the amount of $13,805.15. By a second amended answer filed subsequent to the hearing the respondent requests that the deficiency be increased to the amount of $49,846.08 and a 50 per cent addition to the tax for fraud in the amount of $24,966.12. In Docket No. 30433, Theo. J. Ely Manufacturing Company, James L. Meldon, Receiver, petitioner, a preliminary question presented is whether the Court lacks jurisdiction of this proceeding on the ground that the petition was filed after the appointment of a receiver for the taxpayer. In Docket No. 30426, James L. Meldon, petitioner, the issues are: (1) what amount is includible in the petitioner's gross income for the taxable year 1943, by reason of distributions made to him out of the proceeds from the sale of assets of the Theo. J. Ely Manufacturing Company; and (2) whether the deficiency in income tax owing by James L. Meldon, for the taxable year 1943, is due in whole or in part to fraud with intent to evade tax, thereby subjecting him to a 50 per cent addition to the tax. The stipulated facts are found accordingly. Since the jurisdictional1953 Tax Ct. Memo LEXIS 73">75 issue relates only to the proceedings in which Theo. J. Ely Manufacturing Company, James L. Meldon, Receiver, hereinafter referred to as Ely Company, is petitioner, the facts and opinion in each proceeding will be treated separately. Docket No. 30433 Findings of Fact The Ely Company is a Pennsylvania corporation organized in 1908. On September 12, 1934, the Court of Common Pleas of Erie County, Pennsylvania, appointed James L. Meldon a permanent receiver with authority to operate the business of the corporation. Meldon duly qualified as receiver and continued to operate the business, and at the time of the hearing of this proceeding he had not been discharged as such receiver. Meldon, as receiver, filed income tax returns for Ely Company for the years 1934 to 1943, inclusive. The return for the taxable year 1942, involved herein, was filed with the collector of internal revenue for the twenty-third district of Pennsylvania. A deficiency was determined against Ely Company and a notice of deficiency was sent to "Theo. J. Ely Manufacturing Company, James L. Meldon, Receiver," on June 15, 1950. On September 11, 1950, a petition was filed by the receiver for a redetermination1953 Tax Ct. Memo LEXIS 73">76 of the deficiency. At the commencement of the hearing of these proceedings on May 12, 1952, Ely Company, by its receiver, filed a motion to dismiss its petition for review on the ground that the Court lacked jurisdiction. Decision on the motion was reserved. Opinion LEMIRE, Judge: Section 274(a) of the Internal Revenue Code provides, in part, that no petition shall be filed with this Court after the adjudication of bankruptcy or the appointment of a receiver. Where it appears that the petition is filed subsequent to the appointment of a receiver, it has been repeatedly held that we have no jurisdiction. Louis H. Pink, Supt. of Insurance of New York, 38 B.T.A. 182">38 B.T.A. 182; Molly-'es Doll-outfitters, Inc., 38 B.T.A. 1">38 B.T.A. 1; Banco Di Napoli Agency in New York, 1 T.C. 8">1 T.C. 8. The respondent argues that the cited cases do not control the case at bar because they involve deficiencies determined prior to the appointment of a receiver, while, in the instant case, the receiver was carrying on the business of the corporation. To so hold would, in our opinion, override the plain mandate of the statute. The respondent further argues that the1953 Tax Ct. Memo LEXIS 73">77 receiver having filed his petition invoking the jurisdiction of the Court should not be permitted to deny its jurisdiction. It is elemental that where the jurisdiction of the Court is limited by statute the parties cannot confer jurisdiction by consent or otherwise. Alfred C. Ruby, 2 B.T.A. 377">2 B.T.A. 377; Mohawk Glove Corp., 2 B.T.A. 1247">2 B.T.A. 1247; Accessories Manufacturing Co., 12 B.T.A. 467">12 B.T.A. 467. We, therefore, hold that this Court is without jurisdiction of this proceeding. Docket No. 30426 Findings of Fact The petitioner, James L. Meldon, is an individual residing in Erie, Pennsylvania. His income tax return for the taxable year 1943 was filed with the collector of internal revenue for the twenty-third district of Pennsylvania on a cash basis. During the years 1918 to 1924, Meldon was employed as an internal revenue agent and eventually rose to the position of assistant internal revenue agent in charge at Pittsburgh, Pennsylvania. After severing his connection with the Bureau he built up a successful accounting practice. He filed many income tax returns for individual and corporate taxpayers and represented taxpayers before the administrative officers1953 Tax Ct. Memo LEXIS 73">78 of the Bureau. On September 12, 1934, Meldon was appointed by the Court of Common Pleas of Erie County, Pennsylvania, as permanent receiver of Theo. J. Ely Manufacturing Company, with principal offices in Girard, Pennsylvania. As receiver, he was authorized by the court to continue the operation of the business of the corporation then engaged in the manufacture of wood and metal products. Meldon filed a bond and duly qualified as receiver and has not been discharged. At the time of the appointment of a receiver the issued and outstanding shares of the capital stock of Ely Company consisted of 290 shares, of which J. A. Ellis owned 240 shares and Ida R. Ellis owned 50 shares. Of the shares owned by J. A. Ellis, 50 were held by the Girard National Bank as collateral security for his personal note of $5,000. At the time of Meldon's appointment as receiver the accounts payable of Ely Company were as follows: To J. A. Ellis$3,752.44To trade5,842.97To others372.61$9,968.02The mortgages payable were as follows: To Girard Development Company1st mortgage$ 3,000.00To Girard National Bank2nd mortgage16,372.91To Mary A. Woodman3rd mortgage6,000.00$25,372.911953 Tax Ct. Memo LEXIS 73">79 On October 11, 1934, Meldon entered into a written agreement with J. A. Ellis and Ida R. Ellis to the effect that he would receive 50 per cent of their stockholdings if the operations of Ely Company were successful and the Company was returned to the stockholders. On May 30, 1938, J. A. Ellis died testate. The named executrix, Mary A. Woodman, declined to qualify and W. B. Hicks was appointed administrator. W. B. Hicks became deceased, and on May 11, 1939, C. M. Drury qualified as administrator. At that time Drury was attorney-in-fact for the Girard Development Company and one of the liquidating trustees of the Girard National Bank. Early in 1939 Meldon purchased from Drury the first mortgage for the face amount of $3,000, plus accrued interest $406of, and the second mortgage in the amount of $16,372.91 for the sum of $12,090. The assignments of the first and second mortgages were not recorded in the mortgage book of Erie County, Pennsylvania. During 1939 Meldon was reimbursed by Ely Company in the amount of $3,406, the amount he paid for the assignment of the first mortgage. During the year 1939 Meldon paid the sum of $630.02 to acquire the accounts payable to general creditors1953 Tax Ct. Memo LEXIS 73">80 owing at the time of his appointment as receiver. On or about September 12, 1939, Meldon filed a verified petition in the Court of Common Pleas of Erie County, Pennsylvania, in a proceeding entitled, "In the Matter of the Receivership of Theodore J. Ely Manufacturing Company," reading as follows: "TO THE HONORABLE THE JUDGES OF SAID COURT: "The petition of James L. Meldon, receiver of the Theodore J. Ely Manufacturing Company would respectfully represent: "1. That he is the duly appointed, qualified and action receiver of the above company under an order of the Court of Common Pleas of Erie County, Pennsylvania. "2. That at the time of his appointment the amount of his bond was fixed in the amount of $10,000.00 upon which a premium of $50.00 annually has to be paid. "3. Petitioner avers common debts of said company and that said receivership is ready to be returned to the stockholders of said company but there are only two stockholders to-wit, Jay Ellis who died a year ago and the other stockholder to-wit, Mrs. I. R. Ellis has not been located. "4. That there is no necessity for a bond of $10,000.00 and no necessity of a bond in excess of $1000.00. "WHEREFORE, your1953 Tax Ct. Memo LEXIS 73">81 petitioner respectfully prays your Honorable Court to reduce the amount of his bond as receiver to $1000.00." On October 12, 1939, the court made an order granting the prayer of petitioner and fixed the bond in the sum of $1,000. Prior to 1940 C. E. Carter, doing business as C. E. Carter Company, was engaged in the manufacture of toys in a part of the property of Ely Company under a lease agreement with the receiver. The Carter Company assets consisted of machinery, dies, equipment, and inventory located on the property of Ely Company and finished manufactured articles stored in a warehouse in Girard. During the period July 19, 1940, and December 13, 1940, Meldon individually advanced to the Carter Company for pay roll costs the amount of $15,681.02. In June 1941 C. E. Carter turned over all of the machinery, equipment, and inventory of the C. E. Carter Company to Meldon in cancellation of his indebtedness. The Harrington Machine Tool Company, located in North Girard, Pennsylvania, manufactured bolts which were used in the products manufactured by Ely Company. The owner of the HarringtonCompany died and Meldon acquired, on February 20, 1941, all of the business and assets of1953 Tax Ct. Memo LEXIS 73">82 the company for the sum of $2,815. The assets were thereupon transferred to the plant of Ely Company. On March 28, 1942, Meldon entered into a contract with Carl Bernie Oas, reading as follows: "This agreement, made and concluded this 28th day of March, 1942, between James L. Meldon, of Erie, Pennsylvania, owner and receiver of the Theodore J. Ely Manufacturing Company, of Girard, Pa., and Carle Bernie Oas, of Silverton, Oregon, witnesseth: "That James L. Meldon, hereinafter referred to as the party of the first part, having offered for sale to Carl Bernie Oas, hereinafter called the party of the second part, all of the assets and business of the said Theodore J. Ely Manufacturing Co., including the business and assets carried on by said first party under the name of Harrington Machine Tool Company, and the business and assets of the Erie City Manufacturing Company, insofar as the business and assets relates to the so-called 'Mop Account' of the said Erie City Manufacturing Co., acquired by said first party from the present Erie City Manufacturing Co., a Pennsylvania corporation, whose registered address and plant is Erie, Pennsylvania, part of which contract from the Erie City1953 Tax Ct. Memo LEXIS 73">83 Manufacturing Co. reads: '12. It is agreed that the Erie City Manufacturing Co. shall not hereafter engage in the manufacture and sale of products which are now being manufactured by the Theodore J. Ely Mfg. Co. of Girard, Pennsylvania, unless the said Company authorizes the Erie City Manufacturing Co. to do so in writing.' also the business and assets of the former C. E. Carter Co., now owned and carried on under the name of the said Theodore J. Ely Mfg. Co. The agreed price is Twenty-five Thousand ($25,000.00) Dollars, plus the value of the Cash on Hand and on Deposit, Notes and Accounts Receivable, Merchandise and Other Inventories of Supplies on hand on April 30th, 1942. The total purchase price will be the value of the above and is to include all assets on the property on April 30th 1942, and the purchase price to include a clear title to all the assets which is free and clear of all indebtedness or liabilities. "1. It is agreed that the sale is to be as of May 1, 1942. "2. It is agreed that the payment for the above described property will begin May, 1942, and is to be fully paid for on or before May 1, 1952. "3. It is agreed that the payment is to be made in installments1953 Tax Ct. Memo LEXIS 73">84 of Two Hundred ($200.00) Dollars per week, beginning May 1, 1942 until payments total the amount of the selling price to be determined as of April 30, 1942, plus interest of Five (5%) percent per annum on the remaining unpaid purchase price. "4. It is agreed that the party of the first part will cooperate in the financing of the business of the Ely Mfg. Co., to an extent that on a sound and efficient basis and under capable management the business will be expanded to enable the party of the second part to fulfill his obligation. "5. It is agreed that the party of the second part shall be privileged on declaration to make any of the payments on the principal and interest from personal funds. "6. It is agreed that if for reasons of good business practice it is impractical to withdraw from the funds at any particular time the payments on principal provided for in section three (3) the party of the first part will permit said payments on principal to accrue for a reasonable period of time so long as the management of the affairs of the Theo. J. Ely Mfg. Co. is capable and such action appears to be to the best interest of the said company, and this agreement will not become null and1953 Tax Ct. Memo LEXIS 73">85 void during that time, but the terms of payment of the purchase price as stated in paragraph 3 shall not be later than May 1, 1952. "7. It is agreed that any and all profits earned by the Theo. J. Ely Mfg. Co., commencing May 1, 1942 shall accrue to the second party and will continue to accrue to the second party so long [as] the terms of payment and interest thereon shall have been fulfilled. "8. It is agreed that the second party shall withdraw seventy-five ($75.00) dollars per week from the funds of the Theo. J. Ely Mfg. Co. and shall share in the rights, benefits and privileges of the agreement so long as he devotes his exclusive and undivided time to the business and affairs of said company. "9. It is agreed that in the event the profits of the Theo. J. Ely Mfg. Co. shall exceed in any one year the total annual payments plus interest then the second party may draw from the profits after the close of the Company's fiscal year an amount not to exceed twenty (20%) percent of said profits, which will be in addition to the weekly withdrawal provided for in section eight (8)." On May 1, 1942, Carl Bernie Oas took possession of all of the assets of Ely Company, continued to1953 Tax Ct. Memo LEXIS 73">86 operate the same, and received all the avails of such operations. After the close of the year, December 31, 1942, the parties agreed that the total purchase price was to be fixed at $75,000. Pursuant to the agreement of March 28, 1942, Carl Bernie Oas made payments on the purchase price on the dates and in the amounts as follows: 194219431944January$ 1,084$4,860February1,556March2,700April3,100May$ 1,8002,000June1,26215,714July1,4404,800August1,1126,700September1,01210,000October3,1402,300November1,1124,700December1,4683,140$12,346$57,794$4,8601942$12,346194357,79419444,860Total$75,000In March 1945 Meldon, as receiver, filed a verified answer in a civil action instituted in the District Court of the United States for the Western District of Pennsylvania by Chester Bowles, Administrator, Office of Price Administration, plaintiff, against Theo. J. Ely Manufacturing Company, James L. Meldon, receiver thereof, and Carl Bernie Oas, etc., defendants. The answer, inter alia, alleges as follows: "Further answering, he avers that under agreement dated1953 Tax Ct. Memo LEXIS 73">87 as of the 28th day of March, 1942, he as owner and Receiver of the Theo. J. Ely Manufacturing Company of Girard, Pennsylvania, sold all of his interest in the plant, machinery, and assets of the business of the said Theo. J. Ely Manufacturing Company to Carl Bernie Oas, and that the said Carl Bernie Oas, on May 1, 1942, took possession of all of said assets and has been exclusively engaged in the manufacture of the items abovementioned, and that he, the said James L. Meldon, either as Receiver or otherwise, has not had any connection with the manufacture and/or sale of any of the items above mentioned." * * * During the year 1936 Ida R. Ellis became an inmate of the Masonic Home in Elizabethtown, Pennsylvania, and died there intestate in 1938. As is customary in the State of Pennsylvania, Ida R. Ellis when admitted turned over to the trustees of the Masonic Home all of her worldly goods, including the 50 shares of Ely Company stock in return for an agreement to care for her during the remainder of her life. On January 22, 1943, Meldon purchased from the trustees of the Masonic Home the 50 shares of stock of Ely Company for the sum of $75. On March 5, 1943, Meldon purchased from1953 Tax Ct. Memo LEXIS 73">88 the Girard National Bank for $75 the 50 shares of stock of Ely Company which it held as collateral security for the personal loan of J. A. Ellis. On May 28, 1943, Meldon purchased from C. M. Drury, Administrator of the Estate of J. A. Ellis, 190 shares of capital stock of Ely Company for the sum of $285. In order to comply with the conditions of the agreement of March 28, 1942, whereby all the real estate, machinery, and equipment would be free and clear of all liens and claims, and in order to divest an outstanding third mortgage in favor of Mary A. Woodman in the face amount of $6,000, Meldon instituted foreclosure proceedings in the Court of Common Pleas of Erie County as Nos. 162 and 163, May Term D.S.B. 1943, and sold the property at sheriff's sale to James L. Meldon, as evidenced by deeds recorded in Erie County deed book 393, pages 360 and 361. On August 12, 1943, judgment was entered on the bonds accompanying the first and second mortgages, and the properties were sold by the sheriff of Erie County, who executed and delivered sheriff's deeds conveying the properties of Ely Company to James L. Meldon, thereby divesting the third mortgage of $6,000 owned by Mary A. Woodman. 1953 Tax Ct. Memo LEXIS 73">89 In his individual income tax return for the year 1944, Meldon included in the schedule of capital gains and losses the following: SalesLong-termAcquiredSoldpriceCostgain or loss290 sharesEly Mfg. Co.19381-4-44$76,000$38,523.25$37,476.75GAs of April 30, 1942, Ely Company was indebted to James L. Meldon, individually, in the amount of $27,731.12, for advances made to it computed as follows: To purchase old accounts payable$ 630.02To purchase 2nd mortgage12,090.00To purchase Harrington assets2,815.00To purchase Carter assets15,681.02Total$31,216.04Less Meldon's individual indebtednessto Ely Company3,484.92$27,731.12In the taxable year 1943 the petitioner, James L. Meldon, received additional gross income from Ely Company by way of distributions in complete liquidation in the amount of $41,973.88, no part of which was reported by him on his return for such taxable year. The deficiency in income tax owing by petitioner James L. Meldon for the taxable year 1943 is due in part to fraud with intent to evade tax. Opinion The first question presented involves the amount includible1953 Tax Ct. Memo LEXIS 73">90 in the petitioners' gross income for the taxable year 1943 by reason of gains derived from distributions made to petitioner by Ely Company. The facts presented by this record are in such a state of confusion and contradiction that it is practically impossible to rationalize the various contentions of the respective parties. To attempt to do so would in our opinion only result in confusion more confounded. The respondent's shift in his position from the deficiency originally determined prevents the application of the rule of presumption of its correctness. After considered analysis of the record we have set forth in our findings of fact such facts as we think the record supports. We are convinced that the just solution is to be found in a realistic and practical approach to the problem. Meldon was the duly appointed receiver of the company with authority to continue the operation of the business of Ely Company. From the date of his appointment in September 1934 until April 30, 1942, when the assets of the company were sold to Carl Bernie Oas, he continued to operate the company. At the time of the hearing of this proceeding in May 1952, Meldon had not been discharged as such receiver. 1953 Tax Ct. Memo LEXIS 73">91 A receiver has a fiduciary relationship both towards the court and persons interested in the estate. In re Singer Furniture Corp., 47 Fed. (2d) 780. It is a well settled rule that a trustee can make no profit out of his trust. The purpose of the rule is to provide against any possible selfish interest exercising any influence which can interfere with the faithful discharge of his duty which is owing in a fiduciary capacity. Magruder v. Drury, 235 U.S. 106">235 U.S. 106; Michoud v. Girod, 4 How. 503">4 How. 503-505; 45 American Jurisprudence, § 132. While a receiver, who is authorized by the court appointing him to continue operating the business under his control, may advance his own individual funds to assure the continuation of the business, he may not purchase for his individual benefit and profit the obligations of the company of which he is receiver. This record reveals that Meldon did acquire during his receivership the old accounts payable by Ely Company at the time of his appointment, in the amount of $9,968.02, for the sum of $630.02; and that he obtained an assignment of the first mortgage in the amount of $3,000, plus accrued interest of $406, for1953 Tax Ct. Memo LEXIS 73">92 the payment of the sum of $3,406, and the second mortgage in the amount of $16,372.91 for the payment of the sum of $12,090. The petitioner was reimbursed by Ely Company in the amount of $3,406, which he had paid for the assignment of the first mortgage. Since the petitioner treated the funds he individually advanced to acquire an assignment of the first mortgage as advances for the benefit of Ely Company, we think it fair and reasonable to treat the payment of the $12,090 to acquire the assignment of the second mortgage and the payment of $630.02 to obtain an assignment of the claims of general creditors as advances by the petitioner for the benefit of Ely Company in order to assure its continued operation. To the extent of the amounts so advanced the petitioner became a creditor of Ely Company. During the period of the receivership Meldon individually acquired the assets of the Harrington Machine Tool Company for the sum of $2,815. That company manufactured parts required by Ely Company in the manufacture of its products, and Meldon moved the machinery and equipment to the plant of Ely Company where it was commingled with the machinery and equipment of that company. The Harrington1953 Tax Ct. Memo LEXIS 73">93 assets were not reflected on Ely Company's balance sheet; they were included in the sale to Carl Bernie Oas. Under the circumstances we have treated the sum of $2,815 as an advance by the petitioner for the benefit of Ely Company. A somewhat similar situation exists with respect to the acquisition of the assets of the C. E. Carter Company. The record establishes that both Ely Company and Meldon, individually, advanced funds to the Carter Company which occupied a portion of the property owned by Ely Company. It has been stipulated that Meldon, individually, advanced to the Carter Company for pay roll expenses the amount of $15,681.02 between July 19, 1940, and December 13, 1940, and that Carter turned over the machinery, equipment, and inventory to Meldon in cancellation of his indebtedness. These assets likewise were not carried on the Ely balance sheet but were commingled with the assets of that company and were included in the lump sum sale. Therefore, we have also treated the amount of $15,681.02 as an advance by Meldon, individually, for the benefit of Ely Company. The record further shows that it was the common practice of Meldon to individually advance to Ely Company from1953 Tax Ct. Memo LEXIS 73">94 time to time funds for current operations during his receivership. The account of Meldon with Ely Company shows that as of April 30, 1942, the day preceding the date when Carl Bernie Oas took possession of the assets of Ely Company under the contract of sale dated March 28, 1942, the amounts credited to Meldon amounted to $31,525.09 and the debits shown were $16,072.15. Included among the credits was the amount of $9,968.02, representing the old accounts payable by Ely Company at the time of the appointment of the receiver, and the amount of $2,000, representing an alleged receiver's fee. We think it is clear that these amounts were never received by Meldon and were improper credits. These two improper credits, totaling $11,968.02, should be deducted from the total credits shown of $31,525.09, making the correct amount of credit $19,557.07. Since the total debts of $16,072.15 were less than the corrected credit, Meldon was indebted to Ely Company in the amount of the difference, or the sum of $3,484.92. From the advances hereinabove set forth, totaling $31,216.04, there should be deducted Meldon's indebtedness of $3,484.92, leaving a resultant figure of $27,731.12. We have found as1953 Tax Ct. Memo LEXIS 73">95 a fact that Meldon is entitled to receive from the proceeds of the sale the amount of $27,731.12, as a creditor of Ely Company. During the years 1942 and 1943 Ely Company received on the purchase price of $75,000 payments aggregating $70,140. Meldon, who was on a cash basis, appropriated these payments to his personal use as and when received by Ely Company. Of the sum of $70,140, the amount of $27,731.12 is to be treated as a distribution to Meldon as a creditor of Ely Company. The balance of $42,408.88 remainded, in the taxable year 1943, for distribution to stockholders. Between January 22, 1943, and May 28, 1943, Meldon acquired all of the oustanding shares of Ely Company at a total cost of $435. Within a period of less than six months after the acquisition of the said 290 shares, Meldon received in the taxable year 1943 the difference between the sum of $42,408.88 and the cost basis of his stock in the sum of $435, or the sum of $41,973.88, as a distribution in complete liquidation, and such amount is includible in his gross income for 1943 as a short-term capital gain, and we have so found as a fact. In his return for 1943 Meldon did not report any part of such gain in his1953 Tax Ct. Memo LEXIS 73">96 gross income. The final question presented is whether any part of the deficiency for the taxable year 1943 is due to fraud with intent to evade tax so as to require the imposition of the 50 per cent addition to the tax, as provided by section 293 (b) of the Internal Revenue Code. In the light of the entire picture revealed by this record, we are convinced that a part of the deficiency is due to fraud with intent to evade the tax and have so found. Although we have not deemed it necessary to set forth in our findings of fact all of the documentary proof and other evidence bearing upon the question of fraud, this record is so replete with misrepresentations and false information furnished by Meldon to the taxing authorities and to the court having jurisdiction of the receivership, as well as evasive and contradictory testimony, which so affect his credibility as a witness that we are unwilling to give full credence to his testimony. The petitioner contends on brief that, since he treated the transaction as a sale of his stock and reported a long-term capital gain in 1944, his failure to report any gain in the taxable year 1943, if it is held to be includible1953 Tax Ct. Memo LEXIS 73">97 in that year, was due to error and there was no intent to evade tax. Upon this record the argument does not impress us. Meldon was a former agent of the Bureau of Internal Revenue and an accountant with a very considerable tax practice. It is therefore reasonable to presume his familiarity with the taxing statutes and the Treasury regulations. Notwithstanding his experience this record reveals that the petitioner did not keep accurate records and failed to preserve and protect the books and records of the various companies involved to enable their production at the trial. In our opinion, the conduct and acts of the petitioner were deliberate and with the intent to evade the payment of his correct tax liability. Therefore, we hold that the respondent properly determined that the petitioner is liable for the 50 per cent addition to the deficiency for fraud with intent to evade tax. An order will be entered dismissing Docket No. 30433 for lack of jurisdiction. Decision will be entered under Rule 50 in Docket No. 30426.