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https://www.courtlistener.com/api/rest/v3/opinions/4623615/	ESTATE OF JAMES DURKIN, SR., DECEASED, JAMES J. DURKIN, JR., PERSONAL REPRESENTATIVE, AND ANNA JEAN DURKIN, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, RespondentEstate of DurkinDocket No. 47036-86United States Tax CourtT.C. Memo 1992-325; 1992 Tax Ct. Memo LEXIS 348; 63 T.C.M. (CCH) 3111; June 8, 1992, Filed 348 Thomas W. Ostrander, Mark E. Cedrone, and Joshua Sarner, for petitioners. Linda S. Bednarz and Ruth Spadaro, for respondent. COLVINCOLVINMEMORANDUM FINDINGS OF FACT AND OPINION COLVIN, Judge: Respondent determined deficiencies of $ 75,293 for 1973, $ 244,229 for 1974, $ 4,234,380 for 1975, $ 124,345 for 1976, $ 72,325 for 1977, and $ 95,160 for 1978. Following concessions and a conditional settlement of various issues, the issues for decision are: (1) What was the fair market value of culm banks acquired by petitioners on June 26, 1975? We hold it was $ 7.25 million. (2) Is petitioner Anna Jean Durkin an innocent spouse under section 6013(e)? We hold she is not. Another issue for decision, whether petitioners' acquisition of the culm banks results in a constructive dividend to petitioners, will be decided by separate opinion. All section references are to the Internal Revenue Code in effect for the years in issue, and all Rule references are to the Tax Court Rules of Practice and Procedure. TABLE OF CONTENTS Findings of Fact1. Petitioners' Business Activities: Blue Coal, Raymond Colliery, and Olyphant 2. Anthracite Coal Mining and Culm Banks 3. The349 United Gas Improvement Corporation -- Blue Coal Agreement 4. Carrier Coal Co. 5. Attempts by Petitioners' Sons and Others to Buy the Blue Coal Culm Banks 6. Boyd Co. Valuation of Truesdale and Wanamie Culm Banks 7. The June 26, 1975, Transactions: Petitioners' Purchase of Culm Banks From GACC and Sale of GACC Stock to Green 8. Truesdale Enterprises and Carrier-Truesdale Partnership 9. Joint Venture with TELCO10. Developments After June 26, 1975 11. Petitioner Anna Jean Durkin Opinion1. The Culm Banks: Introduction 2. Fair Market Value of the Culm Banks on June 26, 1975 a. Expert Witnesses b. Business, Financial, and Loan Records c. Comparable Transactions d. Failed Business Theory e. Valuation of Culm Banks -- Conclusion 3. Innocent Spouse FINDINGS OF FACT Some of the facts have been stipulated and are so found. James J. Durkin, Sr., and Anna Jean Durkin (petitioners) resided in Dallas, Pennsylvania, when the petition was filed. James J. Durkin, Sr., died on June 30, 1989. James J. Durkin, Jr., and Edward E. Durkin are petitioners' sons. References to the Durkins are to petitioners and their sons. 1. Petitioners'350 Business Activities: Blue Coal, Raymond Colliery, and OlyphantIn 1973 Blue Coal Corporation (Blue Coal), including related companies such as Raymond Colliery Co., Inc. (Raymond Colliery), and Olyphant Premium Anthracite, Inc. (Olyphant), was a major anthracite coal production company in northeastern Pennsylvania. Blue Coal, Raymond Colliery, and Olyphant performed deep- and strip-mining operations. a. Raymond CollieryRaymond Colliery owned all the stock of Blue Coal and Olyphant as of April 1973. Petitioners purchased Blue Coal, Raymond Colliery, Olyphant, and various subsidiaries in November 1973 through a holding company called the Great American Coal Co. (GACC). James Riddle Hoffa (Hoffa), the former general president of the International Brotherhood of Teamsters, Chauffeurs, Warehousemen and Helpers of America (Teamsters) and James J. Durkin, Sr., sought a $ 13 million loan from the Teamsters' Central States, Southeast, and Southwest Areas Pension Fund (Central States Pension Fund) and the Mellon Bank to finance the stock purchase. On March 10, 1972, the Central States Pension Fund made a commitment to finance the purchase of Raymond Colliery's stock. The commitment351 letter, to be signed by James J. Durkin, Sr., stated that approximately 96 million tons of culm material, which included the Blue Coal banks, was worth approximately $ 4.3 million, or 5 cents per ton. Hoffa brought Hyman Green (Green), a wealthy entrepreneur, into the transaction because of James J. Durkin, Sr.'s difficulties in obtaining financing. Green sought a loan from Institutional Investors Trust (IIT). IIT wanted a guarantee of the first million dollars as a condition of approving the loan. Green provided that guarantee. On July 24, 1973, IIT gave GACC a commitment for a loan of about $ 8.5 million. Fifty percent of the stock of GACC was issued to Green and 50 percent was issued to petitioners. Between November 1973 and June 26, 1975, petitioners each owned 25 shares of the stock of GACC constituting 50 percent of the total authorized outstanding shares. Green owned the other 50 shares. Hoffa, Green, and James Durkin, Sr., had an understanding under which GACC stock ownership would be 50 percent for Hoffa, 40 percent for petitioners, and 10 percent for Green. This understanding was not carried out because of restrictions imposed by IIT. GACC owned all the stock 352 of Raymond Colliery, which owned all the stock of Blue Coal and Olyphant during all times relevant here. James J. Durkin, Sr. was president and assistant treasurer and Anna Jean Durkin was secretary and treasurer of GACC from April 13, 1973, to June 26, 1975. By July 15, 1974, Green was chairman of the board. James C.B. Millard, Jr. (Millard), Green's attorney, was executive vice president. James J. Durkin, Sr. was a director of Raymond Colliery and president, assistant secretary, and a director of Blue Coal. Anna Jean Durkin was secretary and a director of Raymond Colliery; vice president, secretary, treasurer, and a director of Blue Coal; and secretary of Olyphant. Petitioners received substantial salaries from Blue Coal between November 1973 and June 26, 1975. b. Blue CoalJames J. Durkin, Sr., became president of Blue Coal after GACC acquired Blue Coal. James J. Durkin, Jr. was Blue Coal's vice president. Green initially had little involvement in Blue Coal's operations. c. The Culm Banks owned by Blue Coal, Raymond Colliery, and OlyphantStarting in the late 1800s, refuse from coal processing in the Northern Field of the Pennsylvania anthracite region was 353 deposited into culm banks. Culm or refuse banks are piles of coal refuse material resulting primarily from underground mining and processing of anthracite coal. Before 1971, Blue Coal, Raymond Colliery, and Olyphant owned numerous culm banks in Luzerne, Lackawanna, Susquehanna, and Wayne counties in Pennsylvania (the Blue Coal banks). These culm banks were created by deep-mining of anthracite coal by the Glen Alden, the Hudson, the Temple Coal Companies, and others beginning around the early 1900s. In 1975, the Blue Coal banks, which are the subject of this litigation, contained between 32 and 50 million tons of gross material. d. Cessation of Operations by Blue CoalGreen, James J. Durkin, Sr., and Gerald Zafft (Zafft), Hoffa's attorney, met from November 1973 through 1975 to discuss how to run the company. By approximately January 1974, Blue Coal, Raymond Colliery, and Olyphant ceased all deep- and strip-mining operations because Blue Coal had been losing a tremendous amount of money. Green wanted to stop the deep- and strip-mining and to liquidate the assets. James J. Durkin, Sr., wanted to continue mining. 2. Anthracite Coal Mining and Culm Banksa. Pennsylvania354 Anthracite Coal MiningThe Pennsylvania anthracite region is divided into the Eastern Middle, Northern, Southern, and Western Middle fields. The culm banks at issue here were located in the Northern Field, also referred to as the Wyoming Region. Culm banks are processed by putting culm material through a breaker which separates coal from refuse material. A breaker is a processing plant which separates coal from impurities and sorts coal by size. A dry breaker cleans coal by crushing and screening it. The refuse from dry preparation contains between 50- to 80-percent coal. Wet preparation methods for processing anthracite coal were developed beginning in the 1920s. One example of a wet preparation method, is the "Chance cone" technique which involves floating raw coal in a mixture of sand and water ("heavy media"), where, due to the specific gravity of the mixture, impurities sink and coal floats. Another example is the "Menzie cone" technique. The discharge from the Chance and Menzie cone processes may contain as little as 1 to 5 percent standard anthracite coal, but may contain significantly greater amounts, depending on how the breaker plant is operating. Starting in355 the 1920s, several coal companies in the Northern Field began to use these new wet preparation techniques. Some companies also used wet preparation processing techniques to reprocess material contained in the dry preparation culm banks. A bank processed in this fashion is "rerun". The coal content of culm banks depends on the production techniques used by the plant that produced the refuse, whether the bank has been rerun, the amount of reprocessing and the degree of burning that has occurred, and the amount of dilution by rock and ash that occurred when the colliery was in operation. Modern coal processing equipment can be used to recover coal from the refuse deposits. There is wide variation in the composition of different culm banks and within a culm bank. The quality of one bank cannot be accurately predicted by extrapolating data from others, and the quality of material in a culm bank cannot be ascertained by looking at it. b. Anthracite Coal Standards and PricesThe Anthracite Committee of the Commonwealth of Pennsylvania established Standard Anthracite Specifications for anthracite coal. These standards are used industrywide to measure the quality of anthracite356 coal. Coal that meets the Pannsylvania Standard Anthracite Specifications is standard anthracite coal. Coal that meets the Pennsylvania Standard Anthracite Specifications is standard anthracite coal. Coal that does not meet the specifications is nonstandard anthracite coal. The biggest factor that distinguishes standard from nonstandard anthracite coal is the percent of ash. Ash is a noncombustible material inherent in coal. Other factors that determine the quality of coal are the size, the amount of water, and the number of British Thermal Units (BTU's), which shows the burning value of the coal. Nonstandard anthracite coal sells for less than standard anthracite coal. Standard anthracite coal sizes vary from "Broken", which is 4-3/8 inches, to "Buckwheat No. 5", which is 3/64 of an inch. The largest permissible ash content for "Broken" is 12 percent, and the largest permissible ash content for "Buckwheat No. 5" is 17 percent. Anthracite coal with an ash content over 17 percent is nonstandard anthracite coal. The ash content of coal varies if the specific gravity of the heavy media is changed. If ash content is reduced, coal recovery is also reduced because more coal 357 sinks instead of floats in the production process. Preparation plant shipments per short ton (2,000 pounds) of various sizes of Pennsylvania anthracite coal for 1975 realized sales as follows: 1975 Pennsylvania Anthracite PricesSizePricePea and larger$ 45.04Buckwheat No. 1 and smaller$ 27.61All sizes$ 32.26Total Pennsylvania anthracite production dropped while culm bank production increased between 1972 and 1975. Total Northern FieldsWyoming Region AnthraciteAnthracite ProductionProduction from Culm BanksYear(Short Tons)(Short Tons)19721,334,000177,00019731,011,000161,0001974677,000435,0001975905,000710,000Between 1973 and 1975, the price of anthracite coal doubled as a result of several factors: inflation, the release of wage and price controls which had been imposed in 1971, the Arab oil embargo, and severe flooding in the Northern Field from Hurricane Agnes. The fact that Blue Coal ceased production in 1974 may also have temporarily contributed to a price increase in 1974-75. 3. The United Gas Improvement Corporation -- Blue Coal AgreementThe United Gas Improvement Corporation (UGI), a major utility358 company in the Wilkes-Barre area during the 1960s and 1970s, considered building an electric generating facility using anthracite refuse containing 40-percent ash. On January 14, 1971, Blue Coal granted UGI an option to buy 60 million tons of culm material, which included the Blue Coal banks. The sales price for the culm banks would have been 5 cents per raw ton. The agreement provided for the culm to be acquired over a 10-year period at $ 25,000 per month with no interest. The present value of this purchase price in 1971 was about $ 1.8 million. The UGI-Blue Coal agreement was canceled with the consent of the parties on May 24, 1973, in part due to uncertainties about economies of scale, the coal content of the culm banks, and the ability to obtain proper title insurance. A plant was never built. 4. Carrier Coal Co.a. Formation and OwnershipCarrier Coal Co., Inc. (Carrier Coal), was incorporated on June 13, 1974. Petitioners' sons were directors and each owned 50 percent of its stock. b. Lease of the Olyphant, Eddy Creek, and Gravity Slope Culm BanksOn June 4, 1974, Carrier Coal leased the Olyphant, Eddy Creek, and Gravity Slope culm banks, surrounding359 land, and a breaker from Raymond Colliery and Olyphant. The breaker was adjacent to the Olyphant culm bank. The lease operation was successful. Carrier Coal processed material from the Eddy Creek culm bank first because Carrier Coal believed it had the best quality material. Production began from the portion of the bank believed to have the best coal. c. Purchase of the Olyphant, Eddy Creek, and Gravity Slope Culm BanksFrom June to August 1974, Carrier Coal showed a profit. As a result, Carrier Coal and petitioners' sons decided to purchase the land, the three culm banks, and the breaker. Petitioners' sons sought financing for this purchase from the Wyoming National Bank of Wilkes-Barre (Wyoming Bank), which in turn sought the participation of the Mellon Bank of Pittsburgh. The Mellon Bank required a geological survey of the economic feasibility of the project. The Mellon Bank referred the Wyoming Bank to the John T. Boyd Co. (Boyd Co.). The Wyoming Bank asked the Boyd Co. to prepare an engineering evaluation of Carrier Coal (the September 30, 1974, Boyd report). The purpose of the September 30, 1974, Boyd report was to give the Wyoming Bank an opinion of the value360 of the three culm banks to provide a basis for lending the funds. d. The September 30, 1974, Boyd Report on the Eddy Creek, Gravity Slope, and Olyphant Culm BanksThe Boyd Co. was a mining and geological engineering firm with offices in Pittsburgh, Pennsylvania, and Denver, Colorado. John T. Boyd (Boyd) founded the firm in 1943. He was the firm's president in 1975. Boyd had experience in the field of bituminous coal. James W. Boyd, Boyd's son, was a mining engineer with the Boyd Co. in 1975. James W. Boyd is a knowledgeable mining engineer and the author of "Fundamentals of Coal and Mineral Valuations." Before this project, the Boyd Co. had no experience advising clients regarding the sale of anthracite coal or processing anthracite culm banks. Al Gilbert, a vice president of the Boyd Co. in 1975, had much experience in the field of anthracite coal, but not in