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621934/	Joseph C. Brightbill v. Commissioner.Brightbill v. CommissionerDocket No. 15010.United States Tax Court1949 Tax Ct. Memo LEXIS 270; 8 T.C.M. 112; T.C.M. (RIA) 49021; February 4, 19491949 Tax Ct. Memo LEXIS 270">270 Held, petitioner not entitled to deductions under section 23 (u), I.R.C., on account of payments made to his divorced wife. Irwin Lasky, Esq., Bankers Securities Bldg., Philadelphia, Pa., for the petitioner. John A. Newton, Esq., for the respondent. VAN FOSSAN Memorandum Findings of Fact and Opinion VAN FOSSAN, Judge: Respondent determined a deficiency in income tax for the calendar year 1944 in the amount of $560.25. The sole issue presented is whether petitioner is entitled to deduction of certain payments made to his divorced wife under favor of section 23 (u), I.R.C.Findings of Fact The facts were stipulated in substantially the following form: The petitioner is an individual residing at 333 East Oak Street, Palmyra, Pennsylvania, formerly residing at 243 West Tulpehocken Street, Philadelphia, Pennsylvania. The return for the period here involved was filed with the collector of internal revenue for the first district of Pennsylvania. The petitioner was married to his first wife, Helen M. Brightbill, on June 7, 1905. On September 6, 1935, petitioner entered into a written separation agreement with1949 Tax Ct. Memo LEXIS 270">271 his first wife, Helen M. Brightbill, which provides, in part, as follows: "4. That he will well and truly pay, or cause to be paid unto the party of the second part for and toward her better support and maintenance, the monthly sum of One Hundred Dollars ( $100.) free and clear of all charges and deductions whatsoever, for and during her natural life, or until a valid final decree of absolute divorce recognized by the State of Pennsylvania, has been obtained by either party hereto, upon the first day of each month hereafter, beginning with the month of September 1935." On August 31, 1936, petitioner instituted an action for absolute divorce in the Court of Common Pleas No. 1 of Philadelphia County, Commonwealth of Pennsylvania, September Term, 1936, No. 177. This action of divorce was discontinued by stipulation of the parties and counsel on June 18, 1937. On September 24, 1937, petitioner obtained a decree of divorce from his first wife, Helen M. Brightbill, at Reno, Nevada. This was an ex parte proceeding brought by petitioner alone and in which Helen M. Brightbill did not appear, although notified of the pendency of the proceedings. The final Judgment and Decree in the Nevada1949 Tax Ct. Memo LEXIS 270">272 divorce action is as follows: "IT IS THEREFORE ORDERED, ADJUDGED AND DECREED, as follows: "That the bonds of matrimony now and heretofore existing between the plaintiff, JOSEPH C. BRIGHTBILL, and the defendant, HELEN M. BRIGHTBILL, be, and the same are hereby dissolved; that the said plaintiff and defendant are hereby released from all the obligations thereof and restored to the status of single persons; and that the plaintiff be, and he hereby is, granted a decree of divorce from the defendant, final and absolute in form, force and effect, the laws of the State of Nevada providing no interlocutory period or conditions or restrictions on remarriage." The petitioner married his second wife, Rachel T. Brightbill, on October 2, 1937. The petitioner made monthly payments of $100 to his first wife, Helen M. Brightbill, during the entire year ending December 31, 1944. Opinion The question here posed is: Were the payments made during the year 1944 of such character as to be includible in the income of the divorced wife under section 22 (k), Internal Revenue Code1 and accordingly deductible by the divorced husband under section 23 (u)2. The question may1949 Tax Ct. Memo LEXIS 270">273 be further narrowed: Was the agreement of 1935, pursuant to which the payments were made, "a written instrument incident to such divorce or separation"? On consideration of the facts, all of which were stipulated, we conclude that the payments were not of the type and character to be deductible. 1949 Tax Ct. Memo LEXIS 270">274 The first obstacle in petitioner's path is the fact that petitioner and his wife were not "legally separated" as that term is used in section 22 (k). See Charles L. Brown, 7 T.C. 715">7 T.C. 715. The parties were voluntarily separated. There never was a decree of "separate maintenance." Thus the agreement is without efficacy unless it was "incident to such divorce." That the agreement does not by any provision directly or indirectly contemplate a divorce is apparent on the reading thereof. The word "divorce" appears in the agreement but once and then only as an alternative time limit on the payments provided for by paragraph 4. In point of fact, the exactitude with which all possible contingencies that might arise incident to living apart are specified, argues that a continuing separation without divorce was apparently contemplated. At any rate, such a conclusion from the terms of the agreement is equally as tenable as any other. All such contingencies which were with meticulous care provided for could have been effectively ended by a divorce decree. For whatever reason, the divorce action instituted in Pennsylvania in 1936, was discontinued by stipulation of the parties in 1937. 1949 Tax Ct. Memo LEXIS 270">275 Consequently it resulted neither in a legal separation nor in a divorce of the parties. The action for divorce brought by the husband in Nevada in 1937 was an ex parte proceeding in which the wife refused to appear or cooperate in any way. This proceeding resulted in a decree of divorce by which the parties were "released from all obligations" of matrimony and "restored to the status of single persons". The decree, however, made no disposition of property nor did it make reference to the separation of 1935. No provision was made for the payment of alimony or for the carrying out of the provisions of the earlier agreement. It may be noted in passing that if the Nevada decree was valid and recognized in Pennsylvania, under the terms of paragraph 4 of the original agreement, petitioner's obligation under such paragraph ceased and he was therefore under no obligation to continue to make the payments to his former wife. The record in this case contains nothing indicating that the decree of the Nevada court was not valid in Pennsylvania. The fact, if it be a fact, as stated by counsel for petitioner, that petitioner, who had married a second wife in 1937, continued to make the monthly1949 Tax Ct. Memo LEXIS 270">276 payments in order to avoid a possible action on the part of his first wife to test the validity of the Nevada decree, does not create in him any rights not otherwise existing. On the whole record, we are of the opinion, and hold, that petitioner has failed to bring himself within the limitations of the statute and is not entitled to the deductions claimed. Decision will be entered for the respondent. Footnotes1. SEC. 22. GROSS INCOME. * (k) Alimony, Etc., Income. - In the case of a wife who is divorced or legally separated from her husband under a decree of divorce or of separate maintenance, periodic payments (whether or not made at regular intervals) received subsequent to such decree in discharge of, or attributable to property transferred (in trust or otherwise) in discharge of, a legal obligation which, because of the maritial or family relationship, is imposed upon or incurred by such husband under such decree or under a written instrument incident to such divorce or separation shall be includible in the gross income of such wife, and such amounts received as are attributable to property so transferred shall not be includible in the gross income of such husband. This subsection shall not apply to that part of any such periodic payment which the terms of the decree or written instrument fix, in terms of an amount of money or a portion of the payment, as a sum which is payable for the support of minor children of such husband. * * ↩2. SEC. 23. DEDUCTIONS FROM GROSS INCOME. In computing net income there shall be allowed as deductions: * * (u) Alimony, Etc., Payments. - In the case of a husband described in section 22 (k), amounts includible under section 22 (k)↩ in the gross income of his wife, payment of which is made within the husband's taxable year. * *	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621935/	WILLIAM FRIEDMAN, ET AL., 1 Petitioners v. COMMISSIONER OF INTERNAL REVENUE, Respondent Friedman v. Comm'rDocket Nos. 3858-73, 3859-73, 3860-73, 3861-73, 3862-73, 3863-73, 3864-73, 3865-73, 3866-73, 3867-73, 3868-73, 3869-73, 3870-73, 3871-73, 3872-73, 3873-73, 3874-73, 3875-73, 3876-73, 3467-74, 5856-74. United States Tax CourtT.C. Memo 1977-201; 1977 Tax Ct. Memo LEXIS 243; 36 T.C.M. 841; T.C.M. (RIA) 770201; June 28, 1977, Filed 1977 Tax Ct. Memo LEXIS 243">243 1. Petitioners undertook the development of a condominium complex. When the buildings were nearing completion, the common elements were submitted to condominium ownership. In accordance with a prearranged plan, the condominium association, which was likewise under the control of petitioners, entered into a 99-year lease for the recreational facilities which comprised a part of the project. When the individual units were sold, the buyer assumed a pro rata share of the obligations under this lease. Held, the present value of the rentals under the 99-year recreational lease, to the extent in excess of a fair rental for the recreational facilities, is not taxable to the petitioners as part of the consideration received for the sale of the individual condominium units. Since such excess did not constitute income to the petitioners in the first instance, it is not allocable to the developer pursuant to section 482. 2. The petitioners designated as "Group A Participants" entered into a joint venture for the development of a condominium complex. In consideration for their agreement to provide the funds required for the purchase of the land, petitioners were given the option to purchase 1977 Tax Ct. Memo LEXIS 243">244 the recreational and commercial facilities in the building for a specified price. Held, the value of the investment unit representing "original issue discount" as defined in section 1232 must be allocated to the cost or basis of the option. Under section 1232, this discount would result in taxable income when the loan was repaid. Held further, no additional taxable income would be realized when the option was exercised. Melvin N. Greenberg,Eileen Trautman,Alan R. Chase, for the petitioners. Curtis Liles, III, for the respondent. QUEALYMEMORANDUM FINDINGS OF FACT AND OPINION QUEALY, Judge: Respondent determined deficiencies in the income tax of petitioners in these consolidated cases as follows: Docket No.Deficiency196919703858-73$ 3,572.52 $3859-7334,474.003860-734,315.003861-731,216.003862-731,211.003863-732,619 .003864-7313,202.063865-73183,095.003866-733,314.003867-7341,134.003868-73186,823.003869-734,655.003870-738,539.00 1977 Tax Ct. Memo LEXIS 243">245 3871-739,209.005,767.003872-7337,956.0015,205.003873-731,003.003874-7360,881.003875-7327,260.003876-732,494.003467-744,901.945856-74966,812.28Total$440,149.58$1,179,509.22In addition, respondent amended his answer in the cases of Theodore Sondov and Dina Sondov, docket No. 3467-74; and Herman Sondov and Rhea Sondov, docket No. 3871-73 to include deficiencies in the taxable year 1970 in the amounts of $25,888.19 and $22,561.25, respectively. Subsequently, respondent amended his answer to include additional deficiencies for the taxable year 1969, as follows: Increase in Docket No.Deficiency3858-73$ 11,898.793859-7378,127.703860-7312,820.903863-734,927.783864-7333,527.763865-73534,1 64.703866-7311,301.333867-7392,235.303869-7310,422.803870-7311,212.313871-7326,649.963873-732,665.953874-73164,086.703876-736,200.70Total$ 1,000,242.68 As a result of the agreement by the parties, the remaining issues to be considered at this time are as follows: A. Buckley Towers1. Whether the present value of the excess rents for the recreational facilities, which a purchaser of a condominium 1977 Tax Ct. Memo LEXIS 243">246 unit assumed as a condition of sale, is includable in the income of Buckley Development Co., Ltd., as a part of the consideration received for the sale of the condominium unit under section 61. 22. In the alternative, whether the present value of the excess rents for the recreational facilities, which a purchaser of a condominium unit was required to assume as a condition of sale, should be allocated to Buckley Development Co., Ltd., as the developer of the property, under section 482. 3. In the event that respondent's determination is sustained, whether any additional income attributable to the sale of the residential condominium units may be reported on the installment basis pursuant to section 453. B. Burleigh HouseWhether the petitioners realized additional income in 1969 through a bargain purchase of the recreation and shop facilities of the Burleigh House condominium development. Depending upon the decision of the Court with respect to these issues, a further hearing may be necessary to determine the nature and amount of such income and the extent to which such income 1977 Tax Ct. Memo LEXIS 243">247 is taxable to petitioners. FINDINGS OF FACT For the most part, the facts have been stipulated by the parties. The stipulation of facts, together with the exhibits attached thereto, are incorporated by this reference. Petitioner William Friedman (docket No. 3858-73) resided in Miami Beach, Florida, on May 18, 1973, and July 12, 1974, at the times the petitions were filed. For the taxable years 1969 and 1970, the petitioner filed an income tax return with either the District Director of Internal Revenue at Jacksonville, Florida, or the Southeast Service Center of the Internal Revenue at Chamblee, Georgia. Petitioners James F. Gallagher and Helene Gallagher (docket No. 3859-73) resided in Miami, Florida, and Miami Shores, Florida, at the time the petitions were filed. For the taxable years 1969 and 1970, the petitioners filed joint income tax returns with either the District Director of Internal Revenue at Jacksonville, Florida, or the Southeast Service Center of Internal Revenue at Chamblee, Georgia. Petitioners Elliott Harris and Arlene F. Harris (docket No. 3860-73) resided at Miami Beach, Florida, at the times the petitions were filed. For the taxable years 1969 and 1970, 1977 Tax Ct. Memo LEXIS 243">248 the petitioners filed joint income tax returns with either the District Director of Internal Revenue at Jacksonville, Florida, or the Southeast Service Center of the Internal Revenue at Chamblee, Georgia. Petitioner Keith Charles Pasternak, a Minor by Alan S. Pasternak, Custodian and Guardian, (docket No. 3861-73) resided at Miami, Florida, at the time the petition was filed. For the taxable year 1969, the petitioner filed an income tax return with either the District Director of Internal Revenue at Jacksonville, Florida, or the Southeast Service Center of the Internal Revenue at Chamblee, Georgia. Petitioner Susan Jeanne Pasternak, a Minor by Alan S. Pasternak, Custodian and Guardian, (docket No. 3862-73) resided at Miami, Florida, at the time the petition was filed. For the taxable year 1969, the petitioner filed an income tax return with either the District Director of Internal Revenue at Jacksonville, Florida, or the Southeast Service Center of the Internal Revenue at Chamblee, Georgia. Petitioners Donald L. Pearce and Bernice B. Pearce (docket No. 3863-73) resided at Miami, Florida, at the times the petitions were filed. For the taxable years 1969 and 1970, the petitioners 1977 Tax Ct. Memo LEXIS 243">249 filed joint income tax returns with either the District Director of Internal Revenue at Jacksonville, Florida, or the Southeast Service Center of the Internal Revenue at Chamblee, Georgia. Petitioners Theodore Sondov and Dina Sondov (docket No. 3864-73 and 3467-74) resided in Fort Lauderdale, Florida, at the times the petitions were filed. For the taxable years 1969 and 1970, the petitioners filed a joint income tax return with either the District Director of Internal Revenue at Brooklyn, New York, or the North Atlantic Service Center of the Internal Revenue at Holtsville, New York. Petitioners Herbert Buchwald and Arlene Buchwald (docket No. 3865-73) resided in Miami Beach, Florida, at the times the petitions were filed. For the taxable years 1969 and 1970, the petitioners filed joint income tax returns with either the District Director of Internal Revenue at Jacksonville, Florida, or the Southeast Service Center of the Internal Revenue at Chamblee, Georgia.Petitioners Adalburt Buchwald and Helen Buchwald (docket No. 3866-73) resided in North Miami Beach, Florida, at the times the petitions were filed. For the taxable years 1969 and 1970, the petitioners filed joint income tax 1977 Tax Ct. Memo LEXIS 243">250 returns with either the District Director of Internal Revenue at Jacksonville, Florida, or the Southeast Service Center of the Internal Revenue at Chamblee, Georgia. Petitioner Stuart L. Haas (docket No. 3867-73) resided in Miami Shores, Florida, at the times the petitions were filed. For the taxable years 1969 and 1970, the petitioner filed income tax returns with either the District Director of Internal Revenue at Jacksonville, Florida, or the Southeast Service Center of the Internal Revenue at Chamblee, Georgia. Petitioner Buchwald Enterprises, Inc. (docket No. 3868-73) is a Florida corporation with its principal place of business in Miami Beach, Florida, at the time the petition was filed. For the taxable year 1970, the petitioner filed an income tax return with either the District Director of Internal Revenue at Jacksonville, Florida, or the Southeast Service Center of the Internal Revenue at Chamblee, Georgia. Petitioners Joshua Sirkin and Carolyn Sirkin (docket No. 3869-73) resided in Miami, Florida, at the times the petitions were filed. For the taxable years 1969 and 1970, the petitioners filed joint income tax returns with either the District Director of Internal Revenue 1977 Tax Ct. Memo LEXIS 243">251 at Jacksonville, Florida, or the Southeast Service Center of the Internal Revenue at Chamblee, Georgia. Petitioners Norman Jacobson and Mildred Jacobson (docket No. 3870-73) resided in Saint Petersburg, Florida, at the times the petitions were filed. For the taxable years 1969 and 1970, the petitioners filed joint income tax returns with either the District Director of Internal Revenue at Jacksonville, Florida, or the Southeast Service Center of the Internal Revenue at Chamblee, Georgia. Petitioners Herman Sondov and Rhea Sondov (docket No. 3871-73) resided in Fort Lauderdale, Florida, at the time the petition was filed. For the taxable year 1969, the petitioners filed a joint income tax return with either the District Director of Internal Revenue at Jacksonville, Florida, or the Southeast Service Center of the Internal Revenue at Chamblee, Georgia. Petitioner Cantor Children's Trust, Beatrice Cantor and Herbert Buchwald, Trustees, (docket No. 3872-73) is a trust established and administered in the State of Florida and had an address in Miami Beach, Florida, at the time the petition was filed. For the taxable year 1969, the petitioner filed an income tax return with either the 1977 Tax Ct. Memo LEXIS 243">252 District Director of Internal Revenue at Jacksonville, Florida, or the Southeast Service Center of the Internal Revenue at Chamblee, Georgia. Petitioners Edward S. Millis and Minerva C. Millis (docket No. 3873-73) resided in Miami, Florida, at the time the petitions were filed. For the taxable years 1969 and 1970, the petitioners filed joint income tax returns with either the District Director of Internal Revenue at Jacksonville, Florida, or the Southeast Service Center of the Internal Revenue at Chamblee, Georgia. Petitioners Joseph Nawalaniec and Irene Nawalaniec (docket No. 3874-73), hereinafter sometimes referred to as Joseph and Irene Walan, resided in Miami Beach, Florida, at the times the petitions were filed. For the taxable years 1969 and 1970, the petitioners filed joint income tax returns with either the District Director of Internal Revenue at Jacksonville, Florida, or the Southeast Service Center of the Internal Revenue at Chamblee, Georgia. Petitioners Philip R. Stark and Elaine Stark (docket No. 3875-73) resided in North Miami, Florida, at the time the petition was filed. For the taxable year 1969, the petitioners filed a joint income tax return with either the 1977 Tax Ct. Memo LEXIS 243">253 District Director of Internal Revenue at Jacksonville, Florida, or the Southeast Service Center of the Internal Revenue at Chamblee, Georgia. Petitioners Sam Pasternak and Frieda Pasternak (docket No. 3876-73) resided in Miami Beach, Florida, at the time the petitions were filed. For the taxable years 1969 and 1970, the petitioners filed joint income tax returns with either the District Director of Internal Revenue at Jacksonville, Florida, or the Southeast Service Center of the Internal Revenue at Chamblee, Georgia.Petitioners Alan S. Pasternak and Linda Pasternak (docket No. 5856-74) resided in Miami, Florida, at the time the petition was filed. For the taxable year 1970, the petitioners filed a joint income tax return with either the District Director of Internal Revenue at Jacksonville, Florida, or the Southeast Service Center of the Internal Revenue at Chamblee, Georgia. Petitioners Leonard C. Cantor and Beatrice Cantor (docket No. 5856-74) resided in Miami, Florida, at the time the petition was filed. For the taxable year 1970, the petitioners filed a joint income tax return with either the District Director of Internal Revenue at Jacksonville, Florida, or the Southeast 1977 Tax Ct. Memo LEXIS 243">254 Service Center of the Internal Revenue at Chamblee, Georgia. $1Buckley Towers On June 29, 1967, Herbert Buchwald, in a capacity as trustee, agreed to purchase the issued and outstanding stock of the Troy Land Co., a Florida corporation. Buchwald sought to acquire the unimproved real property owned by Troy Land Co. for the development of a residential condominium complex. This complex was to consist of two condominium buildings, Buckley Towers East and Buckley Towers West, and certain recreational facilities, constructed on the same parcel of land but not part of the common property of the condominium administration. Thereafter, Herbert Buchwald took possession of the land owned by Troy Land Co.; and a building permit was obtained to construct the recreational and commercial facilities of the Buckley Towers complex. On September 1, 1967, Herbert Buchwald, as trustee, consummated the acquisition of the stock of the Troy Land Co., and on September 19, 1967, received the land in issue as part of the liquidation of the Troy Land Co. In November 1967, the Buckley Towers Condominium sales office opened; and the first sales contracts were signed for the purchase of residential condominium 1977 Tax Ct. Memo LEXIS 243">255 units. On December 17, 1968, Herbert Buchwald, as trustee, submitted the residential condominium units and the common elements of Buckley Towers East and Buckley Towers West to condominium ownership through a Declaration of Condominium filed in the public records of Dade County, Florida. The recreational and commercial facilities and the land allocable thereto were, at that time, reserved by Herbert Buchwald, as trustee, and were not subjected to ownership by the condominium association. On that same day, Herbert Buchwald, as trustee, entered into a Community Facility Lease with the Buckley Towers Condominium Association (Buckley Towers Condominium, Inc.), whereby the association leased the recreational facilities in the condominium complex and the land allocable thereto which had not been submitted to condominium ownership. The condominium association was comprised of the owners of all the residential, commercial and recreational units in the complex consisting of Buckley Towers East and West. At the time the lease was signed, the owner of all such units was Herbert Buchwald, as trustee. The Community Facility Lease granted to the lessee a nonexclusive right to use the recreational 1977 Tax Ct. Memo LEXIS 243">256 facilities for a term of 99 years in exchange for a stated rental. The lessor