the reclamation of anthracite culm banks. He participated in preparing the September 30, 1974, Boyd report and the later Boyd report on the Wanamie and Truesdale Banks. Carrier Coal provided estimates to the Boyd Co. that the Gravity Slope, Eddy Creek, and Olyphant culm banks contained a total of 4.1 million gross361 tons of material. Dale N. Reynolds (Reynolds), an engineering consultant for the Boyd Co., estimated that the three culm banks contained a total of 4,416,277 gross tons of material. Carrier Coal estimated Eddy Creek contained 1 million gross tons and Reynolds estimated it contained 435,600 gross tons. Carrier Coal told the Boyd Co. that its average recovery of coal in September 1974 was 25 percent, based on initial production from the Eddy Creek and Olyphant banks. The records did not indicate the ash content of the coal. The Boyd Co. took one ton of samples of material from each of the Gravity Slope, Olyphant, and Eddy Creek culm banks. Warner Laboratories, a credible commercial laboratory that did coal analysis, tested the samples. Its analysis showed a 19-percent coal recovery at 19-percent ash content. The Boyd Co. used Reynolds' quantity estimates and Warner Laboratories' quality recovery rate to make its valuation. The Boyd Co. extrapolated its results to the untested portions of the banks. Boyd also considered Carrier Coal testing and production statistics. The quality of the material contained in a culm bank can be tested by using core drilling, backhoes, or random362 sampling. Core drilling is the most accurate of these three methods and random sampling is the least accurate. Carrier Coal paid $ 30,000 for the September 30, 1974, Boyd report. The Boyd Co. arrived on site after August 30, 1974, and completed the report in less than a month. The Boyd Co. told the lending institutions that large areas of the banks were inaccessible for sampling, and variations in the recovery rate could be expected. The Boyd Co. did not include (or believe it was important to include) in its report information about the types of equipment that were used in the breakers that deposited the culm material. The September 30, 1974, Boyd report estimated that the cost of production of a ton of clean coal would be $ 21.55. The report also stated that Carrier Coal's actual cost to produce a ton of coal in 1974 was $ 32.51. The September 30, 1974, Boyd report concluded that it would cost $ 4.25 per ton for hauling charges. The Boyd Co. did not include the cost per mile of hauling refuse from the breaker site back to the culm bank. The September 30, 1974, Boyd report concluded that the average price for which Carrier Coal could expect to sell its coal over the 8-year363 anticipated life of the project was $ 33.37 per ton. This average price was based on Carrier Coal recovery of 11 to 13-percent ash standard anthracite coal during the initial production runs. Representatives of the Boyd Co. did not review any leases or any other information pertaining to Carrier Coal ownership of the banks. The Boyd Co. valued the Gravity Slope, Olyphant, and Eddy Creek culm banks as of September 24, 1974, at a total of $ 1.155 million. e. The September 1974 Chamberlin AppraisalAlexander R. Chamberlin (Chamberlin) appraised the value of the Olyphant, Eddy Creek, and Gravity Slope culm banks in September 1974. Chamberlin valued the three culm banks at 20 cents per gross ton and estimated that they contained 2.8 million tons of raw material, for a total value of $ 560,000. Chamberlin took into account that the Olyphant breaker was also acquired and was located next to the Olyphant culm bank. He also estimated that the yield would be between 15 and 20 percent for the Olyphant and Gravity Slope culm banks. The September 23, 1974, Chamberlin appraisal was an appraisal of the assets rather than of an operating company. Chamberlin had access to Carrier Coal's364 operating information and test results in making the valuation. f. Sale of Culm Banks to Carrier CoalOn September 24, 1974, Carrier Coal agreed to buy property including the Gravity Slope, Olyphant, and Eddy Creek culm banks from Raymond Colliery for $ 840,000. On the same day, Carrier Coal purchased from Olyphant the Olyphant breaker, with 1.3 acres of land for $ 360,000. g. Carrier Coal Financial Records and Coal ProductionCarrier Coal generally did not pay a 5-percent broker's commission on its sales. However, Carrier Coal did pay Almar Coal Co. a 5-percent broker's commission from June 13, 1974, to May 31, 1975, except for local deliveries at the breaker. In 1975, Carrier Coal received an average of between $ 48 and $ 50 per ton for the coal it produced. From May 31, 1974, until May 31, 1975, Carrier Coal processed 422,000 tons of refuse material with a yield of standard anthracite coal of 19.8 percent, which it sold for an average of $ 43.79 per ton. Carrier Coal's net income before provision for taxes for its first year of operation (from inception to May 31, 1975) was $ 1,337,023. By early spring 1976, the recovery percentage had fallen dramatically. 365 Carrier Coal could not process a significant amount of material from the other two banks. 5. Attempts by Petitioners' Sons and Others to Buy the Blue Coal Culm Banksa. James and Edward Durkin's September 1974 Option to Purchase the Blue Coal and Raymond Colliery Culm BanksAfter September 1974, petitioners' sons acquired an option to buy all the anthracite culm banks owned by Blue Coal and Raymond Colliery in Luzerne and Lackawanna counties, Pennsylvania, for $ 3.2 million. The culm banks were: Luzerne CountyLackawanna CountyWest EndCoalbrook BankWanamieJermyn Bank AreaBliss Bank Areas #1Grassy Island(Parcels 1 and 2) Marvine Bank #6Loomis BankCity of Scranton (Marvine)(Parcels 1 and 2) City of Scranton(Marvine)Avondale BankNorthwest BankReynolds Colliery Bank Area(Parcels 1 and 2) Huber Colliery Bank AreaMoffet Bank AreaPreston Bank Area(Parcels 1, 2 and 3) Preston-Sugar Notch Bank AreaOlyphant Colliery (EC)Maffetts BankArea II (Parcels 1 and 2) Franklin BankClinton Street Bank(Parcels 1 and 2) Powderly Bank AreasButtonwood Colliery Bank Areas(Parcels 1 and 2) (Parcels 1 and 2) Truesdale Bank Area No. 1Baltimore Tunnel Bank366 James J. Durkin, Jr., negotiated the $ 3.2 million price with Green and Millard. To finance this attempted purchase, James J. Durkin, Jr., sought a $ 2.7 million loan from the Wyoming Bank, which sought Mellon Bank's participation. Mellon Bank again requested that the Boyd Co. be retained to perform a geological survey of the culm banks. The Boyd Co. submitted a preliminary report on December 18, 1974, and a final report on January 16, 1975 (the January 16, 1975, Boyd report). Petitioners' sons did not acquire the culm banks at this time (as discussed above), because they did not obtain financing. b. Interstate Coal Processing Co. and the GreensOn or about February 18, 1975, petitioners' sons again sought to purchase the culm banks. Certain members of Green's family known as the "Green Group" also attempted to purchase the culm banks through a partnership known as the Interstate Coal Processing Co. (Interstate Coal). The Green Group consisted of the Irving Green Family Trust, Morris Green, Beverly Green Zelman, Ida Lee Green Herman, William H. Green, and James C.B. Millard III, as well as petitioners' sons and others. The ownership of Interstate Coal was to be as follows: 367 James J. Durkin, Jr.37-1/2%Edward Durkin37-1/2%James C.B. Millard, Jr.8-1/2% Trustee of the Irving Green Family Trust Morris Green8-1/2% James C.B. Millard III2% Beverly Green Zelman2% Ida Lee Green Herman2% William H. Green2% It was intended that Interstate Coal would purchase the culm