specifically reserved the right to make additional leases with other condominium developments. The total cost of the recreational units, shop units and recreational facilities constructed at Buckley Towers East and West was $318,899.46. This cost includes the cost of construction of the recreational units and shop units and a proportionate share of the real property on which Buckley Towers is situated, as well as the cost of the recreational facilities and real property not submitted to condominium ownership. The total annual base rent under the Community Facility Lease was $155,904.00, being the equivalent of 48.8 percent of the cost of such facilities. The rent was allocated to the individual condominium units in the form of an established monthly assessment for each type of unit. These assessments ranged from $19.50 to $28.00 per month, with the average assessment about $21.50 per month. The lease also provided that the base rental would be adjusted to reflect increases in the cost of living as indicated by increases in the Consumers Price Index. Once increased, the amount of the rent would not be 1977 Tax Ct. Memo LEXIS 243">257 reduced. Payment of the rent under the Community Facility Lease was secured by a lien on all property subject to the Declaration of Condominium, including the real property, the buildings, the fixtures and equipment. The recreational facilities leased by the condominium association were part of the common elements of the condominium development. As such, the maintenance and operation of the leased facilities was the responsibility of the condominium owners association and was a common expense. The common expenses included the expense of administration, maintenance, operation, repair and replacement of the leased premises. The owner of the recreational facilities was not liable for any of these common expenses. The condominium units in Buckley Towers were intended by the developers to be sold in competition with the rental apartments. When the Buckley Towers project was initiated, condominiums were a relatively new concept in the Florida market. In order to compete in the rental market, it was contemplated that the Buckley Towers Condominiums would be offered for a minimal down payment and a monthly cost (including rental of the recreational facilities) which would be equivalent 1977 Tax Ct. Memo LEXIS 243">258 to the rental of a comparable unit. The reservation of the recreational facilities enabled the developers to offer the condominium units for a lower price, relying on future rents to provide an additional profit as an incentive for the developers. The closing of the residential condominium units began in January 1969. The sales price of a residential unit ranged from $17,500 to $23,000. Each purchaser of a residential unit at Buckley Towers consented to and approved the provisions of the lease and assumed the obligations of the lease as part of the proportionate share of the common expenses attributed to his condominium unit. For almost all of the residential units in the Buckley Towers complex, Herbert Buchwald, trustee and individually, joined by his wife, had obtained a first mortgage as permanent financing on a particular unit from the Hollywood Federal Savings and Loan Association. The proceeds from each of these mortgages were utilized to satisfy a proportionate amount of the construction loan, thereby obtaining the release of a given residential condominium unit from the construction mortgage. Upon the sale of the unit, the purchaser would assume the obligation of Herbert 1977 Tax Ct. Memo LEXIS 243">259 Buchwald, trustee and individually, joined by his wife, on such mortgage. On June 2, 1969, Herbert Buchwald, trustee, entered into a Declaration of Trust for the benefit of certain beneficiaries. The stated purpose of this Declaration was to commit to writing the terms and conditions of two oral trust agreements and to state all past and future action taken and to be taken by Herbert Buchwald, as the trustee for the two trusts. Under the terms of this Declaration, Herbert Buchwald, trustee, held in Buckley Trust "A" the residential condominium units and the land submitted to condominium ownership for the benfit of the Buckley Development Co., Ltd., the partnership which developed the property. Buckley Trust "B" held the recreational facilities and the property not submitted to condominium ownership for the benefit of certain named individuals. The Buckley Trust "B" received rents under the lease and the commercial unit leases during the taxable years involved and reported such rents on its 1969 and 1970 income tax returns. The beneficiaries of this trust, who are petitioners in this group of cases, reported distributions of rental income from the trust on their own income tax 1977 Tax Ct. Memo LEXIS 243">260 returns. With the exception of Martin Buchwald and Ann Frater, the beneficiaries of Buckley Trust "B" held essentially the identical interests in the Buckley Development Co., Ltd., either directly or through participation in one of the three small business corporations, which owned partnership interests in the Buckley Development Co., Ltd. Such interests were, as follows: BuckleyBuckley TrustDevelopment Co., Beneficial Owner"B"Ltd., InterestHerbert and Arlene Buchwald36.72%36.72%Joseph and Irene Walan12.50%12.50%William Friedman1.25%1.25%Norman Jacobson1.25%1.25%Minerva Millis.50%.50%Joshua A. Sirkin1.25%1.25%Donald and Bernice Pearce1.25%1.25%Adalburt and Helen Buchwald1.47%1.47%Sam and Frieda Pasternak1.47%1.47%Elliott and Arlene Harris1.47%1.47%Alan and Linda Pasternak 1977 Tax Ct. Memo LEXIS 243">261 1.47%-0-Keith Pasternak-0-.735%Susan Pasternak-0-.735%Stuart Haas7.35%7.35%James Gallagher7.35%7.35%Philip Stark7.35%7.35%Herman and Rhea Sondov3 $125%3.125%Theodore and Dina Sondov3.125%3.125%Leonard and Beatrice Cantor 7.35%-0-Cantor Children's Trust-0-7.35%The earnings of the Buckley Development Co., Ltd., were taxed directly to petitioners. Both of the Sondov's and the Cantor Children's Trust owned partnership interests in the Buckley Development Co., Ltd. The other petitioners were shareholders of one or more of three qualified electing small business corporations, Buckley Construction Co., Inc., Buchwald Investment Corp., and The Big X, Inc., which also owned partnership interests in the Buckley Development Co., Ltd. For the fiscal years ending September 30, 1969, and September 30, 1970, Buckley Development Co., Ltd., reported gross sales and cost of goods sold, as follows: Fiscal 1969Fiscal 1970Gross Sales$7,418,879.76$3,826,074.00Cost of Goods6,752,159.003,429,562.00Gross Profit$ 666,720.76$ 396,512.00As a result of these sales, Buckley Development Co., Ltd., had a gross profit on sales of residential condominium units in the fiscal year ending September 30, 1969, of approximately 8.9 percent and in the fiscal year ending September 30, 1970, of approximately 10.3 percent.For these same years Buckley Development Co., Ltd., had ordinary income, after all deductions, of $443,219.09 and $328,699.00, 1977 Tax Ct. Memo LEXIS 243">262 respectively. Respondent determined, in the respective statutory notices issued in these cases, that petitioners realized additional income in the amount of $652,851.52 in 1969 and 1970 through Buckley Development Co., Ltd., on account of the sale of residential condominium units, measured by the present value of that portion of the rent under the lease of the recreational facilities determined by the respondent to be excessive, i.e., in excess of a fair and reasonable rental for such facilities. For purposes of this decision, petitioners concede that such rents were "excessive." Burleigh HouseIn August and September of 1968, Herbert Buchwald, acting in a capacity as trustee, entered into two purchase agreements to acquire a certain tract of land for a condominium development. On October 15, 1968, Herbert Buchwald, as trustee for a Florida corporation to be formed, Burleigh House, Inc., entered into a Joint Venture Agreement with certain individuals designated the Group A Participants. The individuals of this group are petitioners herein; and their respective interests are, as follows: Group A ParticipantsInterestJoseph and Irene Walan14.34%William Friedman1.25%Norman Jacobson1.25%Minerva Millis.50%Donald and Bernice Pearce1.25%Joshua A. Sirkin1.25%Herbert and Arlene Buchwald42.23%Adalburt and Helen Buchwald1.47%Sam and Frieda Pasternak1.47%Elliott and Arlene Harris1.47%James F. Gallagher7.35%Stuart L. Haas7.35%Herman and Rhea Sondov3.125%Theodore and Dina Sondov3.125%Alan and Linda Pasternak1.47%Leonard C. and Beatrice Cantor7.3k%Under 1977 Tax Ct. Memo LEXIS 243">263 the Joint Venture Agreement, Burleigh House, Inc., was formed to develop a condominium complex to be known as Burleigh House on the land for which Herbert Buchwald, trustee, had entered into purchase agreements. Herbert Buchwald, trustee, assigned his interest as trustee in those contracts to Burleigh House, Inc. The Group A Participants thereupon agreed to advance Burleigh House the sum of $338,000 as a loan to close the purchase of the land. In consideration of this loan, the Joint Venture Agreement provided that the Group A Participants through Herbert Buchwald, trustee, were granted an option to purchase all or any part of the recreational and commercial facilities of the Burleigh House condominium development. This trust arrangement became known as the Burleigh Trust. The purchase price of the facilities under option was to be the sum of (1) the cost of the land not subject to condominium ownership and the cost of the improvements plus 10 percent of the cost of the improvements, and (2) the prorated cost of the real property on which recreational and commercial units were constructed and the cost of the recreational and commercial units plus 10 percent of the cost of the recreational 1977 Tax Ct. Memo LEXIS 243">264 and commercial units. Apparently, any such facilities, both those on separate land and those which were part of the residential condominium development, were subject to this option. The Joint Venture Agreement further provided that the recreational facilities to be purchased by the Group A Participants, upon exercise of the option, would be subject to a long-term net lease with the condominium owners association as lessee once the development was submitted to condominium ownership. If the improvements on the land acquired by Herbert Buchwald were not submitted to condominium ownership, the Joint Venture Agreement provided that the property would be conveyed by the holder of the fee-simple title to such land to the Group A Participants for an amount constituting the cost of the construction of the improvements, plus 10 percent, plus the amount of any amortization paid by the developer on account of any mortgages. The option to purchase the Burleigh House recreational and commercial facilities was acquired by Herbert Buchwald, trustee, prior to the consummation of the purchase of the land and prior to obtaining building permits to construct the condominium complex. Early in December 1977 Tax Ct. Memo LEXIS 243">265 1968, Burleigh House, Inc., acquired possession and title to the tract of land for the condominium development. On December 15, 1969, Burleigh House, Inc., submitted all of the land that it had acquired through Herbert Buchwald, trustee, from the two purchase agreements to condominium ownership through a Declaration of Condominium filed in the public records of Dade County, Florida. On December 23, 1969, Herbert Buchwald, trustee, closed the purchase of the recreational and commercial facilities in Burleigh House for the Group A Participants through the exercise of the option. The option price paid by Herbert Buchwald, trustee, on behalf of the Group A Participants, for the recreational and commercial facilities was $420,000. Herbert Buchwald, trustee, executed a promissory note for $420,000 which was secured by a mortgage deed. After acquiring these facilities, Herbert Buchwald, trustee, executed on December 23, 1969, on behalf of the Group A Participants, a Community Facility Lease with the Burleigh House Condominium Association, Burleigh House Condominium, Inc., for the use of the recreational facilities. The condominium association was a nonprofit corporation composed of the 1977 Tax Ct. Memo LEXIS 243">266 owners of all of the condominium units in the Burleigh House complex. At this time, the owner of all the condominium units was Burleigh House, Inc., which was owned entirely by Herbert Buchwald and Joseph Walan. The total annual base rent under the Community Facility Lease was $181,440.00. This amount was computed on the basis of a monthly assessment of $42.00 for each of the residential units in the building. The lease also provided that the base rental would be adjusted to reflect increases and decreases in the cost of living as reflected in the Consumers Price Index. But the rental would never be less than the base rent. On December 24, 1969, Herbert Buchwald, as trustee of the Burleigh Trust, executed a Declaration of Trust stating all actions taken by him as trustee on behalf of Burleigh House, Inc., and the Group A Participants and stating all future actions to be taken by him as trustee on behalf of the Group A Participants. In the taxable year 1969, Burleigh House, Inc., had no accumulated or current earnings and profits. On March 31, 1970, the stockholders of Buckley Construction Co., Inc., The Big X, Inc., Buchwald Investment Corp., Burleigh House, Inc., and Tamiami 1977 Tax Ct. Memo LEXIS 243">267 Hills Country Club and the partners of Buckley Development Co., Ltd., transferred all their corporate stock and partnership interests to Buchwald Enterprises, Inc., in exchange for its common and preferred stock. For the calendar year 1970, Buchwald Enterprises had earnings and profits of $280,160.00 as reflected on its Federal incvome tax return. Respondent initially determined that the Group A Participants herein realized income in 1970 as a result of the purchase of the recreational and commercial facilities in the Burleigh House condominium development from Buchwald Enterprises, Inc. Respondent now concedes such determination was incorrect. But respondent has additionally determined through amendments to his answer that such petitioners realized income in 1969 on account of said purchase by Herbert Buchwald, trustee, in the year 1969.OPINION Buckley TowersWith respect to the Buckley Towers recreational lease, there is presented substantially the same question which the Court decided in Lakeside Garden Developers, Inc. v. Commissioner,T.C. Memo 1976-290. Herbert Buchwald, acting on behalf of the petitioners, acquired certain property for development as a condominium consisting 1977 Tax Ct. Memo LEXIS 243">268 of two buildings, Buckley Towers East and Buckley Towers West. The plan for the development envisioned the ultimate sale as condominiums of residential apartments in these buildings. The developer retained ownership of certain areas in the development containing recreational and commercial facilities. These facilities were located partially on a portion of the land which was not submitted to condominium ownership and partially within the condominium buildings. The income or gain to be derived from the development would thus consist, in part, of the proceeds from the sale of the condominiums and, in part, of the rents to be derived from the lease of the recreational facilities. On December 17, 1968, when Buckley Towers East and Buckley Towers West were in the process of construction, the properties were submitted to condominium ownership with the reservation of the recreational facilities. On the same day, Herbert Buchwald, representing the owners of the recreational facilities, entered into a 99-year lease for such facilities with the condominium association, the then owner of the condominiums in these buildings, granting the association a nonexclusive right to the use of the recreational 1977 Tax Ct. Memo LEXIS 243">269 facilities. At that time, Herbert Buchwald, as trustee for the developer, also acted on behalf of the condominium association. When the residential condominium units in Buckley Towers were sold to individual owners, each purchaser was required to assume, as part of the common charges to the residential unit owner, the obligation to pay an allocable share of the amount due under the 99-year lease on account of the recreational facilities. The obligation constituted a lien enforceable against the interest of the owner of the residential unit. Respondent has determined that Buckley Development Co., Ltd., realized additional income from the sale of residential condominium units in the Buckley Towers complex measured by the capitalized value of the portion of the recreational lease which is deemed "excessive." 3 By "excessive" respondent means the amount by which the rentals for the receational facilities exceeded a "fair rental" for such facilities, which respondent determined to be 10 percent of the cost of the facilities. Respondent would treat the present value of the obligation of the ultimate purchasers to pay "excessive rentals" over the 99 years as income to the Buckley Development 1977 Tax Ct. Memo LEXIS 243">270 Co., Ltd., in the first instance, which as partnership income would pass through to petitioners either directly or through their ownership of shares in qualified electing small business corporations which held partnership interests. Petitioners contend that the rental which the individual condominium purchasers assumed was paid pursuant to a 99-year lease of the recreational facilities and, as such, cannot be attributed to Buckley Development Co., Ltd., as a part of the purchase price of the condominium. While it must be assumed for the 1977 Tax Ct. Memo LEXIS 243">271 purposes of this decision that the rentals were excessive in relation to the cost of the recreational facilities, petitioners contend that the amounts paid nonetheless constituted rent, chargeable solely to the owners of the recreational facilities, citing Welsh Homes, Inc. v. Commissioner,32 T.C. 239">32 T.C. 239 (1959), affd. 279 F.2d 391">279 F.2d 391 (4th Cir. 1960); Estate of Simmers v. Commissioner,23 T.C. 869">23 T.C. 869 (1955), affd. 231 F.2d 909">231 F.2d 909 (4th Cir. 1956); Lipsitz v. Commissioner,21 T.C. 917">21 T.C. 917 (1954), affd. 220 F.2d 871">220 F.2d 871 (4th Cir. 1955).It is clear from the record in this case that the agreement between Herbert Buchwald, as trustee for the petitioners, and Herbert Buchwald, as trustee for Buckley Development Co., Ltd., the then owner of all of the condominium units in Buckley Towers, for the lease of the recreational facilities, did not represent an arm's-length transaction arrived at by negotiation between unrelated parties. From the outset, it was conceived as a means to enhance the overall profitability of the development. Respondent is fully justified in looking to the substance of the transaction for purposes of determining the resulting tax liabilities of the parties. Cf. e.g., Smith v. Commissioner,537 F.2d 972">537 F.2d 972 (8th Cir. 1976); 1977 Tax Ct. Memo LEXIS 243">272 Waterman Steamship Corporation v. Commissioner,430 F.2d 1185">430 F.2d 1185 (5th Cir. 1970), cert. denied 401 U.S. 939">401 U.S. 939; United States v. General Geophysical Company,296 F.2d 86">296 F.2d 86 (5th Cir. 1961); see also National Carbide Corp. v. Commissioner,336 U.S. 422">336 U.S. 422 (1949). The weakness of respondent's case lies on the remedy chosen. 4Respondent correctly points out that the purchasers of the individual condominium units were not in a position to negotiate with respect to the rentals to be paid for the recreational facilities. Hence, respondent would treat the present value of the obligation, assumed by the ultimate purchaser of these condominium units to pay so much of the rents for the recreational facilities, which may be considered "excessive," as part of the consideration received by Buckley Development Co., Ltd., from the sales of such units. Respondent argues that this characterization of the facts represents the substance of the transaction for tax purposes. Respondent cannot deny to petitioners the right to divorce ownership and control of the recreational facilities from the sale of the residential units. Whether all 1977 Tax Ct. Memo LEXIS 243">273 common facilities become a part of the cost of the development, or are to be treated separately, depends upon the contractual rights and obligations of the parties. The fact that the developer plans to maintain such facilities separate and apart from the sale of the residential units, and to realize a profit from the operation or subsequent sale of the common facilities, does not require that the consideration received for the use of such facilities be included as a part of the purchase price of the residential units. It is not uncommon for developers to incur costs for other land and improvements such as water and sewage systems, roadways, recreation areas and the like for the benefit of the development as a whole. Where the developer either dedicates such facilities for general use or transfers such facilities to the purchasers of the individual properties within the development for the purpose of inducing customers to buy such properties, such expenditures become a part of the cost of the properties to be sold. On the other hand, where the developer does not dedicate such facilities to the exclusive use of the property owners, but instead elects to make the facilities a commercial 1977 Tax Ct. Memo LEXIS 243">274 venture in and of itself, the cost of the facilities does not become a part of the basis of each property sold. Willow Terrace Development Co. v. Commissioner,345 F.2d 933">345 F.2d 933 (5th Cir. 1965); Gersten v. Commissioner,267 F.2d 195">267 F.2d 195 (9th Cir. 1959); Noell v. Commissioner,66 T.C. 718">66 T.C. 718 (1976); Derby Heights, Inc. v. Commissioner,48 T.C. 900">48 T.C. 900 (1967); Colony, Inc. v. Commissioner,26 T.C. 30">26 T.C. 30 (1956), affd. on other issues, 244 F.2d 75">244 F.2d 75 (6th Cir. 1957); Country Club Estates, Inc. v. Commissioner,22 T.C. 1283">22 T.C. 1283 (1954). While the recreational facilities in this case may have been constructed, in part, for the purposes of inducing customers to purchase condominium units, the lessor of these facilities retained complete control over their future use and development. Under the long-term "lease" between the condominium association and the owners of the recreational facilities, the owners merely gave the association a nonexclusive right of possession. The owners specifically reserved the right to make and enter similar lease arrangements. 