banks from Blue Coal and Raymond Colliery. On February 18, 1975, Interstate Coal agreed to purchase the Blue Coal banks for 10 cents per raw ton. Interstate Coal sought financing from Mellon Bank to purchase the culm banks, but Mellon Bank declined to lend the money. One of the reasons Mellon Bank declined to lend the money, was its fear that the sale of the culm banks to Interstate Coal might be a fraudulent conveyance because the value of the coal reserves had previously been estimated considerably in excess of the $ 3.2 million selling price. Around April 1975, petitioners' sons together with Green and the stock brokerage firm of Donaldson, Lufkin, and Jenrette, unsuccessfully sought to purchase the Blue Coal banks from Raymond Colliery and Blue Coal for 10 cents per ton of culm material. c. Other Prospective Purchasers of the Blue Coal BanksGreen approached368 several other persons to determine if there was any interest in buying the Blue Coal banks. These persons included Chuck Dewees, Ken Pollack, Fred Davis (Davis), and Louis Beltrami (Beltrami). One such negotiation occurred in February 1975 with Davis. Davis, an acquaintance and business associate of the Durkins, formerly was president of the Reading Trust Co. of Reading, Pennsylvania, and had been involved in the coal business since the early 1970s. He was familiar with the Blue Coal banks. 6. Boyd Co. Valuation of Truesdale and Wanamie Culm BanksIn November or early December 1974, petitioners' sons engaged the Boyd Co. to evaluate the Truesdale and Wanamie culm banks. This was in connection with petitioners' sons' negotiations to purchase the remaining culm banks owned by Blue Coal, Raymond Colliery, and Olyphant, at the request of Mellon Bank. The Boyd Co. prepared a preliminary report dated December 18, 1974, and a final report dated January 16, 1975. Vernon L. Crockett (Crockett), an engineer at the Boyd Co., made a helicopter survey of all the culm banks which were to be purchased by petitioners' sons. Crockett believed that 32 million tons was a low estimate369 of the quantity of material contained in the culm banks and that the quality of material in the other banks should be better than the Truesdale bank. a. Warner Laboratories AnalysisIn December 1974, the Boyd Co. took spot samples from the Truesdale and Wanamie banks and sent them to Warner Laboratories for analysis. On December 9, 1974, the Boyd Co. tested 2,115 tons of spot-sampled material by processing it at the Carrier Coal's breaker in Olyphant, Pennsylvania. The test showed a 15.74-percent recovery rate (333 tons of coal from 2,115 tons processed) at approximately 12-percent ash. The coal recovered included nonstandard anthracite coal. Petitioner's expert, Chamberlin, concluded that the Warner tests showed a recovery of 5- to 6-percent standard anthracite coal. Respondent's expert, Walter W. Kaufman (Kaufman), agreed with Chamberlin's calculation of the percentage of recovery from the Truesdale bank. The January 16, 1975, Boyd report made the following estimates for the Truesdale and Wanamie culm banks: GrossRefuseAcresQuantityRecoveryClean CoalAshPile(Est.)Tons (000's)%Tons (000's)%Truesdale274,00013.6254416.92Wanamie182,70019.7753455.25Totals 456,70016.001,078370 b. Production CostsLabor costs included in the January 1975 Boyd report were based on actual labor rates supplied by Carrier Coal. The Boyd Co. used an 18-percent discount rate on cash-flow (present value) because the quantity and quality of the culm material was in doubt. The Boyd Co. calculated that it would cost $ 3.42 per clean ton to haul the coal from the Wanamie and Olyphant culm banks by using the cost per ton over the entire amount produced from both the Wanamie and Truesdale culm banks (140,000). The Boyd Co. did not include the cost of borrowed funds, or the costs of a broker to sell the coal. The January 16, 1975, Boyd report concluded that the material processed at the proposed breaker would sell for an average price of $ 45 per ton. This price was based on the Carrier Coal sales prices for material processed and sold from the Olyphant culm bank. Carrier Coal sales prices were based on standard anthracite coal containing between 11- and 13-percent ash. The material from the Truesdale and Wanamie culm banks as reported by the Boyd Co. was not standard anthracite coal and would not command standard anthracite coal prices. The Boyd Co. estimated the net worth371 of the Truesdale and Wanamie culm banks, as of January 1, 1975, to be $ 3,846,000. Petitioners' sons, through Carrier Coal or the Bancroft Co. Partnership, paid the Boyd Co. for the January 16, 1975, Boyd report. James Durkin, Jr., was satisfied with both the September 1974 and January 1975 Boyd reports because they gave the banks a basis on which to lend the funds. The Durkins gave the Boyd reports to the Wyoming Bank, the Mellon Bank, and Total Energy Leasing Corp. However, petitioners' sons attempts to obtain financing were unsuccessful. 7. The June 26, 1975, Transactions: Petitioners' Purchase of Culm Banks From GACC and Sale of GACC Stock to Greena. OverviewGreen sought to buy the Durkins' stock in Blue Coal on February 27, 1975, for $ 1.205 million and to have the Durkins resign their positions as officers and directors of GACC or its subsidiaries. After several months of negotiations, petitioners agreed to transfer their GACC stock to Green and acquire the culm banks. Petitioners agreed to get out of Blue Coal by transferring their GACC stock to Green, terminating their employment with Blue Coal, and buying the culm banks. On June 26, 1975, petitioners372 purchased the Blue Coal Culm banks from GACC and sold their GACC stock to Green. This ended petitioners' GACC ownership and transferred coal properties from GACC to petitioners. b. Sale of Blue Coal Culm Banks to the DurkinsIn 1975, James J. Durkin, Jr., began negotiating with Green to buy the Blue Coal banks. On May 28, 1975, petitioners agreed to purchase certain culm banks' access easements and a breaker site from Blue Coal, Raymond Colliery, and Olyphant for $ 2.97 million and a $ 1 royalty per long ton (2,240 pounds) of clean coal produced. The May 28, 1975, agreement was superseded by an agreement dated June 26, 1975 (Culm Agreement), and modified on January 28, 1976. In the June 26, 1975, agreement, petitioners purchased the culm banks in issue. The purchase price of the assets sold under the June 26, 1975, agreement was $ 4.17 million and a $ 1 royalty for each long ton (2,240 pounds) of clean coal produced. The $ 4.17 million consideration was comprised of: $254,000 Certified check400,000Promissory note2,333,920Cancellation of indebtedness by the Durkins610,000Assumption of GACC debts by the Durkins572,080Promissory note from petitioners, cosigned$ 4,170,000by their sons 373 These banks contained 35 to 40 million tons of material. As part of the June 26, 1975, agreement, petitioners obtained all of the right, title, and interest of Blue Coal, Raymond Colliery, and Olyphant in the following leases: (1) Lease to Beltrami on the Marvine banks; (2) UGI-Pollock and Susquehanna leases; (3) State lease on Powderly bank; and (4) Falzone-Colt lease. In the June 26, 1975, Culm Agreement petitioners did not buy an operating company or equipment. They bought the banks in bulk. Petitioners did not purchase a fee simple interest in the Blue Coal banks and land on which they were situated. Most of the banks were to revert to GACC in 20 years. The June 26, 1975, Culm Agreement differed from the May 28, 1975, agreement in that the purchase price was increased from $ 2.97 million to $ 4.17 million. On June 26, 1975, the Board of Directors of Blue Coal adopted a resolution to convey parcels of land and the culm material in the Counties of Luzerne, Lackawanna, Susquehanna, and Wayne to petitioners. On that date, petitioners, Green, and Millard were the members of the Board of Directors of Blue Coal who authorized the resolution above. c. Sale of Petitioners'374 GACC Stock to GreenOn June 26, 1975, petitioners entered into an agreement to sell their GACC stock to Green for $ 205,000, to cancel all indebtedness owed to them from GACC, and to resign as officers, directors, and employees of GACC and its subsidiaries. On June 26, 1975, petitioners resigned as officers of GACC and its subsidiaries. d. Release of IIT Liens on Blue Coal Culm BanksIIT held a lien on all of Blue Coal's assets on June 26, 1975, including the Blue Coal banks, and had the right to approve or disapprove of any sale of any asset of the company. To induce IIT to release its lien on the Blue Coal banks, Blue Coal agreed to pay a release fee of $ 1 million. 8. Truesdale Enterprises and Carrier-Truesdale Partnershipa. Assignment of Blue Coal Culm Banks, Etc., to Truesdale EnterprisesPetitioners assigned all of their right, title, and interest acquired under the Culm Agreement in the Blue Coal culm banks to Truesdale Enterprises, Inc. (Truesdale Enterprises). For all times relevant here, Truesdale Enterprises was owned 50 percent by James J. Durkin, Sr., and 50 percent by Anna Jean Durkin. In the January 28, 1976, Modification Agreement, Truesdale375 Enterprises agreed to reconvey certain land that was unnecessary to provide access to the culm banks. Davis helped the petitioners in their attempt to obtain financing to process the culm banks. In the late summer or early fall of 1975, Davis prepared a loan application for Carrier Coal Co. and Truesdale Enterprises, which were owned 100 percent by petitioners. The application was submitted to First Valley Bank, Wyoming Bank, and Mellon Bank. It was based on the January 16, 1975, Boyd report. The loan application was for a 5-year term loan of $ 4.5 million. The loan application prepared by Davis stated that if the values for the Wanamie and Truesdale banks in the January 16, 1975, Boyd report were applied to what Davis "conservatively estimated" to contain 32 million tons of the culm material, it would result in a present value in excess of $ 18 million. The loan application stated, "If an income approach were used with profit being capitalized at 20%, the projected [annual] profit of $ 2,956,809 would have a capital value of $ 14,784,045." In the application, Davis stated that the culm material could be economically processed from the 2 existing plants in 18 years. Davis' 376 figures were extrapolated from the January 16, 1975, Boyd report. The attempt to obtain financing from First Valley Bank, Wyoming Bank, and Mellon Bank was unsuccessful. b. Carrier-Truesdale PartnershipOn January 28, 1976, Carrier Coal and Truesdale Enterprises entered into a partnership known as the Carrier-Truesdale Partnership, which combined all of the assets and liabilities of the two corporations. Carrier Coal was a 60-percent owner of the partnership, and Truesdale Enterprises was a 40-percent owner. Truesdale Enterprises contributed the culm banks that petitioners acquired on June 26, 1975 (the Blue Coal Banks). Carrier Coal contributed the Olyphant, Gravity Slope, and Eddy Creek culm banks, the Olyphant breaker, land equipment, and an operating organization. Carrier Coal's liabilities were $ 5,112,000. In its opening accounting entries, dated January 29, 1976, the Carrier-Truesdale Partnership's basis in the Blue Coal banks contributed by Truesdale Enterprises was $ 4.17 million. 9. Joint Venture with TELCOa. Total Energy Leasing Corporation (TELCO)Petitioners needed to raise $ 5.5 million to begin processing the culm banks. Jules I. Whitman377 (Whitman), an attorney with the Philadelphia law firm of Dilworth, Paxson, Kalish & Levy, represented the Durkins in 1975. In 1975 and 1976, Meyer Steinberg (Steinberg) was the principal stockholder of Total Energy Leasing Corp. (TELCO). In 1975, TELCO had a large expiring net operating loss carryforward. TELCO wanted an investment opportunity which would provide taxable income to use its expiring net operating loss carryforward. TELCO was referred to Richard Levy (Levy) of Dilworth, Paxson, Kalish & Levy. In August 1975, Levy put TELCO in touch with the Durkins to discuss a possible joint venture to produce coal from the Blue Coal banks. b. The Joint Venture: Carrier Coal EnterpriseTELCO and the Durkins agreed to form a joint venture to be called Carrier Coal Enterprises. TELCO joined Carrier Coal Enterprises because TELCO expected it to produce taxable income needed to use TELCO's expiring net operating loss carryforward. Carrier-Truesdale Partnership joined Carrier Coal Enterprises to obtain financing to produce coal from the Blue Coal banks, and to pay existing debts. On August 20, 1975, Whitman sent a proposed joint venture agreement to TELCO. Under the proposed378 agreement, the Durkins would contribute the culm banks owned by Carrier and those acquired on June 26, 1975, subject to certain liabilities. Either the Durkins or their representatives sent the following documents to TELCO after the joint venture was proposed: the financial statements of Carrier Coal, the September 1974 and January 1975 Boyd reports, and projections of future operations prepared by Charles Parente (Parente), accountant for Carrier Coal. The parties to the joint venture ancitipated that all sales would be direct so the joint venture would not have to pay a 5-percent commission to a coal broker. In a letter to TELCO dated August 20, 1975, Whitman represented that, once the operation of the proposed joint venture was fully underway, the total profits earned each year would be more than $ 4 million before taxes. Neither the Durkins nor their representatives ever indicated to TELCO that there were any inaccuracies in the Boyd reports, the Carrier Coal financial statements, or the cash-flow projections. George Myrtetus (Myrtetus), TELCO's president, does not believe that the Durkins made any specific misrepresentations to TELCO about the deal. In a letter to TELCO379 dated August 20, 1975, Whitman represented that the culm banks that the Durkins were to contribute to the possible joint venture "for purposes of the agreement * * * would have a net value of approximately $ 10,000,000." Parente prepared cash-flow projections, financial statements, and balance sheets for the proposed joint venture. By letter dated October 2, 1975, Parente sent projections for the proposed joint venture to Myrtetus, which included the following information: ANNUAL PRODUCTION:PROJECTEDINPUTTONS FINISHEDCOST OFTONSPRODUCTPRODUCTION (Per ton)Carrier Plant1,000,000* 150,000$ 16.75Truesdale Plant900,000135,00027.58Total 1,900,000285,000SELLING PRICES (PER TON): 19761977197819791980Average$ 48$ 49$ 51$ 53$ 55For the fiscal year ended May 31, 1975, the cost of production per ton for Carrier Coal was $ 14.87 after adjusting production costs for the cost of purchased coal. Parente projected that the net income from the proposed joint venture would be $ 5,694,000, $ 5,575,000, $ 5,720,000, $ 5,805,000, and $ 5,817,000 for taxable years380 1976 through 1980, respectively. These figures did not take into account interest and debt repayments or income taxes. On December 8, 1975, Parente sent a letter to Myrtetus containing a pro forma balance sheet for Carrier Coal and Truesdale as of October 31, 1975. The pro forma balance sheet listed the value of the culm banks purchased by the Durkins on June 26, 1975, as $ 9,765,793. c. Chemical Bank Loan to