51977 Tax Ct. Memo LEXIS 243">275 By virtue of the complete control which the owner of these recreational properties reserved over their future use and development, the rights retained by the lessor would have precluded inclusion of the cost of such facilities in the basis of the condominium units. Since the cost of the recreational facilities could not be considered a part of the cost of the project, the cost of these facilities would not have been recoverable, for tax purposes, from the sale of the condominium units. Cf. Cooper v. Commissioner,31 T.C. 1155">31 T.C. 1155 (1959). To include the present value of the excessive rentals from these facilities as a part of the proceeds of the sale of the condominium units would thus be contrary to the rationale of 345 F.2d 933">Willow Terrace Development Co. v. Commissioner, supra;267 F.2d 195">Gersten v. Commissioner,supra;66 T.C. 718">Noell v. Commissioner, supra;Derby Heights, Inc. v. Commission5r,supra;26 T.C. 30">Colony, Inc. v. Commissioner,supra;1977 Tax Ct. Memo LEXIS 243">276 22 T.C. 1283">Country Club Estates, Inc. v. Commissioner,supra and similar cases. According to the testimony of Herbert Buchwald, who was the principal partner in these transactions, the condominium concept in 1967 was relatively new in the Florida market when this project was organized. The condominium apartments were offered in competition with rental units. In order for Buckley Towers to be competitive in this market, the down payment had to be kept as low as possible and the monthly charges had to be kept within a range which was still competitive with the monthly rental of comparable rental units. By divorcing ownership of the recreational facilities from the condominium association, petitioners were able to reduce both the stated price of the condominium and the financing required to purchase the unit. This meant that the purchase price of a condominium unit, which ranged from $17,000 to $23,000, would be approximately $3,000 less than would have been the case if ownership of the recreational facilities had been vested in the condominium association. Such an increase would have adversely affected the marketability of the units. There is nothing in the record to suggest that the price 1977 Tax Ct. Memo LEXIS 243">277 range of $17,000 to $23,000 for these apartments was less than compensatory or less than what other developers were getting for similar condominium units.In fact, Buckley Development Co., Ltd., had a gross profit on such sales of approximately 8.9 percent in the fiscal year ending September 30, 1969, and of approximately 10.3 percent in the fiscal year ending September 30, 1970. The individuals who purchased these units were presumably willing purchasers who were aware that they were paying $19.50 to $28.00 a month for the use of what appears to be extensive recreational facilities. It may well be from the standpoint of the individual purchaser, these monthly charges were reasonable. Certainly if the purchaser were not willing to pay such charges, they could either have opted for a rental unit or have sought other condominiums which were not burdened by such recreational leases. It must be recognized that these particular units were not the only apartments in the Miami area. The position of the respondent in this case is bottomed on the proposition that the obligation to pay "excessive rentals" had a present value and that such value should be allocated to Buckley Development Co., 1977 Tax Ct. Memo LEXIS 243">278 Ltd., as a part of the proceeds of the sale of the individual units. The mere fact that the obligation has a present "value" does not warrant the adoption of this theory. There is little question that the obligation of any lessee to pay rent under a 99-year lease has a present value. But to attempt to tax the value of such a leasehold at the time that the lease is entered into, or when such obligation is assumed by a third party, would run directly counter to what has been the accepted practice, and presumably the law, since the first revenue act. 32 T.C. 239">Welsh Homes, Inc. v. Commissioner,supra;23 T.C. 869">Estate of Simmers v. Commissioner,supra;21 T.C. 917">Lipsitz v. Commissioner,supra.In the alternative, the respondent contends that the "value" of the obligation to pay the "excessive rentals" as of the date that such obligation was assumed by the individual purchasers of the condominium units should be allocated to Buckley Development Co., Ltd., pursuant to section 482. If such "value" does not constitute income in the first instance, there is nothing to allocate. Burleigh HouseWith respect to the development of Burleigh House, the petitioners, who were designated as the Group A Participants, entered 1977 Tax Ct. Memo LEXIS 243">279 into a joint venture with Burleigh House, Inc., a corporation, the stock of which was owned by Herbert Buchwald and Joseph Walan. Buchwald and Walan also held a 56.57 percent interest in the Group A Participation. Pursuant to the Joint Venture Agreement, the Group A Participants were to provide the funds necessary for Burleigh House, Inc., to close the purchase of certain property on which the Burleigh House condominium complex would be constructed. In partial consideration of the loan, the Group A Participants were granted an option to acquire the recreational and commercial facilities in the Burleigh House building. The option price was to be the cost of such facilities, including the prorated cost of the land, plus 10 percent. Once the recreational facilities were purchased, the agreement further provided that the Group A Participants would lease such facilities to the Burleigh House condominium owners association under a long-term net lease. On December 23, 1969, Herbert Buchwald, acting as trustee for the Group A Participants, purchased the recreational and commercial facilities in Burleigh House from Burleigh House, Inc., for the sum of $420,000. On the same day, also acting 1977 Tax Ct. Memo LEXIS 243">280 as trustee for the Group A Participants, Buchwald entered into a 99-year lease of such facilities to the Burleigh House condominium association for an annual base rent of $181,440. At that time, all the condominiums in Burleigh House were owned by Burleigh House, Inc., the stock of which was totally owned by Herbert Buchwald and Joseph Walan. By amendment to his answer, the respondent has determined that the Group A Participants realized income in 1969 as a result of the "bargain purchase" of the recreational and commercial facilities of the Burleigh House complex from Burleigh House, Inc. Respondent contends that the right to purchase such facilities at cost plus 10 percent was granted to the Group A Participants, in part, as consideration for the loan of the funds. Since this issue was first raised by respondent by amendment to his answer, respondent has the burden of proof. Estate of Horvath v. Commissioner,59 T.C. 551">59 T.C. 551 (1973). The parties have submitted this issue for decision reserving the right, if it should become necessary, to present evidence with respect to the fair market value of the property purchased by the Group A Participants pursuant to the option. For purposes 1977 Tax Ct. Memo LEXIS 243">281 of decision, however, it must be assumed that the Group A Participants made a "bargain purchase," whether by option or otherwise. Petitioners rely primarily on the contention that no income was realized as the result of the exercise of the option. E.g., McNamara v. Commissioner,210 F.2d 505">210 F.2d 505 (7th Cir. 1954). Petitioners make the point that no taxable gain is realized merely as the result of a bargain purchase. Palmer v. Commissioner,302 U.S. 63">302 U.S. 63 (1937). With that there can be no disagreement. In this case, however, there is more to the transaction than a mere bargain purchase arrived at through arm's-length negotiation between unrelated parties. The Group A Participants were neither strangers to each other nor strangers to the financial advantages of leasing condominium recreational facilities. All the members of the group who are petitioners herein were also participants in the leasing of the Buckley Towers recreational facilities. Further, Herbert Buchwald and Joseph Walan, who together owned 56.57 percent of the Group A Participation, also owned all of the shares of Burleigh House, Inc., and through such ownership controlled the Burleigh House condominium association at the 1977 Tax Ct. Memo LEXIS 243">282 time the long-term recreational lease was signed. It was understood from the outset that the recreational facilities in the Burleigh House project would be leased to the condominium association at a predetermined rental. It was further agreed that the Group A Participants would be permitted to purchase such facilities at cost plus 10 percent. These facilities comprised an integral part of the building and had no real value except as measured by the rentals to be paid by the condominium association. The rentals were wholly disproportionate to the purchase price of the facilities. The only consideration of record for granting to the Group A Participants the right to make the "bargain purchase" was the agreement on their part to provide the funds necessary to acquire the land for the Burleigh House development. The parties agree that a value representing "original issue discount" as defined in section 1232 must be taken into account and allocated to petitioners' cost or basis for the option in order to measure any gain realized upon the sale, exchange, or exercise of the option. In other words, pursuant to section 1232, and the regulations promulgated thereunder, some part of the 1977 Tax Ct. Memo LEXIS 243">283 loan made by petitioners to the developers should be allocated to the cost of the option, thereby reducing the petitioners' basis for the loan itself. This amount would be taxable when the loan is paid. Except for a determination of the amount itself, the parties are in agreement at this point. Petitioners contend that allocation of a basis or cost to the option, pursuant to section 1232, precludes the realization of taxable income or gain upon the exercise of the option. For purposes of this opinion, it may be assumed that a portion of the amount loaned by petitioners to the developers will be allocated as "original issue discount" to the option. The option thereby becomes a "call option," purchased for value, entitling the petitioners to buy the recreational facilities at a predetermined price. It is clear that under section 1232, and the regulations promulgated for the purpose of determining "original issue discount" in this type of case, it was not contemplated that income would be realized again upon the exercise of the option. The purchaser of a "call option" does not realize taxable income in the exercise of the option regardless of the fact that the value of the property 1977 Tax Ct. Memo LEXIS 243">284 thus acquired may greatly exceed its cost to the taxpayer. Realty Sales Co. v. Commissioner,10 B.T.A. 1217">10 B.T.A. 1217 (1928). See also Rev. Rul. 58-234, 1958-1 C.B. 279, 286.With respect to the Buckley Towers issue, a decision will be entered for the petitioners. With respect to the Burleigh House issue, except for the "original issue discount," which is taxable on repayment of the loan in 1970, a decision will also be entered for the petitioners. Prior thereto, the Court will order such further proceedings, if any, as may be necessary in order to determine the "original issue discount" to be allocated to the basis of the option to acquire the recreational facilities. Appropriate orders will be entered. Footnotes1. Cases of the following petitioners are consolidated herewith: James F. Gallagher and Helene Gallagher, docket No. 3859-73; Elliott Harris and Arlene F. Harris, docket No. 3860-73; Keith Charles Pasternak, a Minor by Alan S. Pasternak, Custodian and Guardian, docket No. 3861-73; Susan Jeanne Pasternak, a Minor by Alan S. Pasternak, Custodian and Guardian, docket No. 3862-73; Donald L. Pearce and Bernice B. Pearce, docket No. 3863-73; Theodore Sondov and Dina Sondov, docket No. 3864-73; Herbert Buchwald and Arlene Buchwald, docket No. 3865-73; Adalburt Buchwald and Helen Buchwald, docket No. 3866-73; Stuart L. Haas, docket No. 3867-73; Buchwald Enterprises, Inc., docket No. 3868-73; Joshua Sirkin and Carolyn Sirkin, docket No. 3869-73; Norman Jacobson and Mildred Jacobson, docket No. 3870-73; Herman Sondov and Rhea Sondov, docket No. 3871-73; Cantor Children's Trust, Beatrice Cantor and Herbert Buchwald, Trustees, docket No. 3872-73; Edward S. Millis and Minerva C. Millis, docket No. 3873-73; Joseph Nawalaniec and Irene Nawalaniec, docket No. 3874-73; Philip R. Stark and Elaine Stark, docket No. 3875-73; Sam Pasternak and Frieda Pasternak, docket No. 3876-73; Theodore Sondov and Dina Sondov, docket No. 3467-74; Herbert Buchwald and Arlene Buchwald, Adalburt Buchwald and Helen Buchwald; Leonard C. Cantor and Beatrice Cantor; William Friedman; James F. Gallagher and Helen Gallagher; Stuart L. Haas; Elliott Harris and Arlene F. Harris; Norman Jacobson and Mildred Jacobson; Edward S. Millis and Minerva Millis; Joseph Nawalaniec and Irene Nawalaniec; Alan S. Pasternak and Linda Pasternak; Donald L. Pearce and Bernice B. Pearce; Joshua Sirkin and Carolyn Sirkin; and Sam Pasternak and Frieda Pasternak, docket No. 5856-74.↩. In addition, respondent has determined certain additions of tax under Section 6653(a) of the Internal Revenue Code of 1954against petitioners, Norman Jacobson and Mildred Jacobson of $426.95 as a result of their alleged negligent failure to report any income in 1969 from Buckley Construction Company, Inc. Respondent and petitioners have agreed to defer this issue for a subsequent hearing, if necessary.2. All statutory references are to the Internal Revenue Code of 1954, as amended, unless otherwise indicated.↩*. Keith and Susan Pasternak are the children of Alan and Linda Pasternak, and Leonard and Beatrice Cantor are the parents of the children who are beneficiaries of the Cantor Children's Trust.3. In his brief, the respondent's position is summarized as follows: Section 61 of the Internal Revenue Code of 1954 (hereinafter referred to as Code) provides that a taxpayer is required to include in gross income gains derived from dealings in property. The amount of gain is the difference between the amount realized and the adjusted basis in the property sold. Code § 1001 (a); Treas. Reg. §§ 1.61-6(a), 1.1001(a). The amount realized is the sum of any money received plus the fair-market value of any property other than money received. Code↩ § 1001 (b). These cases involve the question of other property received on the sale of condominium units.4. See Lakeside Garden Developers, Inc. v. Commissioner,T.C. Memo 1976-290↩.5. There was no "lease" in the strict sense. When each condominium association undertook its obligation to pay its share of the rent under the so-called 99-year lease, and each individual purchaser assumed his pro rata share of that obligation, all he acquired was the privilege of sharing in the maintenance and use of the recreational facilities. This privilege is more analogous to a membership in a private club than ownership of a leasehold interest.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621936/	Universal Consolidated Oil Company v. Commissioner.Universal Consol. Oil Co. v. CommissionerDocket No. 85372.United States Tax CourtT.C. Memo 1961-246; 1961 Tax Ct. Memo LEXIS 96; 20 T.C.M. 1285; T.C.M. (RIA) 61246; August 31, 19611961 Tax Ct. Memo LEXIS 96">96 Richard F. Alden, Esq., 900 Wilshire Blvd., Los Angeles, Calif., for the petitioner. Marion Malone, Esq., for the respondent. TIETJENSMemorandum Findings of Fact and Opinion TIETJENS, Judge: The Commissioner determined a deficiency in income tax of $79,629.32 for 1956. The issues presented are (1) whether loans made by petitioner to its wholly-owned subsidiary became worthless in 1956; and (2) whether petitioner's investment in the capital stock of the subsidiary became worthless in 1956. Findings of Fact The stipulated facts are incorporated herein by reference. Petitioner is a California corporation with its principal office in Los Angeles. It filed its 1956 tax return on an accrual basis with the district director at Los Angeles. In August 1945, petitioner entered into negotiations with C. C. Cummings of Tulsa, Oklahoma, and his associates who were then undertaking the acquisition of the lessees' interests in certain oil leases in McClain County, Oklahoma. An informal written proposal by Cummings dated March 22, 1945 was accepted by petitioner and formalized in an agreement dated March 27, 1945. Under this agreement Cummings was to acquire certain oil1961 Tax Ct. Memo LEXIS 96">97 and gas leases covering approximately 1,400 acres in McClain County and was to be reimbursed by petitioner for costs incurred therein. Cummings was then to attempt to obtain a responsible operator to drill a test will. Both parties believed that this would be possible. If a suitable operator could not be obtained on terms acceptable to petitioner, then petitioner had the option to drill the well. All proceeds received from the project were to be applied first to reimburse petitioner for its costs including drilling costs if no operator could be found, and all further proceeds were to be divided between petitioner and Cummings; petitioner to get 50 per cent or if it had to drill, 75 per cent. Petitioner had intended in March 1945 to conduct the Oklahoma operations. However, when petitioner discovered that in order for a foreign corporation to qualify to transact business in Oklahoma it would be required to file its shareholders' list in a public office, it felt that this would not be in the best interests of the company, and a wholly-owned Oklahoma subsidiary, originally named Universal Consolidated Oil Company and later Universal Oil Company, was incorporated to carry out the Cummings1961 Tax Ct. Memo LEXIS 96">98 agreement and all other operations in Oklahoma. Petitioner paid $30,000 in cash for 3,000 shares of the subsidiary's $10 par value common stock during August 1945. An additional three shares were purchased as qualifying shares by the company's directors for $30 and later sold to petitioner for the same price. On September 27, 1945, the subsidiary acquired all the Cummings leases from petitioner. In connection with the acquisition of these leases the subsidiary executed a non-interest bearing demand promissory note dated July 20, 1945. This note was credited to the subsidiary's notes payable ledger account and carried by petitioner as a note receivable. The amount of the note, $65,212.42, represented the reimbursement which was due to Cummings and his associates for their expenses in obtaining leases in McClain County, and was paid directly to Cummings. Cummings was unable to obtain an acceptable operator to drill a test well and the subsidiary thereupon elected to drill a test well in accordance with the Cummings agreement. A company was employed by the subsidiary to drill the test well, under an agreement dated June 19, 1947. The test well, identified as the Moore #1, was centrally1961 Tax Ct. Memo LEXIS 96">99 located with respect to the leases acquired by Cummings in McClain County. Drilling operations started July 6, 1947. Further advances by petitioner to its subsidiary became necessary to meet the drilling costs. Such advances were made by petitioner in the form of checks payable to the subsidiary, as follows: November 5, 1946$ 10,000June 10, 194750,000July 11, 194725,000July 28, 194725,000November 7, 1947150,000January 8, 194825,000$285,000These advances were recorded on the subsidiary's notes payable ledger account, although formal promissory notes were not executed. The petitioner recorded them as notes receivable. It was agreed that these advances would all be repaid promptly when and if oil was produced in paying quantities. Since March of 1945 valuable oil discoveries had been made on structures apparently similar to the one which was believed to exist in the McClain County block of leases held by the subsidiary. The geologist employed by petitioner who was also the geologist for Cummings and his Oklahoma associates, believed that despite the failure to find an operator, drilling was amply warranted in order to protect the original1961 Tax Ct. Memo LEXIS 96">100 investment. The test well, however, did not produce oil in commercially paying quantities. It was drilled to a depth of 11,968 feet. Drilling operations ceased on December 20, 1947. Between December 20, 1947 and February 1951, no further drilling operations were undertaken, but certain of the leases were retained by the payment of delay rentals. In December 1948 and January 1949 the subsidiary acquired the "Peters" lease which covered an area of 80 acres. Four separate leases representing the total undivided interests of all the landowners of this parcel were executed as follows: DateLessorLesseeTerm12-28-48K. E. McAfee and Maxine M. McAfee et alSam Payne5 years1-19-49Hazel S. Kee, guardianSam Payne5 years12-28-48Opal L. Peters and H. C. PetersSam Payne5 years12-28-48Sam Gordon and Lola GordonSam Payne5 years Lease bonuses totaling $6,432.08 were paid to the owners for the "Peters" lease. Delay rental was set at $80 per year for the entire 80 acres. In February 1951 the subsidiary acquired new leases on the "Peters" lease from the landowners. Five separate leases representing the total undivided interests of all the1961 Tax Ct. Memo LEXIS 96">101 landowners of this parcel were executed as follows: DateLessorLesseeTerm2-26-51C. PlantSam Payne5 years2-26-51Lola GordonSam Payne5 years2-28-51Hazel S. Kee, guardianSam Payne3 years2- 7-51Opal L. Peters and H. C. Peters, et al.Sam Payne3 years2- 7-51K. E. McAfee and Maxine M. McAfee, et al.Sam Payne3 years Lease bonuses totaling $3,546.81 were paid to the owners for these five leases, and delay rental was set at $80 per year for the entire 80 acres. The Opal Peters lease and the McAfee lease expired on February 7, 1954, and the Kee lease expired on February 28, 1954. These three leases represented three-fourths of the undivided interest of the landowners of this property. The Plant lease and the Gordon lease represented one-fourth of the undivided interest of the landowners, and these two leases expired on February 26, 1956. The "Peters" lease was three miles east and nine miles south of the Moore #1 test, and in a different area from the drilling block which had been the subject of the Cummings agreement. One of the reasons this lease was taken was because of a proposed deep well test to be drilled in the area1961 Tax Ct. Memo LEXIS 96">102 by the Ashland Oil and Refining Company. The subsidiary agreed to make a $5,000 contribution to this test if it proved to be a dry hole. The well was drilled to 13,056 feet and proved to be dry in April 1952, whereupon the subsidiary paid $5,000 to Ashland as agreed. In 1953 the subsidiary needed additional funds in order to pay rent on certain of its leases which were retained in the belief they would still prove productive. On April 30, 1953, $5,000 was advanced by petitioner to enable the subsidiary to keep these leases alive. This advance was recorded by the subsidiary by a credit to its notes payable ledger account and carried by petitioner as a note receivable. On April 5, 1956, after petitioner's lease interests had expired, the Gulf Oil Company acquired five separate leases from the landowners of the "Peters" lease representing 54/80ths undivided interest in the property. From March 24, 1955 through May 11, 1956, Gulf Oil Company entered into seven oil and gas leases covering the 140 acres immediately to the north and adjacent to the so-called "Peters" lease and paid a lease bonus of not less than $50 per acre. On April 10, 1957, the Gulf Oil Company acquired three1961 Tax Ct. Memo LEXIS 96">103 additional leases on the "Peters" property representing the remaining 26/80ths undivided interest in the property. The net operating losses of the subsidiary are shown on its books as follows: 1945$ 1,835.8819464,000.711947227,506.22194843,435.97194932,343.32195017,509.4019518,248.9419526,920.3619531,077.5919547,735.03195527,699.401956 (dissolved6-4-56)2,316.71Total losses reported$380,629.53 Petitioner filed a consolidated income tax return with its subsidiary for the year 1947 and claimed thereon the net operating loss of $227,506.22. No consolidated income tax returns were filed by petitioner for any of the other years. The balance sheet of the subsidiary as shown on its income tax return at December 31, 1955 shows the following: Universal Oil CompanyAssetsCash$ 4,698.14Depletable assets (leases)1,738.76Organization expense482.70Total Assets$ 6,919.60Liabilities and CapitalNotes payable355,212.42Reserve for losses1,680.80Auth. CommonStock$100,000.00Unissued CommonStock69,970.00Outstanding Com-mon Stock$ 30,030.0030,030.00Surplus(380,003.62)Total Liabilities and Capital$ 6,919.601961 Tax Ct. Memo LEXIS 96">104 However, the balance sheet of the subsidiary as shown on its books at December 31, 1955, was as follows: Universal Oil CompanyAssetsUndeveloped properties$1,738.76Cash in Bank4,698.14Prepaid Rentals3.33Deferred Charge479.37Total Assets$6,919.60Liabilities and CapitalNotes Payable$6,919.60Reserve for Losses1,680.80Auth. Common Stock$100,000.00Unissued CommonStock69,970.00Outstanding CommonStock$ 30,030.00Surplus(31,710.80)(1,680.80)Total Liabilities and Capital$6,919.60 The subsidiary reduced the liability shown on its books to petitioner as notes payable for advances from petitioner by its annual net operating losses. Petitioner made corresponding reductions on its books on its notes receivable account. In 1956 the board of directors of petitioner voted to dissolve and liquidate the subsidiary. Upon liquidation of the subsidiary its only asset was cash in the bank of $4,602.89, which was paid to petitioner by a check dated June 26, 1956. All the outstanding stock of the subsidiary was surrendered by petitioner for cancellation at the time of the liquidation. Petitioner on its return for 1956 claimed1961 Tax Ct. Memo LEXIS 96">105 a bad debt deduction of $123,103.31 representing loans to its subsidiary. The Commissioner disallowed the deduction and determined the loans were actually worthless prior to the year 1956. Petitioner also claimed a loss for worthless stock of $30,030 which represented its investment in the subsidiary. The Commissioner determined that the stock was actually worthless prior to 1956 and disallowed the loss. Opinion As disclosed by the findings of fact, petitioner made numerous loans to its whollyowned subsidiary from 1945 to 1953. The first issue presented is when did these loans become worthless. It is the contention of the Commissioner that the demand promissory note of $65,212.42 became worthless prior to 1956, the year in which petitioner claimed the deduction, because the statute of limitations if pleaded would have barred collection. With respect to the loans totaling $285,000 he contends that inasmuch as they were not founded upon written instruments, they also became unenforceable prior to 1956 and were therefore worthless before that year. The Commissioner concedes that the loan of $5,000 on April 30, 1953 was an enforceable obligation on January 1, 1956. The Commissioner1961 Tax Ct. Memo LEXIS 96">106 in the course of argument admits that there are cases which indicate that the availability of the statute of limitations as a defense against collection is not in itself sufficient evidence of the worthlessness of a debt. See and the cases cited therein. However, he claims that the reason for these decisions is that the statute does not operate automatically but must be pleaded in defense and concludes that if the evidence had shown that the statute would have acted as a bar to collection in such cases, then it would have been determinative of the year of worthlessness. He maintains that in the instant case the evidence firmly established that the statute would have barred collection if pleaded. Continuing with respect to the statute of limitations, the Commissioner says that even though a suit was not brought by petitioner to collect the indebtedness it may be accepted that the subsidiary would have pleaded its obvious defense of the statute of limitations. His premise is that in order for a loan to be bona fide the transaction must be at arm's length and dealings at arm's length presuppose that each entity will act in its own1961 Tax Ct. Memo LEXIS 96">107 best interest. In , (S.D.Fla. 1954) the court considered whether the mere running of the statute of limitations was sufficient to establish the worthlessness of a debt where there had been no material change in the debtor's financial conditions, and concluded that: The availability of such a defense to a debtor is not a sufficient ascertainment of worthlessness to justify a charge off of a note or other debt; the running of the statute of limitations does not extinguish a debt or render it worthless, but merely provides the debtor with an affirmative defense which may be pleaded in an action instituted against him for the collection of a debt. * * * The same situation existed in the case before us. No material change occurred in the subsidiary's financial condition, the only change was the running of the statute of limitations. The fact that petitioner formed the subsidiary to explore oil possibilities in Oklahoma is not in controversy and we think it is clear from the oral testimony at the hearing that even though the statute of limitations had run, petitioner "had substantial reason to think [it] might nevertheless eventually1961 Tax Ct. Memo LEXIS 96">108 get part payment." (C.A. 6, 1932). Our rejection of the Commissioner's argument that the running of the statute of limitations was the identifiable event which established the worthlessness of the debts prior to 1956, does not lift the burden of proof from petitioner. Petitioner still must prove that the debts actually became worthless during 1956. (C.A. 1, 1946). On January 1, 1956, the subsidiary had cash on hand of $4,698.14. In addition it still held an undivided one-fourth interest in the 80-acre Peters lease. The testimony of witnesses called by both the Commissioner and petitioner