TELCOIn 1975 and 1976, TELCO was an active client of Chemical Bank. TELCO applied to Chemical Bank around January 1976 for a $ 5.5 million loan to provide the $ 5.45 million it was to contribute to the proposed joint venture. Steinberg, Carrier Coal Enterprises, TELCO, and the Carrier-Truesdale Partnership were obligated to repay the Chemical Bank loan. The culm banks were used by TELCO as collateral for the $ 5.5 million loan. As a result, Chemical Bank obtained mortgages on Carrier Coal's assets as collateral, including the culm banks. The following things were considered by Chemical Bank in deciding whether to make the loan to TELCO: (1) The Boyd reports, primarily to determine the amount of culm material; (2) cash-flow analysis and actual production from381 Carrier Coal; (3) the quality of the culm bank material; (4) the reputation of the parties involved and the credibility of the accounting firm employed by the parties; (5) internal cash flow projections; (6) inspection of the culm banks and the processing facilities (Chemical Bank viewed but did not test the culm banks); and (7) the fact that TELCO had net operating losses of at least $ 5 million. Steinberg negotiated the loan on behalf of TELCO, and Joseph A. Lucas (Lucas) and Al Schiavetti (Schiavetti) negotiated on behalf of Chemical Bank. Lucas was a district head in the Commercial Banking Group of Chemical Bank when the loan to TELCO was approved. Schiavetti was his associate. Grover Castle (Castle), a vice president of Chemical Bank's Petroleum and Minerals division, believed the loan involved high risk. However, he approved the loan. In 1975, Chemical Bank had a policy not to lend funds in excess of 50 percent of future net revenues or reserves. Walter E. Seibert, Jr. (Seibert), an engineer and vice president of the Petroleum and Mineral Division of Chemical Bank, believed that the proposed $ 5.5 million loan met this standard. He recommended that Chemical Bank382 make the loan. A Siebert engineering memorandum dated October 27, 1975, concerning the TELCO and Carrier Coal loan stated that Carrier Coal produced coal containing 13-percent ash, 13,000 B.T.U., and less than 0.7-percent sulfur. Chemical Bank believed that, although the project had been uneconomic a few years earlier, it was feasible in November 1975 because of higher oil prices. Chemical Bank made the $ 5.5 million loan to TELCO for the joint venture. d. Formation of Carrier Coal EnterprisesThe Durkins entered into the joint venture with TELCO through the Carrier-Truesdale Partnership. On January 28, 1976, the Carrier-Truesdale Partnership formed a joint venture with TELCO, known as Carrier Coal Enterprises. Carrier Coal Enterprises was owned 50 percent by the Carrier-Truesdale Partnership and 50 percent by TELCO. Upon formation of Carrier Coal Enterprises, TELCO contributed $ 5.45 million and the Carrier-Truesdale Partnership contributed culm banks, a processing plant, and miscellaneous equipment. The Carrier-Truesdale Partnership's basis in all of the culm banks it contributed to Carrier Coal Enterprises was $ 4,743,955. The Carrier-Truesdale Partnership's basis383 in all of the assets it contributed to Carrier Coal Enterprises, including the land, breaker, and equipment, was $ 5,370,180.94. The Carrier-Truesdale Partnership also contributed $ 5,112,000 in liabilities which were assumed by Carrier Coal Enterprises. The basis of Carrier-Truesdale Partnership's (total) net contribution to Carrier Coal Enterprises was $ 258,180.94. As listed on the pro forma balance sheet at the inception of the Carrier-TELCO venture, the book value was $ 573,955 for the culm banks contributed to the joint venture by Carrier Coal and $ 4,170,000 for the culm banks contributed by Truesdale Enterprises. The value of the culm banks is listed as an asset at a value of $ 9,765,793. Parente sent a letter to Levy dated December 26, 1975, with various documents relating to the joint venture. Those documents included a "Pro-Forma Balance Sheet at Inception of Venture" and a "Calculation of Book Basis of Assets Sold", which each list the culm banks at a value of $ 9,868,990. Parente prepared the 1976 partnership return for Carrier Coal Enterprises. The book value assigned to the bank material owned by Carrier Coal Enterprises on that return was $ 4,743,955, and the384 market value assigned to the total bank material contributed by Carrier-Truesdale Partnership was $ 9,935,774. The Carrier Coal Enterprises financial statements for the period January 28, 1976 (inception) to December 31, 1976, prepared by Laventhol, Krekstein, Horwath & Horwath on April 21, 1977, list the value of the culm banks as $ 10,231,036. The Carrier Coal Enterprises' unaudited financial statements from January 28, 1976 (inception), to December 31, 1976, and years ended December 31, 1977, and 1978, and 9 months ended September 30, 1978, and 1979 show the culm banks at a value of $ 10,175,036. e. The Operation of Carrier Coal EnterprisesCarrier Coal Enterprises fell short of expectations soon after it was formed. The Chemical Bank loan went bad (became a "non-performing asset") almost immediately. There was insufficient cash-flow to service the loan. Starting around April 1976, Chemical Bank began pressuring Carrier Coal Enterprises to sell its assets to service the debt. On August 11, 1976, Carrier Coal Enterprises agreed to sell all the culm material in the West End culm bank, approximately 3.5 million to 4 million tons, to West End Coal Co., for $ 2.5 million. 385 The buyers paid a $ 200,000 deposit, but the balance was never paid. In October 1976, Carrier Coal Enterprises entered a contract to provide 25,000 to 30,000 tons of coal at $ 23.33 per ton. Carrier Coal Enterprises estimated its loss to be $ 253,000 on this contract. Carrier Coal Enterprises was unable to profitably produce coal from the Blue Coal banks, and lost about $ 1,432,136 from its inception to December 31, 1976. The market for coal had deteriorated significantly and the plant was inefficient. As a result of Carrier Coal Enterprises' lack of profit, the partners defaulted on a long-term obligation that Carrier Coal Enterprises had guaranteed. Around May 1977, Myrtetus' office prepared a "Business Plan" to be submitted to Chemical Bank, which explored possible plans to process the culm material. The business plan states that the culm banks contain over 40 million tons of material with an estimated 19-percent marketable coal. The business plan proposes, as part of "Plan III", the erection of two precleaning plants to be used with the existing processing plant to produce 305,760 tons of marketable coal per year. The plan projects a cost of $ 13.49 per ton and a sales386 price of $ 36.10 per ton. In 1977, James J. Durkin, Jr., as managing partner of Carrier Coal Enterprises, represented that the culm banks contained (conservatively) over 36.4 million tons of material. He stated that he guaranteed that 6 million tons of anthracite were contained in the culm banks, not including silt. He estimated that the coal contained in the culm banks owned by Carrier Coal Enterprises could be sold for $ 42 per ton. Carrier Coal Enterprises suspended operations in 1977, due to heavy production losses. 10. Developments After June 26, 1975Culm bank production in all of Pennsylvania fell from about 2.9 million tons in 1975 to about 1.5 million tons in 1978. This occurred when production from Pennsylvania deep coal mining was at its lowest historical level. Since 1975, the Wanamie, Truesdale, Huber, Powderly, Bliss, and Marvine banks have been rerun. The Gravity Slope and Eddy Creek banks have been processed, but the Olyphant bank has not. Beltrami has processed several of the Blue Coal banks, and has never recovered more than 8- or 9-percent coal. Recovery of low ash coal was between 5 and 6 percent. Since 1975, the companies that reran these banks387 have gone out of business. 