was to the effect that this leasehold interest had a fair market value which they approximated at $50 per acre, or a total value of $1,000 for the one-fourth interest. That Gulf Oil executed leases on the same property following the expiration of the subsidiary's leases corroborates this testimony. Even though the cash and leaseholds were the only assets of the subsidiary on January 1, 1956 and a liquidation at that time would only have permitted the recovery of a fraction of the monies advanced, 1961 Tax Ct. Memo LEXIS 96">109 we think that such evidence clearly establishes that the debts were not completely worthless prior to 1956. Arguing further, the Commissioner takes a slightly different tack and claims that both petitioner and the subsidiary reduced the amount of the loans on their books to the extent of the subsidiary's operating loss for each year, which indicates that petitioner believed that the advances became worthless from year to year. Petitioner, as shown in the findings of fact, did file a consolidated return with the subsidiary in 1947 in which it claimed the $227,506.22 operating loss of the subsidiary as a deduction. However, there is no evidence in the record which indicates that petitioner made any attempt in subsequent years to take a partial deduction which would have required petitioner to comply with the statutory provisions with respect to the allowance of a deduction of a partially worthless debt. . The law is well settled that a "taxpayer who ascertained that he had suffered a partial bad debt loss might elect either to take an immediate deduction for the partial worthlessness, or, if he desired, wait until the debt was totally1961 Tax Ct. Memo LEXIS 96">110 worthless or until its ultimate disposition to take a deduction". . See also . Accordingly, on the worthless debt issue we hold for petitioner. The remaining question for decision concerns the deduction in 1956 by petitioner of $30,030 representing petitioner's capital investment in its wholly-owned subsidiary which it claimed as worthless stock. The deduction for worthless stock must be taken in the year when the stock becomes worthless. There is no partial deduction as in the case of a bad debt, and the deduction is lost if not taken in the year of worthlessness. . "[the] question of whether particular corporate stock did or did not become worthless during a given taxable year is purely a question of fact." . We are cognizant of the difficulty a taxpayer encounters in trying to pin down the loss to a precise year. Similarly, the Supreme Court in , said: The taxpayer points to the consequences1961 Tax Ct. Memo LEXIS 96">111 of error and other difficulties confronting one who in good faith tries to choose the proper year in which to claim a deduction. But these difficulties are inherent under the statute as now framed. Any desired remedy for such a situation, of course, lies with Congress rather than with the courts. It is beyond the judicial power to distort facts or to disregard legislative intent in order to provide equitable relief in a particular situation. In (C.A. 2, 1941), the Court of Appeals in commenting on the problem stated: In cases like this the taxpayer is at times in a very difficult position in determining in what year to claim a loss. The only safe practice, we think, is to claim a loss for the earliest year when it may possibly be allowed and to renew the claim in subsequent years if there is any reasonable chance of its being applicable to the income for those years. Petitioner predicates its argument that the stock became worthless in 1956 upon the proposition that as long as the subsidiary held the oil leases there was a probability of finding oil in sufficient quantities to repay the entire indebtedness of $355,212.42 and concludes1961 Tax Ct. Memo LEXIS 96">112 that the expiration in 1956 of the subsidiary's remaining leaseholds was the identifiable event which finally fixed the improbability that oil in commercial quantities would be obtained. This Court was confronted with the problem of ascertaining the year of worthlessness of stock in . After considering a number of cases on point, we concluded that From an examination of these cases it is apparent that a loss by reason of the worthlessness of stock must be deducted in the year in which the stock becomes worthless and the loss is sustained, that stock may not be considered as worthless even when having no liquidating value if there is a reasonable hope and expectation that it will become valuable at some future time, and that such hope and expectation may be foreclosed by the happening of certain events such as the bankruptcy, cessation from doing business, or liquidation of the corporation, or the appointment of a receiver for it. Such events are called "identifiable" in that they are likely to be immediately known by everyone having an interest by way of stockholdings or otherwise in the affairs of the corporation; but, regardless1961 Tax Ct. Memo LEXIS 96">113 of the adjective used to describe them, they are important for tax purposes because they limit or destroy the potential value of stock. The ultimate value of stock, and conversely its worthlessness, wil depend not only on its current liquidating value, but also on what value it may acquire in the future through the foreseeable operations of the corporation. Both factors of value must be wiped out before we can definitely fix the loss. If the assets of the corporation exceed its liabilities, the stock has a liquidating value. If its assets are less than its liabilities but there is a reasonable hope and expectation that the assets will exceed the liabilities of the corporation in the future, its stock, while having no liquidating value, has a potential value and can not be said to be worthless. The loss of potential value, if it exists, can be established ordinarily with satisfaction only by some "identifiable event" in the corporation's life which puts an end to such hope and expectation. There are, however, exceptional cases where the liabilities of a corporation are so greatly in excess of its assets and the nature of its assets and business is such that there is no reasonable1961 Tax Ct. Memo LEXIS 96">114 hope and expectation that a continuation of the business will result in any profit to its stockholders. In such cases the stock, obviously, has no liquidating value, and since the limits of the corporation's future are fixed, the stock, likewise, can presently be said to have no potential value. Where both these factors are established, the occurrence in a later year of an "identifiable event" in the corporation's life, such as liquidation or receivership, will not, therefore, determine the worthlessness of the stock, for already "its value had become finally extinct." * * In cases where the stock has concededly lost any liquidating value in a certain year, but an event occurs in a subsequent year which the taxpayer claims is "identifiable," and where the Commissioner of Internal Revenue has determined that stock became worthless in the year in which it lost its liquidating value, then the taxpayer, in order to be entitled to the loss deduction in the latter year, has the burden of proving that, although the stock lost its liquidating value in the prior year, it contined to have a potential value until the occurrence of the event. * * * As we view the evidence presented we do not1961 Tax Ct. Memo LEXIS 96">*115 think petitioner has established "that although the stock lost its liquidating value in [a] prior year, it continued to have a potential value" until the expiration of the leases in 1956. Under the facts presented it would have required the faith of "an incorrigible optimist" to have believed that oil would be found and the leases held by the subsidiary on January 1, 1956 would produce oil in sufficient quantities to discharge the subsidiary's indebtedness. . It follows that we hold the stock became worthless in some year prior to 1956. In which year it is unnecessary for us to decide. There is no necessary inconsistency in allowing the loss on the indebtedness and not the loss on the stock in the year in question. See . Decision will be entered under Rule 50.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621937/	LEO E. RICHARDS AND CATHERINE RICHARDS, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, RespondentRichards v. CommissionerDocket No. 2133-88United States Tax CourtT.C. Memo 1990-479; 1990 Tax Ct. Memo LEXIS 524; 60 T.C.M. 693; T.C.M. (RIA) 90479; September 4, 1990, Filed 1990 Tax Ct. Memo LEXIS 524">524 Decision will be entered under Rule 155. Leo E. Richards and Catherine Richards, pro se. John E. Budde, for the respondent. JACOBS, Judge. JACOBSMEMORANDUM FINDINGS OF FACT AND OPINION Respondent determined1990 Tax Ct. Memo LEXIS 524">525 a deficiency of $ 5,686 in petitioners' Federal income tax for 1983, and additions to tax pursuant to sections 6651(a)(1), 1 6653(a)(1), and 6653(a)(2) in the respective amounts of $ 1,373.47, $ 413.90, and 50 percent of the interest due on $ 5,493.87. The issues for decision are: (1) whether certain expenses deducted by petitioners were incurred while petitioner husband was "away from home" within the meaning of section 162(a)(2), which in turn depends upon whether petitioner husband's employment in New York City in 1983 was temporary or indefinite; (2) whether petitioners are entitled to a business expense deduction for the use of an automobile by petitioner husband; (3) whether petitioners are liable for the addition to tax under section 6651(a)(1) for failure to timely file their Federal income tax return; and (4) 1990 Tax Ct. Memo LEXIS 524">526 whether petitioners are liable for the additions to tax under section 6653(a)(1) and (2) for negligence or intentional disregard of rules or regulations. FINDINGS OF FACT Some of the facts have been stipulated and are so found. The stipulation of facts and accompanying exhibits are incorporated herein by this reference. Leo E. Richards resided in Brooklyn, New York, and Catherine Richards resided in Canton, Ohio, at the time they filed their petition. They filed a joint Federal income tax return for 1983 on March 10, 1985. Leo E. Richards is herein referred to singularly as petitioner, and he and Catherine Richards as petitioners. Petitioner, an electrician by trade, is a member of the International Brotherhood of Electrical Workers Local Union No. 540, which is based in Canton, Ohio. From 1970 to 1977, he worked in the Canton, Ohio area. After 1977, he worked outside Canton on several jobs that typically lasted a month or two. Upon completion of these projects, he returned to work locally in Canton. Petitioners and their child resided in their Canton home prior to and during 1982. They owned rental property in the Cleveland, Ohio, area. Due to an economic slump in1990 Tax Ct. Memo LEXIS 524">527 the Canton area, petitioner left Canton in August 1982, seeking employment as an electrician in New York City. Shortly after his arrival in New York, he obtained employment with Lord Electric Company to work on a subway contract it had received. After approximately 6 months, he was laid off; thereafter, he contacted the business administrator of his local union in Canton for job availability there. He was informed that no work was available in Canton; therefore, he remained in New York. Following his layoff with Lord Electric in early 1983, petitioner obtained employment in New York City with Arc Electric Construction Company. In April 1983, petitioner entered into a 1-year lease for an apartment in Newark, New Jersey. Although he had his car with him, petitioner regularly commuted from Newark to the job site in New York by train and subway. While with Arc Electric, he worked on the World Financial Center project. He worked there for approximately 8 months, after which he was laid off. After being laid off by Arc Electric, petitioner found employment in New York for the remainder of 1983. He stayed in the New York area until August 1984, at which time he returned to Canton1990 Tax Ct. Memo LEXIS 524">528 to work on the Timkin Steel Mill project. This job lasted approximately 18 months. On Form 2106 (Employee Business Expense) attached to petitioners' joint 1983 return, petitioner claimed $ 2,008 in travel expenses, $ 13,041 in meals and lodging, and $ 5,345 in automobile expenses. The automobile expenses were calculated using the aggregate of actual expenses plus the standard mileage rate. Respondent disallowed all the claimed expenses. In 1987, petitioners were divorced. Petitioner thereafter moved to New York. OPINION 1. Travel ExpensesSection 162(a) generally allows for the deduction of all ordinary and necessary expenses paid or incurred in carrying on a trade or business. Deductible ordinary business expenses include travel expenses (including meals and lodging) incurred while away from home in the pursuit of a trade or business. Sec. 162(a)(2). Generally, a taxpayer's "home" for purposes of section 162(a) is the area or vicinity of his principal place of employment. . An exception to this rule exists, however, where a taxpayer's principal place of business is temporary rather than indefinite.1990 Tax Ct. Memo LEXIS 524">529 . In that situation, the taxpayer's personal residence may be his "tax home." Petitioner argues that his employment in New York City was temporary because he intended to return to Canton when work in the Canton area became available. Respondent, on the other hand, contends that Canton was not petitioner's residence during 1983, and that petitioner's employment in New York City for the year at issue was indefinite rather than temporary. Therefore, respondent argues, petitioner's claimed travel, meals, and lodging deductions are not allowable. Respondent's determinations are presumed correct. Petitioner bears the burden of proving otherwise. ; Rule 142(a). Employment is indefinite if its termination cannot be foreseen within a fixed or reasonably short period of time. ; , affd. per curiam . The temporary versus indefinite test is a factual question, and "employment which was temporary1990 Tax Ct. Memo LEXIS 524">530 may become indefinite if it extends beyond the short term. Also, employment which merely lacks permanence is indefinite unless termination is foreseeable within a short period of time." ; see also ; . Petitioner failed to show that his employment in New York during 1983 was temporary rather than indefinite. Irrespective of petitioner's stated intent to return to Canton, we are unable to conclude on the facts before us that termination of petitioner's employment in New York could have been foreseen within a fixed or relatively short period of time after he left Canton. At best, petitioner has shown that his employment in New York lacked permanence, but this by itself does not make petitioner's employment in New York temporary. , affg. a Memorandum Opinion of this Court. In our view, petitioner's conduct is inconsistent with the foreseeability of termination of employment in New York within a reasonably short1990 Tax Ct. Memo LEXIS 524">531 time. Petitioner embarked on a series of jobs that resulted in two years of continuous employment (August 1982 - August 1984) in New York City. His return trips to Canton were devoted to personal activities -- visiting his family. Further, in April 1983, he entered into a 1-year lease a short distance from New York City. We thus conclude that petitioner's employment in New York was indefinite; hence, we sustain respondent's determination with respect to this issue. 2. Automobile ExpensesThe next issue is whether petitioners are entitled to deduct the expenses of operating their automobile. Section 167 permits a depreciation deduction for property used in a trade or business or held for the production of income. Petitioners have not shown the requisite business use, if any, of the automobile. While petitioner was employed in New York, there is no evidence that the automobile was used other than to commute to work. In fact, the testimony indicates that the automobile was rarely used at all. Petitioner points to the fact that he used the automobile to travel from New York to Canton to visit his family and that he had rental property in Cleveland to support entitlement1990 Tax Ct. Memo LEXIS 524">532 to the claimed deductions. These facts are not sufficient to show that he actually visited the rental property or to permit an allocation between business and personal use of the automobile. Since petitioners have failed in their burden of proof, we sustain respondent's determination on this issue. 3. Section 6651(a)(1) Addition to TaxSection 6651(a)(1) provides for an addition to tax for failure to timely file a return. The addition to tax is inapplicable, however, if the taxpayer shows that such failure to file is due to reasonable cause and not to willful neglect. Section 301.6651-1(c)(1), Proced. and Admin. Regs., provides in part, that if the "taxpayer exercised ordinary business care and prudence and was nevertheless unable to file the return within the prescribed time, then the delay is due to reasonable cause." Petitioners filed their 1983 Federal income tax return almost one year late. Petitioner contends that his employment in New York prevented him from assembling the information necessary to prepare a complete return. This, in our opinion, does not constitute reasonable cause; an individual exercising ordinary business care and prudence would in most cases1990 Tax Ct. Memo LEXIS 524">533 keep adequate records sufficient to enable him to fulfill the obligation imposed by law to timely file income tax returns. Moreover, petitioners did not seek an extension of time in which to file their tax return. Accordingly, we sustain respondent's determination on this issue. 4. Section 6653(a) Additions to TaxSection 6653(a)(1) provides an addition to tax if any part of an underpayment of tax is due to negligence or intentional disregard of rules and regulations. Section 6653(a)(2) provides an addition to tax in the amount of 50 percent of the interest due on the portion of the underpayment attributable to negligence. Negligence has been defined as a lack of due care or failure to do what a reasonable and ordinarily prudent person would do under the circumstances. ; . Respondent's determination that the underpayment was due to negligence is presumptively correct, and petitioners bear the burden of proving otherwise by a preponderance of the evidence. , affd. ;1990 Tax Ct. Memo LEXIS 524">*534 . Given the close, factual nature of the deductibility of petitioner's "away-from-home" expenses, we find that so much of the underpayment as is attributable to the disallowance of the claimed deduction for his travel, meals and lodging expenses ($ 15,049) is not attributable to negligence. On the other hand, petitioners have failed to prove they were not liable for negligence for the disallowed automobile expenses. Accordingly, we sustain respondent's determination under section 6653(a)(1). We also sustain respondent's determination under section 6653(a)(2) but only to the extent of the underpayment attributable to the claimed $ 5,345 for automobile expenses. To reflect 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 for the year at issue. All Rule references are to the Tax Court Rules of Practice and Procedure.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621938/	PERKINS LAND & LUMBER CO., PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Perkins Land & Lumber Co. v. CommissionerDocket Nos. 11363, 17041.United States Board of Tax Appeals9 B.T.A. 528; 1927 BTA LEXIS 2570; December 9, 1927, Promulgated 1927 BTA LEXIS 2570">2570 1. Petitioner's deductions for officers' salaries approved. 2. Deficiencies held not barred. Frank E. Seidman, C.P.A., and Jacob S. Seidman, Esq., for the petitioner. Orris Bennett, Esq., for the respondent. SIEFKIN9 B.T.A. 528">528 These are proceedings for the redetermination of deficiencies in income and profits taxes for the years 1919, 1920, and 1921 in the amounts of $1,119.58, $3,962, and $653.51, respectively. The issues are as to deductions for officers' salaries and as to whether the statute of limitations bars assessment and collection. At the hearing the respondent amended his answer by alleging that certain salaries allowed by him as deductions were not properly allowable. An issue of the statute of limitations as to the year 1919 was abandoned by petitioner at the hearing, as to the amount of the deficiency asserted by the respondent in his notice of deficiency, but no more. FINDINGS OF FACT. Petitioner is a corporation which, during the years involved, was engaged in the purchase and sale of timber. It was incorporated in 1906 with a paid-in capital of $20,000. May 21, 1918, the capital stock was increased to $80,000, 1927 BTA LEXIS 2570">2571 the increase of $60,000 par value being issued to G. W. Perkins, Sr., for his interest in an office building. On the same day the following agreement was executed: THIS AGREEMENT, made this 21st day of May, 1918, by and between PERKINS LUMBER COMPANY (a Michigan corporation whose name has by action of the stockholders, been changed to PERKINS LAND & LUMBER COMPANY, but which action is not yet effective), first party, and CHARLES F. PERKINS and GAIUS W. PERKINS, JR., co-partners as PERKINS BROTHERS, second parties, WITNESSETH: First party hereby, for the consideration, and upon the terms hereinafter named, gives and grants unto second parties the exclusive right to sell all lumber, timber and forest products which it now owns or may hereafter purchase in the regular course of business, hereby making and constituting second parties its sole sales agents. In consideration of the foregoing, second parties hereby agree to market and sell all lumber, timber and forest products now belonging to first party or hereafter acquired by it in the regular course of business. Second parties agree to pay to first party for all lumber, timber and forest products as sold by second parties, 1927 BTA LEXIS 2570">2572 the entire cost to first party of such products so sold, including freight and all additional expenses (but not deducting any discounts); and in addition thereto the sum of one dollar per thousand feet; and first party agrees to accept the aforesaid price for all such products. 9 B.T.A. 528">529 Settlements shall be made between the parties hereto on the first of each month, for all proceeds received during the preceding month from sales made by second parties. First party agrees to take in settlement customers' paper taken by second parties, and assignments of accounts of second parties against customers; without, however, assuming responsibility for the ultimate payment of said paper or accounts. In case any customers' paper or account taken by first party in settlement as aforesaid is not paid when due, or within a reasonable time thereafter, the same is to be charged back to second parties and settlement made therefor by second parties in accordance with this agreement of the first of the next ensuing month. First party hereby assigns to second parties and second parties hereby assume all outstanding sales contracts of first party with any of its customers, and second parties1927 BTA LEXIS 2570">2573 agree to carry out the same upon the terms and conditions of this contract. Second parties also agree that they will, without additional compensation, give such time and services as first party may require to the purchasing for first party of lumber, timber, and forest products; and that they will in the offices furnished by first party, conduct at their own expense, the entire bookkeeping of first party, so that first party shall be at no expense for the conduct of its office beyond the rental of such office and such salaries as it may pay to its officers. The period of this contract shall be one (1) year from and including May 1, 1918; and thereafter for further periods of one (1) year unless either of the parties hereto shall on or before sixty (60) days from the termination of any such year's period, notify the other party in writing that it or they desire this contract to be terminated at the end of such year. IN WITNESS WHEREOF, first party has executed this instrument by its president under the authority of its stockholders and directors and second parties have executed the same, this day and year first above written. On December 4, 1919, a special meeting of the1927 BTA LEXIS 2570">2574 board of directors of petitioner was held, at which the following resolution was adopted: RESOLVED, that the seventh paragraph of the certain agreement in writing dated May 21, 1918 between this corporation as first party and Charles F. Perkins and Gaius W. Perkins, Jr. co-partners as Perkins Brothers, second parties, be and the same is hereby amended, such amendment to take effect as of January 1, 1919, namely: Insert in place of said seventh paragraph the following: "Second parties also agree that they will, in consideration of such reasonable compensation as may be from time to time fixed by the Board of Directors of first party, give such time and services as first party may require, to the purchasing for first party of lumber, timber and forest products; and that they will, in the offices furnished by first party, conduct at their own expense the entire bookkeeping of first party, so that first party shall be at no expense for the conduct of its office beyond the rental of such office and such salaries as it may pay to its officers." The following resolution being made and supported, was adopted by the unanimous vote of all the Directors present, namely: WHEREAS, under1927 BTA LEXIS 2570">2575 the certain written contract dated May 21, 1918, by and between this corporation as first party and Charles F. Perkins and Gaius W. Perkins, Jr., co-partners as Perkins Brothers, second parties, it was agreed that second parties should, without additional compensation, give such time and services as first party might require to the purchasing for first party of lumber, 9 B.T.A. 528">530 timber and forest products, the said Charles F. Perkins being the Vice-President of this Company and the said Gaius W. Perkins, Jr. being the Secretary and Treasurer of this Company, and both of them being active in its management; and WHEREAS, the said Charles F. Perkins and Gaius W. Perkins, Jr., have since January 1, 1919, given considerably more attention to the business of this Company and to the purchasing for first party of