11. Petitioner Anna Jean DurkinAnna Jean Durkin married James J. Durkin, Sr. (Mr. Durkin) on August 17, 1937. They were married until his death on June 30, 1989. Mrs. Durkin had a good style of living before and during her marriage. From 1973 until 1978, petitioners lived in a large, beautifully decorated English manor house. Mrs. Durkin had maids and cooks before and after she married. Mr. Durkin owned or leased Cadillacs since the 1940s, including from 1973 to 1978. Mrs. Durkin owned or leased a Lincoln Continental from 1973 through 1978. Mr. Durkin did not like to travel. He and Mrs. Durkin did not take vacations together from 1973 to 1978. Mrs. Durkin traveled with her daughter. Around 1936, Mrs. Durkin inherited stock from her grandmother. Mrs. Durkin managed that stock. Mrs. Durkin also received an inheritance from an aunt who passed away. The inheritance included real estate, stock, and bonds. Mrs. Durkin managed those assets. Mrs. Durkin graduated in 1937 with a bachelor or arts degree from Mount Holyoke College with a major in mathematics. She took accounting courses and attended law seminars in New York City during World388 War II. In 1946, she passed examinations for insurance and real estate licenses. Mrs. Durkin is listed in Who's Who of American Women and World's Who's Who of Women. Mrs. Durkin handled all of her own finances and kept them separate from Mr. Durkin's finances. She also wrote all the checks pertaining to her joint finances with Mr. Durkin. At a time not stated in the record, Mrs. Durkin was an executive of and active in Connell Coal Co. Connell Coal was built to clean old culm banks and sell the material to power plants. It was a highly profitable venture. The company purchased additional banks, and sold them at a sizeable profit to UGI. At a time not stated in the record, Mrs. Durkin was a stockholder of Honeybrook Mines, Inc., a sizeable deep-mining and stripping operation. Also, at some time not stated in the record, Mrs. Durkin was secretary, treasurer, and office manager of Dart Coal Co., Lyon Coal Co., Lark Coal Co., and Almar Coal Co., and the treasurer of Great West Coal Sales Co., New York City. Petitioners were the sole partners in the Almar Coal Co. Mrs. Durkin became Budget Director of Pocono Downs, Inc., a harness racing track in 1965, and she became executive389 vice president about 2 years later. In this capacity, she supervised the accounting department, headed the purchasing department, and checked on all phases of management. At some time not stated in the record, Mrs. Durkin was secretary of National Diversified Industries until it was merged with a meat packing company. Mrs. Durkin has managed or has been active in all Durkin Enterprises projects. Parente often dealt with Mrs. Durkin. Sometime before the years in issue, Durkin Enterprises purchased 30,000 acres of anthracite coal in Center County near Snowshoe, Pennsylvania. This land was valuable for its fuel assets, and also had potential for real estate development. Several large companies had options to drill for gas. Mrs. Durkin managed this operation. She let leases for mining, stripping, hunting, areas, timber, clay, and others. As of November 1973, petitioners jointly owned 33-1/3 percent of the stock of Barbara Coal Co. (Barbara Coal), and petitioners' sons each owned 33-1/3 percent of the stock. Barbara Coal was involved in mining and stripping operations. Mrs. Durkin was vice president and director of Barbara Coal. Mrs. Durkin resigned as secretary and treasurer390 of Barbara Coal on February 18, 1974, but she remained as vice president, director, and shareholder. Mrs. Durkin was vice president, secretary, and a director of Raymond Colliery. Mrs. Durkin was director, vice president, and secretary of Blue Coal. She was present at the closing when the Durkins purchased Blue Coal in November 1973. She received a $ 28,750 salary from the Blue Coal in 1974 and $ 16,034.46 in 1975. Mrs. Durkin spent 1 to 3 days per week in the Blue Coal offices between 1973 and 1975. Some weeks she did not go to the Blue Coal offices. Mrs. Durkin had her own office at Blue Coal. It had previously been occupied by the former comptroller of the company. Mrs. Durkin told Frank Dougher (Dougher), comptroller for Blue Coal, which Blue Coal bills to pay, or they decided together which bills to pay. Dougher talked with Mrs. Durkin every day she was in the Blue Coal offices. While Mrs. Durkin was working at the offices of Blue Coal, if she had any typing, it was done by Gordie Thomas, the president's secretary. Mrs. Durkin dealt with people seeking to buy equipment and leases for the right to mine coal on Blue Coal property. She told Dougher to lay off several391 Blue Coal employees. On July 1, 1974, Mrs. Durkin signed a Blue Coal memo granting all administrative and office personnel extra holiday time for the 4th of July holiday between July 3, 1974, and July 8, 1974. During most of the years at issue, Mrs. Durkin also had an office in her home in Dallas, Pennsylvania. Mrs. Durkin had a secretary named Carol in Dallas, Pennsylvania. Mrs. Durkin had Carol call Dougher at the offices of Blue Coal to give him instructions regarding work to be performed. Mrs. Durkin was secretary and director of GACC. On May 28, 1975, petitioners signed a letter agreeing to dispose of all their GACC stock. On June 26, 1975, petitioners disposed of their GACC stock and canceled the GACC indebtedness of $ 2,333,920. Mrs. Durkin was secretary and director of Truesdale. She kept all the Truesdale books. She supervised the daily accounting and office work of Truesdale, attended numerous meetings, and cosigned all checks. Mrs. Durkin also helped supervise and formulate the budget for Truesdale and Carrier Coal Enterprises and consulted with Carrier Coal officers on ways to cost cuts. On June 26, 1975, petitioners and their sons executed promissory notes392 on behalf of Truesdale in the amounts of $ 505,473.77 and $ 400,000. Mrs. Durkin was not involved in arranging the loan from Chemical Bank. Mrs. Durkin received salaries from Truesdale in the amounts of $ 16,253.98 in 1975, and $ 1,333.33 in 1976. She received salaries from Carrier Coal in the amounts of $ 25,333.27 in 1976, $ 39,666.64 in 1977, and $ 25,000 in 1978. OPINION We must decide the amount and character of petitioners' gain, if any, from the transaction in which petitioners' acquired culm banks on June 26, 1975, and whether Mrs. Durkin is an innocent spouse under section 6013(e). 1. The Culm Banks: IntroductionRespondent contends that petitioners received a $ 5,765,774 constructive dividend in 1975 resulting from their purchase of culm banks on June 26, 1975. Respondent contends that petitioners purchased the culm banks for much less than their fair market value and that the bargain purchase resulted from petitioners' control over GACC. Respondent asserts that the fair market value of the culm banks on that date was $ 9,935,774 and the purchase price was $ 4,170,000. Respondent's position is based largely on expert opinion and petitioners' business and393 loan-related documents. Petitioners dispute respondent's contentions relating to the fair market value, the presence of control, whether the culm bank sale was separate from petitioners' sale of GACC stock to Green, and respondent's characterization of the transaction. Petitioners contend that business records on which respondent relies were not intended to show the fair market value of the culm banks, that business records and expert opinions support petitioners' position, and that respondent's position fails to take into account various points relating to fair market value. Respondent's determination is presumed to be correct, and petitioners have the burden of proving it to be in error. Rule 142(a); Welch v. Helvering, 290 U.S. 111">290 U.S. 111, 115 (1933). 