lumber, timber and forest products, and their services generally having been of much more value to this Company than was contemplated at the time of the making of the contract aforesaid, and it being the belief of the Board of Directors that the said Charles F. Perkins and Gaius W. Perkins, Jr. should be compensated for their services as officers of this Company in the active1927 BTA LEXIS 2570">2576 management of its business since January 1, 1919; Now therefore, BE IT RESOLVED, that the salary of the Vice-President of this Company be fixed at $7,500.00 per year, and that of the Secretary and Treasurer be fixed at $7,500.00 per year, the same to take effect on January 1, 1919, and to continue until further action of this Board; both said salaries to be payable only at such time as this Company shall have on hand cash sufficient to retire all its current liabilities. Officers' salaries authorized, sales, net profits after taxes, and capital and surplus of petitioner for the years 1915 to 1921, inclusive, were as follows: Officers' salariesYearG. W.G. W.C. F.Sales 1Net profitsCapital andPerkinsPerkins, Jr.Perkinsafter taxessurplus1915$2,400.00$3,000.00$6,000.00$287,677.08$5,688.72$58,521.7419162,400.003,000.006,000.00407,242.475,672.2064,210.4619172,400.007,000.0010,000.00443,692.8122,770.1157,882.6619187,466.672,333.333,333.33263,933.995,732.88132,276.71191910,000.007,500.007,500.00636,794.1113,262.37145,539.08192010,000.007,500.007,500.00604,625.7422,932.50169,853.18192110,000.007,500.007,500.00222,299.311,377.93169,727.961927 BTA LEXIS 2570">2577 YearYardDirect1918$122,242.03$141,691.961919204,477.79432,316.321920347,902.58256,723.161921122,413.5299,885.79The stockholdings in petitioner during the periods in question were: Jan. 1, 1919, to Dec. 14, 1920Dec. 14, 1920, to Dec. 31, 1921SharesSharesG. W. Perkins, Sr7,00013,125C. F. Perkins500937 1/2G. W. Perkins, Jr500937 1/2Total8,00015,0009 B.T.A. 528">531 C. F. Perkins, the vice president of petitioner, during the years in question, started in business in 1890 as purchasing agent for the Grand Rapids Screw Furniture Co;, later merged in the American Seating Co., and remained with that company for 10 years, receiving a salary of $200 a month from that company. During the last four years of such employment he was also a partner in and the buyer for Longfellow and Perkins, doing a business of about $100,000 a year and from which he received earnings of four or five thousand dollars a year. In 1900 he formed a new partnership to buy and sell lumber at wholesale in which he had a one-fourth interest, and which became the predecessor business1927 BTA LEXIS 2570">2578 of the petitioner. His duties with petitioner were the buying and selling. G. W. Perkins, Jr., had been in the wholesale lumber business since 1903, with the petitioner since its incorporation as secretary and treasurer. His duties were to take charge of the office end of the business. G. W. Perkins, Sr., had a long experience in the lumber business, was the president and active head of the petitioner's business, and was instrumental in obtaining much of the business of the petitioner. His services consisted largely of handling the financing of petitioner. He personally endorsed all the paper of the petitioner. He was also in charge of the operations of the office building owned by the petitioner, made the leases and had charge of the rents and repairs. From its beginning the petitioner was undercapitalized for its volume of business, and the officers drew as small salaries as possible in order to leave money in the business+ In 1918 the two sons, G+ W+ Perkins, Jr., and C. F. Perkins, in order to increase their earning capacity above the salaries drawn from the corporation, and after conference with their father, formed the partnership of Perkins Brothers and executed1927 BTA LEXIS 2570">2579 the contract with petitioner set forth above. Within two or three months the parties found that the contract proved unworkable because, at that time, much lumber was being bought by petitioner that could not be sold at once and, since it was stored and commingled, there was no equitable way of arriving at a price on which the compensation should be paid. Nevertheless, Perkins Brothers continued to sell lumber for the petitioner though, in about half the sales, without profit to the partnership. This situation was discussed at various times between the father and sons, and it was agreed to change. The resolution above was the result of such agreement. The salaries authorized for 1919, 1920, and 1921 to C. F. Perkins and G. W. Perkins, Jr., were charged on the books of petitioner during each of the years in question but were not paid until 1922. Petitioner's books were kept, and its tax returns made, on an accrual basis. 9 B.T.A. 528">532 Petitioner filed the following instruments with the Bureau of Internal Revenue. At some time after filing the Commissioner of Internal Revenue or someone acting for him signed such instruments. INCOME AND PROFITS TAX WAIVER FOR TAXABLE YEARS1927 BTA LEXIS 2570">2580 ENDED PRIOR TO JANUARY, 1, 1922 JANUARY 18, 1926. In pursuance of the provisions of existing Internal Revenue Laws Perkins Land and Lumber Company a taxpayer of Grand Rapids, Michigan, and the Commissioner of Internal Revenue hereby waive the time prescribed by law for making any assessment of the amount of income, excess-profits, or war-profits taxes due under any return made by or on behalf of said taxpayer for the year 1920 under existing revenue acts, or under prior revenue acts. This waiver of the time for making any assessment as aforesaid shall remain in effect until December 31, 1926, and shall then expire except that if a notice of a deficiency in tax is sent to said taxpayer by registered mail before said date and (1) no appeal is filed therefrom with the United States Board of Tax Appeals then said date shall be extended sixty days, or (2) if an appeal is filed with said Board then said date shall be extended by the number of days between the date of mailing of said notice of deficiency and the date of final decision by said Board. PERKINS LAND & LUMBER CO. Taxpayer.By G. W. PERKINS, Jr. Treas.D. H. BLAIR Commissioner. WB INCOME AND PROFITS1927 BTA LEXIS 2570">2581 TAX WAIVER FOR TAXABLE YEARS ENDED PRIOR TO JANUARY 1, 1922 JANUARY 18, 1926. In pursuance of the provisions of existing Internal Revenue Laws Perkins Land and Lumber Co., a taxpayer of Grand Rapids, Michigan, and the Commissioner of Internal Revenue hereby waive the time prescribed by law for making any assessment of the amount of income, excess-profits, or war-profits taxes due under any return made by or on behalf of said taxpayer for the year 1921 under existing revenue acts, or under prior revenue acts. This waiver of the time for making assessment as aforesaid shall remain in effect until December 31, 1926, and shall then expire except that if a notice of a deficiency, in tax is sent to said taxpayer by registered mail before said date and (1) no appeal is filed therefrom with the United States Board of Tax Appeals then said date shall be extended sixty days, or (2) if an appeal is filed with said Board then said date shall be extended by the number of days between the date of mailing of said notice of deficiency and the date of final decision by said Board. PERKINS LAND & LUMBER COMPANY Taxpayer.By G. W. PERKINS, Jr. Treas.D. H. BLAIR Commissioner.1927 BTA LEXIS 2570">2582 WB 9 B.T.A. 528">533 OPINION. SIEFKIN: In his deficiency notice for the year 1919, respondent allowed $5,000 salary to each C. F. Perkins and G. W. Perkins. Jr., although $7,500 was duly authorized and paid to each. By amendment of his answer at the hearing, respondent alleged no amount should be allowed as salary to either. In his deficiency letter for the years 1920 and 1921, respondent allowed only $1,000 of a $10,000 salary authorized and paid G. W. Perkins, Sr., but allowed $7,500 each authorized and paid to C. F. Perkins and G. W. Perkins, Jr. By amendment of his answer at the hearing, respondent alleged that the allowance of $7,500 each to C. F. Perkins and G. W. Perkins, Jr., was erroneous. As to the salaries of C. F. Perkins and G. W. Perkins, Jr., it is the contention of the respondent that, under the above resolution, notwithstanding the action authorizing the salaries and the resulting credits on the books of petitioner, a liability for salary did not exist and that any such liability was contingent upon future events, since the resolution stated that - said salaries to be payable only at such time as the company shall have on hand cash sufficient to retire all1927 BTA LEXIS 2570">2583 its current liabilities. As to the salary of G. W. Perkins, Sr., respondent contends that $1,000 a year is a reasonable allowance for the years 1920 and 1921, basing such contention upon his age, his failure to spend more than a part of his time at petitioner's place of business and the competence of his two sons to properly handle the business. No such issue is raised by the respondent for the year 1919. It is in evidence and uncontroverted that the three officers were men of long experience and of demonstrated abilities. The services were actually rendered, the salaries were duly authorized by appropriate action of the board of directors, and the salaries incurred were accrued upon the books of account of petitioner. After a careful consideration of all the evidence we are of opinion that the salaries were reasonable and they were ordinary and necessary expenses of the business. We are unable to agree with the contention of respondent that the provision for deferment of the payment in cash of the liabilities of petitioner for these salaries until such time as the petitioner was possessed of sufficient cash to retire all its current liabilities operated to relieve petitioner1927 BTA LEXIS 2570">2584 of the liabilities. Petitioner was on the accrual basis and in our opinion, whether it quickly discharged in cash its liabilities for salaries is immaterial. We therefore conclude that the salaries of the three officers accrued upon the books and claimed as deductions from income should be allowed. 9 B.T.A. 528">534 On the question of the statute of limitations petitioner makes two contentions. So far as the year 1919 is concerned petitioner abandons the issue of the statute of limitations, except so far as the deficiency asserted by the respondent may be increased because of the amendment of respondent's answer. In view of our decision above, therefore, we need not pass upon 1919. As to the years 1920 and 1921, the petitioner contends that the "income and profits tax waivers" set out in our findings of fact, not being signed personally by the Commissioner and it not appearing by whom and when they were signed on behalf of the Commissioner, were inadmissible in evidence and ineffective to extend the statutory period of limitations. A witness on behalf of respondent, however, identified the instruments as part of the official files in the Bureau of Internal Revenue. 1927 BTA LEXIS 2570">*2585 Both contain a signature purporting to be that of "D. H. Blair, Commissioner," and the witness testified to a practice in the Bureau to sign such "waivers" as soon as received. In view of all the facts, and also taking into consideration our belief that it is not necessary that the Commissioner personally sign all "waivers" in order to have a valid consent in writing, it is our opinion that the time was extended and that assessment and collection are not barred. See . Reviewed by the Board. Judgment will be entered on 15 days' notice, under Rule 50.Footnotes1. Classification of sales. ↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621940/	SHILA D. MacDONALD, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, Respondent; SCOTT D. MacDONALD, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, Respondent; BETTY JOS BEAUTY SALON, INC., Petitioner v. COMMISSIONER OF INTERNAL REVENUE, RespondentMacDonald v. CommissionerDocket Nos. 2670-80, 2671-80, 3035-80.United States Tax CourtT.C. Memo 1982-270; 1982 Tax Ct. Memo LEXIS 480; 43 T.C.M. 1381; T.C.M. (RIA) 82270; May 17, 1982. Terry S. Shilling and Robert J. Fetterman, for the petitioners. Barbara A. McCaskill, for the respondent. NIMSMEMORANDUM FINDINGS OF FACT AND OPINION NIMS, Judge: In these consolidated cases, respondent determined a deficiency in petitioner Betty Jos Beauty Salon, Inc.'s (Docket No. 3035-80) Federal income tax for the year 1976 of $ 20,664.02. Respondent further determined that petitioners Shila D. MacDonald and Scott D. MacDonald (Docket Nos. 2670-80 and 2671-80, respectively) were liable as transferees of the assets of Betty Jos Beauty Salon, Inc. for the above-mentioned deficiency in Federal income tax of Betty Jos Beauty Salon, Inc., together with interest thereon as provided by law. Due to1982 Tax Ct. Memo LEXIS 480">481 concessions by the petitioners, 1 the sole issue for decision is whether the receipt of $ 30,000 allocated to a covenant not to compete in an agreement selling virtually all of the assets of Betty Jos Beauty Salon, Inc. after a plan of complete liquidation was adopted is accorded non-recognition treatment under section 337. 2FINDINGS OF FACT Some of the facts have been stipulated. The stipulation of facts and the exhibits attached thereto are incorporated herein by reference. Petitioner Shila D. MacDonald and Scott D. MacDonald, wife and husband, resided at North Olmsted, Ohio, at the time their petitions were filed. Petitioner Betty Jos Beauty Salon, Inc., was an Ohio corporation with its principal place of business at North1982 Tax Ct. Memo LEXIS 480">482 Olmsted, Ohio. Betty Jos Beauty Salon, Inc. ("Betty Joe") was incorporated in 1961 by Betty I. Colli. Prior to 1976, the corporation owned and operated salons at six or seven locations in the western suburbs of Cleveland, Ohio. From Betty Jos' inception, Betty I. Colli owned virtually its entire stock and managed its day-to-day affairs. A small portion of the stock of Betty Jos, however, was owned by Shila MacDonald, Betty I. Colli's daughter. In June 1974, Shila and Scott MacDonald purchased Betty I. Colli's remaining shares in Betty Jos for $ 85,000. Thereafter, Shila and Scott MacDonald each held 50 percent of the stock of Betty Jos. In connection with the purchase, Betty I. Colli signed a covenant not to compete with Betty Jos. Betty I. Colli continued to work at Betty Jos until July, 1976. Shila and Scott MacDonald operated Betty Jos (with the assistance of Betty I. Colli) up through July of 1976. Shila, in addition to managing the corporation, was a beautician licensed by the State of Ohio and spent two days each week serving customers personally. Scott was a corporate pilot for TRW, temporarily out of work between 1974 and 1976. During that period he did cleaning1982 Tax Ct. Memo LEXIS 480">483 and remodeling work for six shops owned by Betty Jos. In March, 1976, Scott stopped working for Betty Jos and returned to his prior job with TRW. Increasingly after 1974, the MacDonalds' found the operation of Betty Jos to be burdensome. In early 1976 they decided to sell the corporation. They asked H. Ernst Veith ("Veith"), their accountant, to look for a buyer. Veith found an interested party: Adam Hetzel ("Hetzel"). The MacDonalds gave Veith full authority, along with William R. Giesser ("Giesser"), an attorney, to negotiate both the price and terms of a sale agreement with Hetzel. Hetzel, in turn, authorized Mervin L. Goldberg ("Goldberg"), an attorney, to negotiate with Veith and Giesser. Originally, Veith proposed to Goldberg a sale of all of the MacDonalds' stock in Betty Jos for $ 110,000. Hetzel, however, was not interested in owning the corporation, but rather desired its assets as a going business. A $ 100,000 figure was arrived at between the parties. At this point Goldberg and Giesser, the attorneys, began preparing the specifics of the deal. A letter of intent was sent by Goldberg to Giesser on July 2, 1976, setting out, preliminarily, the terms of1982 Tax Ct. Memo LEXIS 480">484 the deal. According to this letter, the buyer would purchase all existing equipment, leasehold improvements, inventory and goodwill of the six existing Betty Jo Salons from the seller. In addition the seller would assign all leases for the six salons and "a presently existing non-competition agreement between Betty Jo Colli and the seller" to the buyer. Paragraph 7 of the letter of intent stated: 7. The seller agrees that the purchase price shall be allocated as follows: (a) $ 10,000 per salon ($ 60,000) for the equipment and leasehold improvements contained therein. (b) $ 30,000 for a five year, 10 mile radius, non-competition clause by the seller, with the exception that Shila MacDonald may work for Adam Hetzel without being in violation. (c) $ 10,000 for goodwill. The letter of intent contained blank lines for the signatures of Adam Hetzel, Shila MacDonald, Scott MacDonald, "Betty Jo, Inc." and William R. Giesser (as proposed escrow agent) on which the respective parties were to indicate agreement with the letter. Only Hetzel signed the letter of intent. On July 10, 1976, Giesser sent a revised copy of the original letter of intent to Goldberg. The revised letter, 1982 Tax Ct. Memo LEXIS 480">485 also dated July 2, 1976, followed the format of the original letter, but made several minor changes -- among other things, reference to the pre-existing non-competition agreement of Betty I. Colli was removed and paragraph 7 was altered to read as follows: 7. The seller agrees that the purchase price shall be allocated as follows: (a) $ 10,000 per salon ($ 60,000) for the equipment and leasehold improvements contained therein. (b) $ 30,000 for a five year, 10 mile radius, non-competition clause by the seller, with the exception that Shila MacDonald may work as a beautician for Adam Hetzel or any other Beauty shop of her choice without being in violation. (c) $ 10,000 for goodwill. On the signature lines following the terms of the contract, Hetzel, Shila MacDonald, Scott MacDonald and Giesser all signed as individuals. On the signature line for "Betty Jo, Inc.," Shila MacDonald signed in her capacity as president of the corporation. On July 21, 1976, Giesser sent a draft "Agreement of Sale of Corporate Assets" to Goldberg for his perusal. This draft agreement generally followed the terms of the agreed-to letter of intent, but with some important modifications: First, 1982 Tax Ct. Memo LEXIS 480">486 though the purchase price of $ 100,000 was retained, the draft agreement specifically stated, "The name 'Betty Jo Beauty Salons' is not transferred hereby nor is Good Will being conveyed." Second, the language of paragraph 7 of the agreed-to letter of intent was reworded in the draft agreement to read: Seller and specifically Shila MacDonald, agrees that it will not engage in or operate, nor will its shareholders, directors engage in or operate in a like or similar business within a radius of 10 miles, except that Shila MacDonald may work as a beautician for the Buyer or as a beautician in any other beauty shop of her choice without being in violation, and further that this covenant not to compete does not apply either directly or indirectly to Betty Jo Colli. The value of this covenant is set at $ 30,000.00, the remaining amount of the purchase price is attributed to the purchase of furniture, fixtures and equipment located in the six stores. During the course of the negotiations for the asset purchase, Goldberg and Hetzel were made aware of the fact that Betty Jos intended to consummate the sale only after the shareholders adopted a plan of complete liquidation. Both the draft1982 Tax Ct. Memo LEXIS 480">487 agreement of July 21, 1976, and the ultimate agreement signed July 31, 1976, contained the following paragraph: Whereas, the Seller [Betty Jos] has provided for the winding up and settling of its affairs in voluntary dissolution and for the distribution to its stockholders of its net assets in complete liquidation of Seller. * * On July 23, 1976, a shareholders meeting of Betty Jos was held regarding (according to the corporate minutes) "the sale of corporate assets to Adam Hetzel and the dissolution and liquidation of the corporation within 12 months under section 337 of the Internal Revenue Code." At the meeting a plan of complete liquidation was adopted and the proposed sale of assets to Hetzel was authorized. On July 31, 1976, in "Agreement for Sale of Corporate Assets" was entered into between Hetzel as buyer and Betty Jos as seller. In regard to the allocation of the $ 100,000 purchase price and the covenants not to compete the agreement, typed on Giesser's legal stationery, provided: Seller and specifically Shila MacDonald, agrees that it will not engage in or operate, nor will its shareholders, directors engage in or operate in a like or1982 Tax Ct. Memo LEXIS 480">488 similar business for a period of five (5) years, within a radius of 10 miles, except that Shila MacDonald may work as a beautician for the Buyer or as a beautician in any other beauty shop of her choice without being in violation, and further that this covenant not to compete does not apply either directly or indirectly to Betty Jo Colli. The value of this covenant is set at $ 30,000.00, and $ 10,000.00 of purchase price is collated as good will (but does not include transfer of the same), the remaining amount of the purchase price is attributed to the purchase of furniture, fixtures and equipment located in the six stores. The agreement was signed on behalf of the seller by Shila MacDonald as president and Scott MacDonald as secretary and on behalf of the buyer by Hetzel. In addition each page of the agreement was read and initialed by each of the above individuals. At the time they signed the agreement, Shila and Scott MacDonald were aware of the meaning of a covenant not to compete and were aware that a covenant not to compete was included in the agreement. All the assets of Betty Jos were distributed to the MacDonalds within 12 months of the adoption of the plan of complete1982 Tax Ct. Memo LEXIS 480">489 liquidation. A certificate of dissolution of Betty Jos was filed with the State of Ohio on December 30, 1976. After the sale of assets, Shila MacDonald worked for Hetzel as a beautician for 10 months. Thereafter, Shila went to work as a beautician for her mother who had opened a new beauty shop within a mile from one of the shops previously owned by Betty Jos. In its 1976 corporate income tax return, Betty Jos reported no taxable income on its sale of assets to Hetzel under section 337. In his statutory notice of deficiency to each petitioner herein, respondent determined that the $ 30,000 allocated to the covenant not to compete in the Agreement for Sale of Corporate Assets was not gain realized from the sale of "property" as defined in section 337(b). Accordingly, respondent increased Betty Jos ordinary income for the taxable year 1976 by $ 30,000. OPINION Under the terms of the Agreement for Sale of Corporate Assets, $ 30,000 was specifically allocated to a covenant not to compete on the part of Betty Jos. Petitioners contend that notwithstanding this allocation, the covenant not to compete 1) had no value because in actual fact it restricted no one from competing, 1982 Tax Ct. Memo LEXIS 480">490 2) lacked business reality because the buyer knew that Betty Jos and the MacDonalds had no intention of competing in the future, 3) was inserted by the buyer in the agreement merely for tax purposes long after the $ 100,000 selling price had been agreed to and 4) in any case, was property on which gain did not have to be recognized by Betty Jos due to the corporation's liquidation under section 337. Respondent, on the other hand, argues that the terms of the asset sale agreement are binding on petitioners, that they reflect economic reality and that the $ 30,000 of gain realized by Betty Jos as a result of signing the covenant not to compete is not excludible from the corporation's income by virtue of section 337. In Harvey Radio Laboratories, Inc. v. Commissioner,470 F.2d 118">470 F.2d 118 (1st Cir. 1972), affg. a Memorandum Opinion of this Court, the Circuit Court held that an amount received by a corporation for a covenant not to compete entered into subsequent to the adoption of a plan of complete liquidation constituted ordinary income to the corporation and was not gain from the sale or exchange of property within the meaning of section 337. 3 Accordingly, unless1982 Tax Ct. Memo LEXIS 480">491 petitioners adduce "strong proof" that the parties did not intend or bargain for a covenant not to compete and that their allocation has no arguable relationship with business reality, they will be bound by the terms of their agreement and Betty Jos will have realized ordinary income in 1976 not excludible under section 337. Major v. Commissioner,76 T.C. 239">76 T.C. 239 (1981), on appeal (7th Cir., July 9, 1981); Lazisky v. Commissioner,72 T.C. 495">72 T.C. 495 (1979), affd. on another issue sub nom. Magnolia Surf, Inc. v. Commissioner,636 F.2d 11">636 F.2d 11 (1st Cir. 1980). 41982 Tax Ct. Memo LEXIS 480">492 Petitioners have failed to prove either that they did not bargain for a covenant not to compete or that the allocation made in the covenant had no relationship with business reality. It is apparent from the findings of fact that the petitioners intended to enter into a covenant not to compete and that such covenant was not sprung upon them by Hetzel at the last moment. In the first letter of intent drafted by Hetzel's attorney, a covenant not to compete was included, together with an allocation of $ 30,000 of the purchase price to such covenant. This letter of intent was redrafted by petitioners' attorney who modified the terms of the covenant to allow Shila MacDonald to continue to be a beautician, though not operate a beauty salon. Petitioners' attorney did not, however, change the amount of the allocation of the total purchase price to the covenant. This second letter of intent was signed by petitioners both in their corporate and individual capacities. It was petitioners' attorney who also wrote the first and second drafts of the Agreement for Sale of Corporate Assets. Those drafts both contained rephrased versions of the covenant not to compete together with the $ 30,0001982 Tax Ct. Memo LEXIS 480">493 allocation in purchase price carried over from the letters of intent. We think these facts amply demonstrate that both the MacDonalds and their lawyer intended from an early period in the negotiations to sign a covenant not to compete on behalf of Betty Jos and were willing to allocate $ 30,000 to such covenant. Neither have petitioners demonstrated by "strong proof" that the $ 30,000 allocated to the covenant lacked economic reality. Petitioners contend that the covenant in actual fact binds no one from competing with Hetzel and therefore is valueless. We agree with petitioners that the covenant does not bind Betty I. Colli from competing and arguably does not bind the MacDonalds from competing (since the asset sale agreement was signed by the MacDonalds in their capacity as corporate officers of Betty Jos and not, apparently, as individuals). However, the covenant still clearly applies to legally bind Betty Jos as a corporate entity. Petitioners attempt to argue that the covenant would be unenforceable because the goodwill of Betty Jos was not sold to Hetzel along with the covenant and that a covenant's only legitimate purpose is to protect goodwill just purchased, citing1982 Tax Ct. Memo LEXIS 480">494 Kinney v. Commissioner,58 T.C. 1038">58 T.C. 1038, 58 T.C. 1038">1042 (1972), quoting Balthrope v. Commissioner,356 F.2d 28">356 F.2d 28, 356 F.2d 28">31 (5th Cir. 1966), affg. a Memorandum Opinion of this Court. The status of Betty Jos goodwill, however, is not as clear as petitioners would have us believe. In the two letters of intent, $ 10,000 of the purchase price was allocated to Hetzel's purchase of Betty Jos' goodwill. In the agreement of sale, $ 10,000 was also allocated to the purchase of Betty Jos' goodwill, though with a cryptic parenthetical clause implying that the goodwill was not being transferred. Even assuming, without deciding, that the signing of a covenant not to compete without a simultaneous transfer of goodwill would make a covenant not to compete unenforceable, petitioners have not met their burden of showing that their agreement -- ambiguously drafted by their own attorney -- did not transfer Betty Jos goodwill. Petitioners contend that the covenant not to compete, even if it were legally binding on Betty Jos, would in practice be valueless because Betty Jos was in the process of liquidation and had no intention of competing. Since Hetzel knew this fact, petitioners1982 Tax Ct. Memo LEXIS 480">495 argue, a reasonable business man would not have sought such a covenant and any such covenant entered into should be considered a nullity for tax purposes. The ability (and to a lesser extent, intention) of a taxpayer to compete is indeed a factor that courts consider in determining the economic substance of a covenant not to compete. See O'Dell & Co. v. Commissioner,61 T.C. 461">61 T.C. 461, 61 T.C. 461">468-469 (1974), and cases cited therein. However, the mere fact that a corporation has adopted a plan of liquidation prior to signing a covenant not to compete and that that fact was communicated to the buyer does not vitiate the covenant for tax purposes; a buyer, for his protection, may seek a covenant not to compete just in case the liquidation of the corporation does not transpire. 470 F.2d 118">Harvey Radio Laboratories, Inc. v. Commissioner,supra.Clearly, Betty Jos had the ability to take the proceeds of the sale of its assets and reinvest them in new beauty salons in the same neighborhoods as its former shops. It also had the corporate talent, in the persons of its officers, to manage such new shops successfully. While the MacDonalds may have expressed a desire to1982 Tax Ct. Memo LEXIS 480">496 get out of the business of managing beauty salons, we cannot say that reasonable businessmen, genuinely concerned with their economic futures, would not have sought protection against the nonoccurrence of such an event. 294 F.2d 52">Schulz v. Commissioner,supra.Indeed, Hetzel's desire for a covenant not to compete does not seem unreasonable in light of subsequent events: within a year Betty I. Colli was again operating a beauty salon less than one mile from one of her former locations and employing Shila MacDonald there. The MacDonalds did not completely abandon their beauty shop employments and live outside the area covered by the covenants, as did the taxpayers in several cases cited by petitioners. See, e.g., Rich Hill Insurance Agency, Inc. v. Commissioner,58 T.C. 610">58 T.C. 610 (1972); Schmitz v. Commissioner,51 T.C. 306">51 T.C. 306, 51 T.C. 306">319 (1968), affd. sub nom. Throndson v. Commissioner,457 F.2d 1022">457 F.2d 1022 (9th Cir. 1972). Certainly, on this record, petitioners have failed to adduce strong proof that the covenant not to compete entered into by Betty Jos was not worth the $ 30,000 value allocated to it. 51982 Tax Ct. Memo LEXIS 480">497 Since we have found that the covenant not to compete was actually bargained for between the parties and had an arguable relationship with business reality, we hold that Betty Jos realized ordinary income on the signing of such covenant and receipt of payment therefore in 1976. The $ 30,000 of gain was not excludable from Betty Jos income by reason of section 337. 470 F.2d 118">Harvey Radio Laboratories, Inc. v. Commissioner,supra.Decisions will be entered for the respondent.Footnotes1. Petitioners Shila D. MacDonald and Scott D. MacDonald concede that they are liable as transferees for any deficiency found regarding Betty Jos Beauty Salon, Inc., together with interest thereon as provided by law. Petitioners also concede respondent's adjustments relating to depreciation recapture. ↩2. Unless otherwise indicated, all section references are to the Internal Revenue Code of 1954 as in effect during the year before the Court.↩3. Cf. Rev. Rul. 74-29, 1974-1 C.B. 79↩. 4. This "strong proof" test, as stated in Schulz v. Commissioner,294 F.2d 52">294 F.2d 52, 294 F.2d 52">55 (9th Cir. 1961), affg. 34 T.C. 235">34 T.C. 235 (1960), is: "[T]he covenant must have some independent basis in fact or some arguable relationship with business reality such that reasonable men, genuinely concerned with their economic future, might bargain for such an agreement." Respondent once again invites this Court to apply a stricter test, the so-called Danielson rule. The Danielson rule, followed by a number of circuits, provides that a party can challenge the tax consequences of his agreement as construed by the Commissioner only by adducing proof which in an action between the parties to the agreement would be admissible to alter that construction or to show its unenforceability because of mistake, undue influence, fraud, duress, etc. [Commissioner v. Danielson,378 F.2d 771">378 F.2d 771, 378 F.2d 771">775 (3d Cir. 1967).] The Sixth Circuit, however, to which this case is appealable, has until now applied the "strong proof" rule. Montesi v. Commissioner,340 F.2d 97">340 F.2d 97 (6th Cir. 1965), affg. 40 T.C. 511">40 T.C. 511 (1963). See also Bennett v. Commissioner,T.C. Memo. 1970-273, affd. per cuiram 450 F.2d 959">450 F.2d 959 (6th Cir. 1971). Accordingly, under the rule of Golsen v. Commissioner,54 T.C. 742">54 T.C. 742 (1970), affd. 445 F.2d 985">445 F.2d 985↩ (10th Cir. 1971), and our own prior precedents, we apply the "strong proof" rule here, and decline respondent's invitation.5. Respondent has asserted that the full $ 30,000 allocated to the covenant be taxed to Betty Jos and not the MacDonalds as individuals. Petitioners make no contention that the $ 30,000 should in fact be further allocated between the portion of the covenant binding Betty Jos and the portion arguably binding the petitioners as individuals. Accordingly, we express no opinion as to whether an apportionment of the covenant's value would be appropriate in the instant circumstances. Cf. 470 F.2d 118">Harvey Radio Laboratories, Inc. v. Commissioner,supra,↩ where an apportionment between the liquidating corporation's covenant and the covenants of its controlling stockholders was effected by the parties and upheld by the court.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621941/	Arthur K. Hellermann and V. Louise Hellermann, Petitioners v. Commissioner of Internal Revenue, RespondentHellermann v. CommissionerDocket No. 7957-79United States Tax Court77 T.C. 1361; 1981 U.S. Tax Ct. LEXIS 3; December 30, 1981, Filed 1981 U.S. Tax Ct. LEXIS 3">3 Decision will be entered for the respondent. Held: Gain which is attributable solely to inflation is income within the meaning of the 16th Amendment, and thus is taxable without apportionment. Accordingly, petitioners are liable for capital gains tax and the minimum tax under sec. 56, I.R.C. 1954, on the full dollar amount of gain realized from the sale in 1976 of real property purchased in 1964. Arthur K. Hellermann and V. Louise Hellermann, pro se.Rogelio A. Villageliu, for the respondent. Ekman, Judge. EKMAN77 T.C. 1361">1362 OPINIONRespondent determined a deficiency of $ 11,206.60 in petitioners' Federal income taxes for 1976. The sole issue for our decision is whether that portion of gain from the sale of property, which is attributable solely to inflation, is income within the meaning of the 16th Amendment.All the facts have been stipulated and are so found. The stipulation of facts and exhibits attached thereto are incorporated herein by this reference. The pertinent facts are summarized below.Petitioners Arthur K. Hellermann and V. Louise Hellermann resided in Milwaukee, Wis., when they filed their joint return for 1976. They resided in Hendersonville, Tenn., when they filed their petition and amended petition herein.Petitioners purchased four buildings in 1964 for $ 93,312. They sold the buildings in 1976 for $ 264,000, and reported a capital1981 U.S. Tax Ct. LEXIS 3">5 gain of $ 170,688 on their 1976 return. They paid the appropriate capital gain taxes, but failed to compute or pay the additional minimum tax on items of tax preference as required by sections 55 to 58, I.R.C. 1954.Respondent contends that petitioners are liable for the minimum tax because capital gain is an item of tax preference under section 57(a)(9)(A). 1 Petitioners counter that they are not liable for the minimum tax and that they are entitled to a refund of capital gains tax paid in 1976.Petitioners claim that much of their reported gain on the sale of the four buildings was due to inflation. They point out that the Consumer Price Index (CPI) 2 had approximately doubled between 1964 and 1976. 3 Thus, even though they received more dollars on the sale than they had paid to purchase the buildings, each 1976 dollar they received was 77 T.C. 1361">1363 worth less than each 1964 dollar they paid. 1981 U.S. Tax Ct. LEXIS 3">6 From this they concluded that their economic gain on the sale was $ 88,167. 4 However, they concede that they had a nominal gain of $ 170,688.Petitioners assert that they should not be taxed on their nominal gain, but only on their economic gain. They argue that the 1981 U.S. Tax Ct. LEXIS 3">7 portion of their nominal gain which is attributable solely to inflation does not constitute taxable income within the meaning of the 16th Amendment. Instead, they contend that, economically speaking, such gain is a return of capital. As they correctly observe, tax on a return of capital is a direct tax, subject to apportionment. 5 They maintain that to the extent the Internal Revenue Code permits that portion of nominal gain which is attributable to inflation to be taxed, it is an unconstitutional exercise of the Congress' power. They conclude that the Code must be interpreted in a manner which does not permit such gain to be taxed as income. As an appropriate means to that end, petitioners suggest that we adjust nominal gain to reflect the effects of inflation.Respondent rejects as irrelevant petitioners' use of the CPI, or other measures of inflation, to calculate taxable income. He contends that nominal capital gain is taxable1981 U.S. Tax Ct. LEXIS 3">8 income whether or not such gain represents an increase in economic value. We agree with respondent, and therefore, need not decide whether the CPI is an appropriate measure with which to adjust taxable income. 6We note at the outset that we have several times denied taxpayers deductions for losses due to inflation, on grounds that the tax law is not written to account for inflation.7 These cases do not control the decision in this case because they deal 77 T.C. 1361">1364 with deductions, not income. Deductions are a matter of legislative grace, and the Congress has absolute discretion to refrain from taxing what would otherwise be taxable income. New Colonial Ice Co. v. Helvering, 292 U.S. 435">292 U.S. 435, 292 U.S. 435">440 (1934). In contrast, Congress may not constitutionally tax as income, without apportionment, receipts1981 U.S. Tax Ct. LEXIS 3">9 which represent a return of capital. Southern Pacific Co. v. Lowe, 247 U.S. 330">247 U.S. 330 (1918); Burnet v. Logan, 283 U.S. 404">283 U.S. 404 (1931); Kerr v. Commissioner, 38 T.C. 723">38 T.C. 723 (1962), affd. 326 F.2d 225">326 F.2d 225 (9th Cir. 1964).We reject petitioners' contention that nominal gain is not taxable income within the meaning of the 16th Amendment8 on two grounds. First, we rely on the well-established doctrine that Congress has the power and authority to establish the dollar as a unit of legal value with respect to the determination of taxable income, independent of any value the dollar might also have1981 U.S. Tax Ct. LEXIS 3">10 as a commodity. See Norman v. Baltimore & Ohio Railroad Co., 294 U.S. 240">294 U.S. 240 (1935); Nortz v. United States, 294 U.S. 317">294 U.S. 317 (1935); Perry v. United States, 294 U.S. 330">294 U.S. 330 (1935); Legal Tender Cases, 79 U.S. (12 Wall.) 457 (1870). In the Legal Tender Cases, supra, the Supreme Court held that Congress had the power to declare treasury notes ("greenbacks"), which were backed by gold, to be legal tender. The Court held that paper money could be on a par with gold coins because both had the same legal value. Legal Tender Cases, supra at 530. The Court recognized that the statutory value of the nation's currency might not correspond to the market value of the bullion which backed the paper or from which the gold coins were made. It termed this discrepancy the difference between legal and intrinsic value. However, it did not doubt that Congress had the power to legislate such a difference. The Court viewed the Constitution as being "designed to provide the same currency, having a uniform legal value in all1981 U.S. Tax Ct. LEXIS 3">11 the States. * * for this reason the power to coin money and regulate its value was conferred upon the Federal government," and it reasoned that "Whatever power there is over the currency is vested in Congress." Legal Tender Cases, supra at 545.77 T.C. 1361">1365 The cases reviewing the Gold Reserve Act of 1934, 294 U.S. 240">Norman v. Baltimore & Ohio Railroad Co., supra,294 U.S. 317">Nortz v. United States, supra, and 294 U.S. 330">Perry v. United States, supra, further extended the power of Congress with respect to the currency. These cases challenged the Gold Reserve Act of 1934 9 as an unconstitutional impairment by Congress of the obligation of contract, both public and private. The Gold Reserve Act had effectively taken the United States1981 U.S. Tax Ct. LEXIS 3">12 off the domestic gold standard by removing gold coins from circulation as legal tender. This affected certain bonds containing so-called "gold clauses," which were intended to protect the bondholder against devaluation of the currency by providing that the bonds would be paid off in gold of a particular weight and fineness. The Court held that these clauses were invalid insofar as they interfered with Congress' broad and comprehensive power to regulate the value of the currency and to create a unitary currency. 294 U.S. 240">Norman v. Baltimore & Ohio Railroad Co., supra at 316. The Court found that an expansive interpretation of the congressional power over revenue, finance, and currency was justified by:the aggregate of the powers granted to the Congress, embracing the powers to lay and collect taxes, to borrow money, to regulate commerce with foreign nations and among the several States, to coin money, regulate the value thereof, and of foreign coin, and fix the standards of weights and measures, and the added express power "to make all laws which shall be necessary and proper for carrying into execution" the other enumerated powers. [294 U.S. 240">Norman v. Baltimore & Ohio Railroad Co., supra at 303,1981 U.S. Tax Ct. LEXIS 3">13 citing Juilliard v. Greenman, 110 U.S. 421">110 U.S. 421, 110 U.S. 421">439-440 (1884).]Under this implicit constitutional authority, the Court concluded that Congress could choose "a uniform monetary system, and * * reject a dual system, with respect to all obligations within the range of the exercise of its constitutional authority." (Emphasis added.) 294 U.S. 240">Norman v. Baltimore & Ohio Railroad Co., supra at 316.Petitioners concede that Congress has the power to require that the income tax be paid in dollars as legal tender, but argues that it does not have the power to measure gain in terms of dollars, because such dollars do not have a constant value. Given the reasoning behind the holding of the Legal 77 T.C. 1361">1366 , and 294 U.S. 240">Norman v. Baltimore & Ohio Railroad Co., supra, we must disagree. Dollars have constant legal value under the uniform monetary system created1981 U.S. Tax Ct. LEXIS 3">14 by Congress. 10 When petitioners sold the buildings in 1976, they realized a gain in legal value. The 16th Amendment does not prevent the Congress from taxing such gain as income if it chooses to do so.1981 U.S. Tax Ct. LEXIS 3">15 As our second ground for rejecting petitioners' arguments, we rely upon the doctrine of common interpretation. As was stated by Judge Learned Hand, "[the] meaning [of income] is * * to be gathered from the implicit assumptions of its use in common speech." United States v. Oregon-Washington R. & Nav. Co., 251 F. 211">251 F. 211, 251 F. 211">212 (2d Cir. 1918). Thus, the meaning of income is not to be construed as an economist might, but as a layperson might. Petitioners received many more dollars for the buildings than they had paid for them. The extra dollars they received are well within the common perception of income, even though each 1976 dollar received represents less purchasing power than each 1964 dollar paid. Petitioners' nominal gain may or may not equal their real gain in an economic sense. Nonetheless, neither the Constitution nor tax laws "embody perfect economic theory." See Weiss v. Wiener, 279 U.S. 333">279 U.S. 333, 279 U.S. 333">335 (1929).Based on the foregoing, we find that petitioners' nominal gain represented a change in legal value. Thus, petitioners' nominal gain is taxable income within the meaning of the 16th Amendment. Accordingly, we1981 U.S. Tax Ct. LEXIS 3">16 hold that petitioners are liable for the minimum tax as determined by respondent. Further, because petitioners have not sustained their burden of proving that they had a lesser capital gain on sale of the buildings than 77 T.C. 1361">1367 they reported, there is no overpayment of income taxes to which they are entitled.Decision will be entered for the respondent. Footnotes1. This section was amended for taxable years ending after Oct. 31, 1978. We are concerned with it as it existed in 1976.↩2. This index is prepared by the Bureau of Labor Statistics. It measures economy-wide changes in the prices of goods and services as represented by the change in price of a fixed "market basket" of such consumer goods and services. L. Seidler & D. Carmichael, Accountant's Handbook 24.9 (1981).↩3. In June 1964, when petitioners purchased the buildings, the CPI for urban wage earners was 92.9. In December 1976, when they sold the buildings, it was 174.3.↩4. The calculations they made to reach this result were based on the following two formulas:(1) CPI in December 1976/CPI in June 1964 x 1964 Purchase price = Purchase price inflated to 1976 dollars(2) 1976 Sales price - Purchase price inflated to 1976 dollars = True gain on 1976 sale↩5. U.S. Const. art. I, sec. 2, cl. 3. See also U.S. Const. art. I, sec. 9, cl. 4↩.6. For a general discussion of the effects of inflation and use of economic indicators, see Note, "Inflation and the Federal Income Tax," 82 Yale L.J. 716↩ (1973).7. Sibla v. Commissioner, 68 T.C. 422">68 T.C. 422, 68 T.C. 422">430-431 (1977); Gajewski v. Commissioner, 67 T.C. 181">67 T.C. 181, 67 T.C. 181">193-194 (1976); Cunningham v. Commissioner, T.C. Memo. 1981-365; Milkowski v. Commissioner, T.C. Memo. 1981-225↩.8. "The Congress shall have power to lay and collect taxes on incomes, from whatever source derived, without apportionment among the several States, and without regard to any census or enumeration."↩9. Gold Reserve Act of 1934, 48 Stat. 337.↩10. In some instances, this and other courts have treated rare gold and silver coins as property, not as legal tender, and thus have determined gain on receipt or exchange of such coins based upon the coins' fair market value rather than their legal value. See, e.g., Cal. Federal Life Insurance Co. v. Commissioner, 76 T.C. 107">76 T.C. 107 (1981); Joslin v. United States, an unreported case ( C.D. Utah 1981, 81-2 USTC par. 9643), affd. (10th Cir., Dec. 9, 1981, 81-2 USTC par. 9813); Cordner v. United States, an unreported case ( C.D. Cal. 1980, 45 AFTR 2d 80↩-1677, 80-1 USTC par. 9441). In this case, there was no evidence that petitioners received anything other than paper dollars which were concededly legal tender.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621942/	Imperial Car Distributors, Inc., et al. 1 Commissioner. Imperial Car Distributors, Inc. v. CommissionerDocket Nos. 4654-66, 4655-66, 6734-66.United States Tax CourtT.C. Memo 1969-12; 1969 Tax Ct. Memo LEXIS 282; 28 T.C.M. 49; T.C.M. (RIA) 69012; January 16, 1969, Filed Clement J. Clarke, Jr., and Alan G. Choate, for the petitioners. Dennis C. DeBerry, for the respondent. TANNENWALDMemorandum Findings of Fact and Opinion TANNENWALD, Judge: Respondent determined deficiencies in petitioners' income taxes as follows: PetitionersDocket Nos.YearDeficiencyImperial Car Distributors, Inc4654-661961$16,993.916734-661962764.941963604.941/1/64 to 8/31/64223.46Frederic Royston and Toby L. Royston4655-66196113,685.8119624,891.811969 Tax Ct. Memo LEXIS 282">283 All dockets were consolidated for trial and decision. After certain concessions by the parties, the issue with respect to the individual petitioners is whether amounts received from the corporate petitioner on the principal of alleged promissory notes constitute amounts received in exchange for indebtedness and are therefore taxable as capital gain under section 1232(a)(1), 2 or constitute distributions under sections 301 and 316 and are therefore taxable as ordinary income. This determination will resolve the issue involving the corporate petitioner, namely, whether any payments with respect to the alleged promissory notes are deductible as interest under section 163. Findings of Fact Some of the facts have been stipulated. These facts and the exhibits attached thereto are incorporated herein by this reference. Frederic Royston (hereinafter referred to as Frederic or, jointly with his wife, as the Roystons) and Toby L. Royston are husband and wife, whose legal residence at the time of filing the petition herein was Philadelphia, Pennsylvania. They filed joint Federal income tax returns for the years1969 Tax Ct. Memo LEXIS 282">284 1961 and 1962 with the district director of internal revenue, Philadelphia, Pennsylvania. Petitioner Imperial Car Distributors, Inc. (hereinafter Imperial) had its principal place of business at the time of the filing of the petitions herein in Philadelphia, Pennsylvania. It filed corporation income tax returns for the years 1961 through 1963 and for the period January 1 to August 31, 1964 with the district director of internal revenue, Philadelphia, Pennsylvania. Imperial was on a calendar-year accrual basis of accounting during the years in issue and merged into Royston Distributors, Inc., as of August 31, 1964. Imperial was incorporated by J. D. Allen, Jr. (hereinafter Allen or Allen estate) in 50 Virginia in July 1950, with its principal place of business in Hampton, Virginia, for the purpose of distributing automobiles and parts manufactured by British Motor Car Corporation throughout Delaware, Maryland, Virginia, West Virginia, and Washington, D.C.Allen also operated a sole proprietorship, J. D. Allen, Jr., Importer, which had the regional franchise of MG cars in the same territory. Both franchises were obtained through Hambro Automotive Corporation, wholly owned1969 Tax Ct. Memo LEXIS 282">285 by Hambro Bank (hereinafter collectively referred to as Hambro), which was the importer and national distributor of cars produced by the British Motor Car Corporation. By 1952, Imperial had 4,000 shares of common stock, having a par value of $25 per share, issued and outstanding, for which $100,000 had been paid in cash. Allen owned all but 13 of said shares. Allen died in September 1952, but his estate continued as the owner of the Imperial shares and also acquired the remaining 13 shares. In September 1953, the estate, Hambro, and Imperial entered into an agreement, the key provisions of which required the estate to pay $35,000 to Hambro, to transfer all the Imperial stock to Hambro, to transfer to Hambro or its nominee all the assets of the J. D. Allen, Jr., Importer, account and to execute a renewal lease on the real property occupied by Imperial for an additional period of five years at an annual rental of $3,000; Hambro was required to apply the $35,000 payment in reduction of outstanding drafts payable to it by the estate, to release the estate of all liabilities to Hambro, and to cancel the estate's car distribution agreement; Imperial was required to assume the balance1969 Tax Ct. Memo LEXIS 282">286 of principal and interest on all drafts, bank charges, and commissions payable to Hambro by the estate, together with all other liabilities of the J. D. Allen, Jr., Importer, account other than liabilities to David Higgins, Imperial's president. The books of the Importer account showed an excess of liabilities over assets of approximately $125,000 after application of the $35,000 payment. This agreement was closed on October 7, 1953, at which time Hambro delivered to the estate of Allen a note in the amount of $118,351.04, which was forthwith endorsed over and delivered to Imperial. On November 8, 1955, Imperial adopted a plan of dissolution, and a notice of intention to dissolve (Form 966) was filed with the district director of internal revenue, Richmond, Virginia, on December 16, 1955. Imperial then proceeded to liquidate its entire inventory, making the last bulk sale of parts in March 1956 and selling the final car in November 1956. The dissolution proceedings were never formally completed. On or about February 29, 1956, Imperial cancelled the note of Hambro in the amount of $118,351.04 in consideration of the transfer to Imperial of 3,997 shares of Imperial. The remaining1969 Tax Ct. Memo LEXIS 282">287 three issued and outstanding shares of Imperial had previously been transferred as directors' shares to David Higgins, A. E. Birt, and E. Judels. At the time of this transaction, Imperial was indebted to Hambro in the amount of $129,324.06, consisting of $115,721.28 principal and the balance interest. This indebtedness had arisen in the ordinary course of business from the purchase of cars from Hambro and had been converted into an interest-bearing note payable to Hambro. As of June 30, 1957, Imperial's balance sheet reflected the following: AssetsCash$ 569.22Accounts receivable $3,217.96Less: Res. for bad debts 1,000.00 2,217.96Other assets: Rents receivable 2,325.50Total assets $ 5,112.68LiabilitiesAccrued expenses$ 14,172.00Bonds, notes & mortgages payable 115.721.28Total liabilities $129,893.28CapitalCapital stock($18,351.04)Earned surplus & undivided profits (106,429.56)Total ($124,780.60) Earlier in June 1957, Imperial had purported to assign its accounts receivable to Hambro. Frederic was president of Royston Distributors, which was franchised by British Motor Car Corporation to distribute cars throughout1969 Tax Ct. Memo LEXIS 282">288 Pennsylvania and western New York. Frederic desired to acquire the British Motor Car Corporation franchise held by Imperial, including the accompanying lists of dealers. That franchise could be cancelled at will, but British Motors, in accordance with its customary policy, informed Frederic that the franchise could only be acquired by purchase from its owner, Imperial. In the summer of 1957, negotiations began for the acquisition of Imperial by Frederic, 51 Alfred Giardino (hereinafter Giardino), Duncan Charles Merriweather, and Elsie M. Z. Johnson (hereinafter collectively referred to as the investors). As a result, the investors purchased Imperial for $4,150, which was paid as follows: (a) $2,000 to Hambro for Imperial's accounts receivable (which equalled about $3,600 and which Imperial later collected, with the exception of about $50) and the $125,753.10 note representing Imperial's indebtedness to Hambro. (b) $2,000 as a contribution to the capital of Imperial, of which $1,000 was paid to Hambro on account of Imperial's indebtedness to Hambro. (c) $150 for the three issued and outstanding shares of Imperial. The existing Imperial board members were replaced by1969 Tax Ct. Memo LEXIS 282">289 Frederic, Dwight G. Johnson, and Toby L. Sley (now Toby L. Royston). Three-quarters of a share of Imperial's capital stock was issued to each of the four investors. New notes of Imperial were issued in proportionate amounts to each of the four investors in exchange for the Imperial note payable to Hambro which the investors had acquired. Originally, only the note to Duncan Charles Merriweather bore interest at 6 percent per annum, the notes to the other investors being without interest. In 1959, Elsie Johnson transferred her interest to the other three investors, each of whom received an additional one-quarter share of stock and a note in proportionately increased amount. All of these notes bore interest at 6 percent per annum. From 1957 until August 31, 1964, when it was merged into Royston Distributors, Imperial actively engaged in business as a distributor of cars of British Motors. Imperial reported gross receipts and taxable income as follows: Period endedGross receiptsTaxable incomeJune 30, 1954$1,120,228.69($48,969.67)June 30, 19551,620,647.021,277.46June 30, 1956638,954.29(112,682.30)June 30, 19576,987.84(5,700.24)June 30, 19581,840,597.1279,845.28June 30, 19594,119,292.36194,181.61Dec. 31, 19592,135,190.7353,871.26Dec. 31, 19603,628,046.0725,141.39Dec. 31, 19612,543.860.3126,386.14Dec. 31, 19622,514,111.046,030.41Dec. 31, 19634,953,977.3558,722.88Aug. 31, 19644,682,023.9978,320.021969 Tax Ct. Memo LEXIS 282">290 From time to time, commencing in 1961 and as funds were available from profits, Imperial made payments on account of principal of said notes and issued new notes for the unpaid balance. The amount of accrued interest on the promissory notes claimed by Imperial as deductions and disputed herein was $5,321.04 for 1961, $3,653.00 for 1962, $1,163.35 for 1963, and $446.92 for the period ending August 31, 1964. During the years in question, Imperial's cash payments were made to the noteholders and were categorized by Imperial as follows: RoystonGiardinoMerriweatherTotal1961 interest$ 2,586.48$ 2,586.48$2,586.48$ 7,759.44principal20,000.0020,000.0010,000.0050,000.001962 interest1,595.781,522.421,986.465,104.68principal10,000.0010,000.0010,777.0030,777.00Imperial's earnings and profits during 1961 and 1962 were in excess of the foregoing amounts. Ultimate Finding of Fact Imperial's promissory notes to the investors did not represent valid indebtedness for Federal income tax purposes. Opinion The essential issue in this case is whether certain notes which originally constituted valid indebtedness of1969 Tax Ct. Memo LEXIS 282">291 the petitioner corporation continued to retain that characterization for tax purposes in the hands of the investors after they had purchased the notes and the shares of the petitioner corporation. Petitioners contend that they did and that, therefore, the accrued interest was properly deductible by the petitioner corporation and the payments on account of principal constituted capital gain as amounts received in exchange for indebtedness under section 1232(a)(1). 3 Respondent counters with the assertion that the notes should be treated as equity capital in the hands of the investors so that the payments on account of interest and principal should be treated as 52 dividends under sections 301 and 316. 4 We agree with respondent. 1969 Tax Ct. Memo LEXIS 282">292 The basic facts herein are not in dispute. The investors, including Frederic, acquired the issued and outstanding shares of Imperial and its note to Hambro, on which $129,324.06 was due, in the summer of 1957 for an aggregate payment of $4,150. At the time of the transaction, Imperial had gone into dissolution and stopped doing any business beyond that required for an orderly termination of its affairs, and its remaining gross assets aggregated only slightly in excess of $5,000. Against this factual background, respondent argues that, although the obligation of Imperial to Hambro originally constituted valid indebtedness, it had become worthless in the latter's hands and therefore had lost its debt classification for tax purposes by the time of its transfer to the investor group of which Frederic was a part. We find it unnecessary to resolve the issue thus presented, because we agree with respondent's alternative argument that, even if the obligation continued to retain such classification in the hands of Hambro, it became part of the capital of Imperial and no longer bona fide indebtedness immediately upon its transfer. Only recently, we considered a comparable situation in ,1969 Tax Ct. Memo LEXIS 282">293 on appeal (C.A. 10, July 15, 1968), and we held that, since the notes involved had no independent significance in the purchase transaction, they ceased, forthwith upon transfer, to constitute valid indebtedness in the hands of the purchasers. We consider our decision in Edwards as controlling herein. Indeed, the facts of this case provide an even more compelling instance of lack of independent significance. As in Edwards, the investors herein were after assets, i.e., the residual value of the British Motors franchise, and even those assets were not accorded a substantial value. 5 The negotiations contain no indication that the $4,000 was paid for anything other than the accounts receivable and the franchise. As in Edwards, there was never any suggestion that the assignment of the notes warranted any additional consideration or occupied any special position in the negotiations. From the point of view of the investors, the transfer of the notes simply removed substantial outstanding claims against the business they were acquiring and in no way altered their single-minded purpose of acquiring the franchise. 1969 Tax Ct. Memo LEXIS 282">294 In Edwards, the corporation was actively engaged in business both before and after the transfer. Here, Imperial had stopped doing business and had been substantially liquidated; to be sure, it was not technically dead but it was certainly in rigor mortis. In Edwards, the acquired business had assets in excess of liabilities (other than those acquired by the taxpayers) of approximately $150,000; Imperial's current liabilities were in excess of its assets ($14,172 as compared to $5,112.68). In Edwards, the purchasers paid a substantial amount, $75,000, for that net asset position and $240,000 of notes; the investors herein paid only approximately $4,000 for a deficit position and an indebtedness of $129,000. While we recognize that there is no mathematical ratio in determining whether a business is thinly capitalized, it can hardly be gainsaid that, if the investors had directly advanced $129,000 to Imperial, characterization of such an advance as bona fide indebtedness for tax purposes would have been highly unlikely. E.g., (C.A. 4, 1965); (C. 1969 Tax Ct. Memo LEXIS 282">295 A. 2, 1959), affirming a Memorandum Opinion of this Court; (C. A. 6, 1956), affirming ; . In this connection, we also note that the investors herein treated the notes in such a way as to suggest that they did not consider them genuine indebtedness of Imperial. Initially only the note issued to one of the investors (representing one-fourth of the total) bore interest. Nor does it appear that there was any ascertainable provision for payments on account of 53 principal other than as and when funds derived from profits became available. Such a pattern of treatment is more characteristic of equity capital than debt. We cannot escape the conclusion that the notes herein did not constitute bona fide indebtedness of petitioner corporation during any part of the taxable years before us. A contrary holding would accord form a preeminent position over substance. Cf. , affirmed per curiam (C. A. 5, 1951); see also 1432 1969 Tax Ct. Memo LEXIS 282">296 (C.A. 2, 1947), affirming per curiam ; . In view of the foregoing, we hold that the petitioner corporation is not entitled to deduct the payments on account of interest and the individual petitioners are not entitled to the benefits of section 1232(a)(1) with respect to payments on account of principal. In order to reflect certain concessions by the parties, Decisions will be entered under Rule 50. Footnotes1. Cases of the following petitioners are consolidated herewith: Frederic Royston and Toby L. Royston, Docket No. 4655-66, and Imperial Car Distributors, Inc., Docket No. 6734-66.↩2. All references are to the Internal Revenue Code of 1954, as amended.↩3. SEC. 1232. BONDS AND OTHER EVIDENCES OF INDEBTEDNESS. (a) General Rule. - For purposes of this subtitle, in the case of bonds, debentures, notes, or certificates or other evidences of indebtedness, which are capital assets in the hands of the taxpayer, and which are issued by any corporation, or government or political subdivision thereof - (1) Retirement. - Amounts received by the holder on retirement of such bonds or other evidences of indebtedness shall be considered as amounts received in exchange therefor (except that in the case of bonds or other evidences of indebtedness issued before January 1, 1955, this paragraph shall apply only to those issued with interest coupons or in registered form, or to those in such form on ↩4. Respondent makes no contention that the notes did not otherwise qualify for the benefits of section 1232.↩5. Frederick Royston testified: We fought for the territory and we wanted the territory. * * * said $4,000 is what it is worth. If he had said give me $8,000 I would have given him $8,000. If he had said $12,000 I think I would have given him $12,000 because I wanted the territory and he just said, give me $4,000 and I gave it to him.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621943/	JACQUE TIRADO, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, RespondentTirado v. CommissionerDocket Nos. 3841-79; 3842-79.United States Tax CourtT.C. Memo 1979-448; 1979 Tax Ct. Memo LEXIS 80; 39 T.C.M. 460; T.C.M. (RIA) 79448; November 8, 1979, Filed Stuart E. Abrams, for the petitioner. Larry Kars, for the respondent. TANNENWALDMEMORANDUM OPINION TANNENWALD, Judge: These cases are before us on respondent's motions, filed on May 10, 1979, to dismiss for lack of jurisdiction on the ground that the petitioners were not filed within the time period prescribed by section 6213(a) of the Internal Revenue Code of 1954. 1 A hearing on these motions, and on a motion to suppress evidence in a related case, was held on June 15, 1979. The parties1979 Tax Ct. Memo LEXIS 80">81 filed a stipulation of facts in connection with these motions on August 1, 1979. That stipulation, together with the exhibit attached thereto, is incorporated herein by this reference. At the hearing and again on brief, petitioner has objected to respondent's motions, arguing that these cases should instead be dismissed for lack of jurisdiction on the ground that the notice of deficiency, which the petitioner were filed to contest, was invalid because it was not mailed to petitioner at his last known address, as required by section 6212(b)(1). 2At the time the petitioners herein were filed, petitioner was a prisoner in Greenhaven State Prison, Stormville, New York. On July 28, 1972, a warrant authorizing the search of Apartment 8B, at 446 East 86th Street, New York, New York, 1979 Tax Ct. Memo LEXIS 80">82 was issued by the Supreme Court of the State of New York, in New York County, on the basis of an affidavit executed by Patrolman John DeRosa of the New York Joint Task Force. 3 That apartment was leased and occupied by petitioner. The warrant was executed by a search of Apartment 8B conducted by the New York Joint Task Force on August 3, 1972. Within a few minutes after the search began, two plastic bags of cocaine were found, and petitioner, who was in the apartment at the time, was placed under arrest. He was incarcerated immediately thereafter. See footnote 4, infra.Patrolman John DeRosa spoke with petitioner at the office of the New York Joint Task Force on August 4, 1972, in order to obtain information for a personal history sheet kept on each prisoner. During the course of this conversation, petitioner stated that his address or place of residence was 446 East 86th Street in Manhattan. Within a day or two after petitioner's arrest, Frank J. Panessa, a special agent of the United1979 Tax Ct. Memo LEXIS 80">83 States Bureau of Narcotics and Dangerous Drugs who participated in the New York Joint Task Force's search of petitioner's apartment, discussed petitioner with Eugene Moran, an agent of the Internal Revenue Service. Petitioner was released from prison on $50,000 bail on August 15, 1972. Petitioner remained free until his state criminal trial on a narcotics charge began in early December 1972. At that time, the amount of bail was increased, and petitioner, unable to meet bail, was again incarcerated. On October 19, 1972, respondent mailed to petitioner at 446 East 86th Street, New York, New York 10028, a notice of deficiency for the years 1970 and 1971. The 90-day period for filing a petitioner with this Court for redetermination of those deficiencies expired on Wednesday, January 17, 1973. Separate petitions for each taxable year were mailed in a single envelope postmarked on March 20, 1979, and were filed with this Court on March 23, 1979, more than six years after the expiration of the 90-day period. It is clear that if the deficiency notice was valid, the petitions were untimely. The validity of the deficiency notice turns on whether the address to which it was mailed1979 Tax Ct. Memo LEXIS 80">84 by respondent, 446 East 86th Street, New York New York 10028, was petitioner's last known address, as required by section 6212(b)(1). Petitioner contends that, on October 19, 1972, the date the statutory notice was mailed, his last known address was the prison where he had been incarcerated subsequent to his arrest on August 3, 1972, 4 because the fact of his arrest and incarceration had been communicated to an agent of the Internal Revenue Service by one of the arresting officers. We disagree and conclude, on the basis of this record, that respondent has complied with the requirements of section 6212(b)(1). For purposes of section 6212(b)(1), a taxpayer's last known address is that address which, in light of all relevant circumstances, the Commissioner reasonably believes that the taxpayer would wish him to use. Lifter v. Commissioner,59 T.C. 818">59 T.C. 818, 59 T.C. 818">821 (1973);1979 Tax Ct. Memo LEXIS 80">85 see also O'Brien v. Commissioner,62 T.C. 543">62 T.C. 543, 62 T.C. 543">550 (1974). Administrative realities demand that the burden fall upon the taxpayer to keep the Commissioner informed of his proper address. Alta Sierra Vista, Inc. v. Commissioner,62 T.C. 367">62 T.C. 367, 62 T.C. 367">374 (1974), affd. in an unpublished opinion 538 F.2d 334">538 F.2d 334 (9th Cir. 1976). A taxpayer who alleges that a notice of deficiency has been sent to him at the wrong address must show that he gave the Commissioner clear and concise notice concerning a definite change in his address. 62 T.C. 367">Alta Sierra Vista, Inc. v. Commissioner,supra at 374; 59 T.C. 818">Lifter v. Commissioner,supra at 821; Budlong v. Commissioner, 58 T.c./ 850, 852 (1972); McCormick v. Commissioner,55 T.C. 138">55 T.C. 138, 55 T.C. 138">141 (1970). On this record, we conclude that respondent was not given notification of petitioner's imprisonment in a manner, and of a nature, that would require respondent to treat the prison as petitioner's last known address for the purposes of section 6212(b)(1). First, the knowledge obtained by respondent of petitioner's incarceration was not of sufficient clarity and precision1979 Tax Ct. Memo LEXIS 80">86 to fulfill petitioner's duty of providing clear and concise notice of a definite change in his address. 62 T.C. 367">Alta Sierra Vista, Inc. v. Commissioner,supra at 376. Petitioner does not allege that he informed respondent of the place where he was incarcerated or gave notice, in any manner, that his mail should be sent to him at the place of incarceration. Indeed, petitioner's statement to Patrolman DeRosa of the New York Joint Task Force on August 4, 1972, indicates that petitioner himself continued to regard 446 East 86th Street as his place of residence during the brief period of incarceration following his arrest. The only evidence that respondent was informed of petitioner's imprisonment is the testimony of Frank F. Panessa, a member of the New York Joint Task Force, that he discussed petitioner with Eugene Moran, an agent of the Internal Revenue Servicke, within a day or two of petitioner's arrest. There is no indication that Moran was told that petitioner was still incarcerated at the time of that discussion or that he was told where petitioner was incarcerated. 51979 Tax Ct. Memo LEXIS 80">87 Furthermore, even assuming arguendo that respondent had adequate knowledge concerning petitioner's incarceration subsequent to his arrest, respondent would not have been required to mail the notice of deficiency to the prison. This Court and others have consistently held that, for the purposes of section 6212(b)(1), a taxpayer's last known address is his last permanent address or legal residence known by the Commissioner or the last known temporary address of definite duration to which the taxpayer has directed the Commissioner to send all communications. Gregory v. United States,102 Ct. Cl. 642">102 Ct. Cl. 642, 57 F. Supp. 962">57 F. Supp. 962, 57 F. Supp. 962">973 (1944); 62 T.C. 367">Alta Sierra Vista, Inc. V. Commissioner,supra at 374; 59 T.C. 818">Buldong v. Commissioner,supra. at 852; 55 T.C. 138">McCormick v. Commissioner,supra at 141. Thus, the Commissioner may learn that a taxpayer is temporarily sojourning at a place other than his permanent address, e.g., jail, without being required to treat the address of temporary sojourn as the last known address for purposes of section 6212(b)(1). Cohen v. United States,297 F.2d 760">297 F.2d 760, 297 F.2d 760">773 (9th Cir. 1962); 62 T.C. 543">O'Brien v. Commissioner,supra at 549.1979 Tax Ct. Memo LEXIS 80">88 While the Commissioner is bound to exercise reasonable diligence in ascertaining a taxpayer's correct address, 62 T.C. 367">Alta Sierra Vista, Inc. v. Commissioner,supra at 374, the statute clearly does not place upon the Internal Revenue Service the duty of finding out before the mailing of a deficiency notice whether the taxpayer is still at some temporary address of uncertain duration. McCormick v. Commissioner,55 T.C. 138">55 T.C. 141-142. 6It is evident from the record that the prison in which petitioner was incarcerated following his arrest was neither a permanent address nor a temporary address of definite duration and there is no suggestion in the record that respondent or his agent had or should have had reason to believe otherwise. Since petitioner had not yet been convicted of a crime when he was incarcerated on August 3, 1972, the duration of his stay in prison was uncertain. In fact, petitioner remained in prison less than two weeks before he was released on bail. Moreover, petitioner did not return to prison until December 1972 and was not in prison on October 19, 1972, the1979 Tax Ct. Memo LEXIS 80">89 date the deficiency notice was mailed. DiViaio v. Commissioner,539 F.2d 231">539 F.2d 231 (D.C. Cir. 1976), revg. an order of dismissal of this Court, United States v. Eisenhardt,437 F. Supp. 247 (D. Md. 1977), and Barack v. United States, an unreported case ( E.D. Mo. 1956, 51 AFTR 1350, 1956-2 USTC par. 9961), relied upon by petitioner, in each of which the place of incarceration was held to be the taxpayer's last known address, are distinguishable because the period of imprisonment of the taxpayers therein could not be considered merely temporary or of indefinite duration. In DiViaio, the taxpayer had been in a Federal penitentiary for more than two years at the time the notice of deficiency was mailed, 7 while, in Eisenhardt and Barack, the taxpayers had been sentenced to prison terms of five years and 18 months, respectively, and the courts found that the respondent had knowledge that they were in prison at the time the deficiency notices were mailed. 1979 Tax Ct. Memo LEXIS 80">90 Under the circumstances revealed in this record, the unreasonableness of requiring respondent to mail a notice of deficiency to an address of temporary and indefinite duration (absent a specific designation by petitioner to that effect) is apparent; there is no basis for assuming that mailing the notice to the prison would have increased the likelihood that the objective of section 6212(b)(1) -- providing petitioner with notice of the determination of a deficiency in sufficient time to allow him to file a timely petition for redetermination with this Court ( Goodman v. Commissioner,71 T.C. 974">71 T.C. 974, 71 T.C. 974">977 (1979); O'Brien v. Commissioner,62 T.C. 543">62 T.C. 550; cf. Zaun v. Commissioner,62 T.C. 278">62 T.C. 278 (1974)) -- would be achieved. Indeed, we think that, in all probability, a notice mailed more than two months after petitioner's release, to a prison where he was incarcerated for only 12 days, would be less likely to reach him than a notice mailed to 446 East 86th Street, his last permanent place of residence. In this regard, we note that petitioner has neither alleged nor proven that he did not return to his former place of residence after his release1979 Tax Ct. Memo LEXIS 80">91 from prison on August 15, 1972, or that he did not receive the notice of deficiency at 446 East 86th Street shortly after it was mailed and within sufficient time to allow him to file a timely petition with this Court. Accordingly, we reject petitioner's position that the petitions be dismissed on the ground that the deficiency notice was invalid and grant respondent's motions to dismiss the petitions for lack of jurisdiction on the ground that the petitions were not timely filed. Appropriate orders will be issued.Footnotes1. All section references are to the Internal Revenue Code of 1954, as amended. ↩2. In regard to this Court's jurisdiction to rule on the invalidity of a notice of deficiency and dismiss for lack of jurisdiction on that ground where the petition was not timely filed, see Shelton v. Commissioner,63 T.C. 193">63 T.C. 193 (1974); O'Brien v. Commissioner,62 T.C. 543">62 T.C. 543↩ (1974).3. The New York Joint Task Force was a law enforcement unit composed of Federal, State, and City police officers responsible for the enforcement of Federal and State narcotics laws.↩4. Petitioner did not state, either at the hearing or on brief, in which prison he was incarcerated during that period and the record contains no evidence on this point except for the testimony of Sepecial Agent Panessa that "It's very possible that the first night he might have been incarcerated at Federal Detention Center or * * at the Tombs."↩5. In fact, Panessa did not even state explicitly that he told Moran that petitioner had been incarcerated. Panessa merely testified that he discussed petitioner with Moran after the arrest.↩6. See also Escalera v. Commissioner,T.C. Memo. 1979-307↩.7. Moreover, in that case, the deficiency notice had actually been mailed to the warden of the penitentiary with a request that he serve the notice on petitioner; the District of Columbia Circuit Court of Appeals held that the warden was the agent of respondent and that the petition was timely because filed within 90 days of delivery to the petitioner by the warden. See DiViaio v. Commissioner,539 F.2d 231">539 F.2d 231, 539 F.2d 231">234↩ (D.C. Cir. 1976).	01-04-2023	11-21-2020

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