2. Fair Market Value of the Culm Banks on June 26, 1975Fair market value is "the price at which the property would change hands between a willing buyer and a willing seller, neither being under any compulsion to buy or sell and both having a reasonable knowledge of relevant facts." Sec. 1.170A-1(c)(2), Income Tax Regs.; see 551 United States v. Cartwright, 411 U.S. 546">411 U.S. 546, 551 (1973) (re394 sec. 2031). Fair market value is a question of fact to be determined from the entire record. Lio v. Commissioner, 85 T.C. 56">85 T.C. 56 (1985), affd. sub nom. Orth v. Commissioner, 813 F.2d 837">813 F.2d 837 (7th Cir. 1987). Fair market value is a question of judgment rather than mathematics. Hamm v. Commissioner, 325 F.2d 934">325 F.2d 934, 940 (8th Cir. 1963), affg. T.C. Memo 1961-347">T.C. Memo. 1961-347. By its very nature, valuation is an approximation derived from all the evidence. Helvering v. Safe Deposit & Trust Co., 316 U.S. 56">316 U.S. 56 (1942); Silverman v. Commissioner, 538 F.2d 927">538 F.2d 927, 933 (2d Cir. 1976), affg. T.C. Memo 1974-285">T.C. Memo. 1974-285. a. Expert WitnessesEach party relied on two expert witnesses in support of the respective culm bank fair market value positions. The opinions of expert witnesses are weighed according to the experts' qualifications and other relevant evidence. See Johnson v. Commissioner, 85 T.C. 469">85 T.C. 469, 477 (1985); Anderson v. Commissioner, 250 F.2d 242">250 F.2d 242, 249 (5th Cir. 1957), affg. T.C. Memo 1956-178">T.C. Memo. 1956-178. We may accept or reject expert395 testimony according to our own judgment, Helvering v. National Grocery Co., 304 U.S. 282">304 U.S. 282 (1938), and we may be selective in deciding what portions of an expert's opinion, if any, we will accept. Parker v. Commissioner, 86 T.C. 547">86 T.C. 547, 562 (1986). Respondents' experts were Kaufman and David Jeffreys (Jeffreys). Petitioners' experts were Chamberlin and Louis Beltrami (Beltrami). For reasons stated below, we rely most on Kaufman's and Chamberlin's opinions. (1) KaufmanKaufman's opinion is that the fair market value of the culm banks purchased by petitioners on June 26, 1975, was between $ 8.5 and $ 9 million. We found Kaufman to be very qualified and credible. Kaufman's expertise is clear because of his educational background, employment and engineering experience, professional affiliations, and authorship of numerous mining publications and articles. Kaufman used the capitalization of income approach (income approach) to value the Blue Coal banks. He estimated the fair market value of the present worth of the projected income stream to be derived from future sales of the natural resource. This method is one of those generally used396 by the industry to evaluate natural resource property. Kaufman considered four general factors: (1) The quantity of the reserves; (2) the quality of the reserves; (3) the marketability of the coal produced; and (4) the cost of producing the coal. Kaufman estimated that the Durkins purchased 40 million tons of culm material on June 26, 1975. He erroneously counted the Eddy Creek culm bank which on our record had previously been sold to petitioners' sons. Kaufman estimated that the culm material contained an average recovery of at least 15-percent marketable coal. He considered data from a 1954 assessment of the culm banks owned by the Glen Alden Coal Co., tests conducted by Pennsylvania State University, Boyd Co. reports prepared in 1974 and 1975, actual production statistics from Carrier Coal, and a report published by the Economic Development Council of Northeastern Pennsylvania. From this data Kaufman estimated recovery to be in the 15- to 30-percent range. Kaufman believed that six million tons of coal could be produced from the culm banks and sold for an average of $ 38.50 per ton. Between 1973 and 1975 the price of standard anthracite coal virtually doubled. This was397 due to several factors including: (1) Wage and price controls were released in late 1973 and early 1974; (2) flooding resulting from Hurricane Agnes in 1972 caused many deep mines to close; and (3) an Arab oil embargo occurred between October 1973 and April 1974. Kaufman developed a hypothetical mining program to process the culm material purchased by petitioners. Kaufman proposed that plants be constructed to process the material. He estimated production of 300,000 tons of coal per year for 20 years. The January 16, 1975, Boyd report also proposed building new coal processing plants. We also note that a loan application prepared by Davis around October 1975 proposed processing more than 1 million tons per year for 18 years. Kaufman estimated the cost of producing coal from the Durkin culm banks in 1975. He estimated costs for a variety of factors such as labor, equipment, hauling, a 10-percent contingency factor, and royalty payments. Kaufman applied a present worth factor of 18 percent to the projected cash-flow for each year. Kaufman said this took into account the high interest rates in 1975, the high risk of developing culm banks, and the uncertain economy. Petitioners398 fault Kaufman for omitting and underestimating costs. For example, petitioners argue that he omitted coal broker costs. However, a company producing from these culm banks may broker its own coal as was contemplated in the Carrier Coal joint venture. Petitioners fault Kaufman for not considering Office of Surface Mining taxes. However, they were not imposed until 1977, and could not have been considered in valuing an asset on June 26, 1975. Kaufman admitted that his analysis was not perfect. Kaufman's report had some problems that require us to reduce his fair market value estimate. Examples of these are his failure to consider whether environmental or zoning problems could arise from relocating the plant; some costs of real estate and excise taxes; commissions; the extent to which he was considering standard or nonstandard coal; his inclusion of the Eddy Creek bank; and his failure to allow for the $ 1 per ton royalty to be paid by petitioners. (2) JeffreysJeffreys was employed by respondent as a Valuation Engineer at the time of trial. He had been an employee of the Internal Revenue Service since 1972. He used the market method to estimate the value of the culm banks. 399 He evaluated sales of properties he believed to be comparable and applied these prices to the resource to be valued. Jeffreys estimated the culm banks to have a fair market value on June 26, 1975, of $ 10,114,200. Jeffreys has considerably less relevant expertise than Kaufman, Chamberlin, and Beltrami. His academic, employment, and publications background also detract from the weight we give his opinion. His report was more of a summary of respondent's position based on selective references to the facts and published material than the application of independent expertise. We also note numerous flaws in his analysis. For example, in reaching his fair market value figure, Jeffreys identified a February 1973 contract between DeVault Contracting Co., Inc., and Blue Coal for gross fill material. Jeffreys failed to identify the quantity of the purchase, from which culm bank the material came, and the proximity of the bank to the location needing filling. Even though the culm bank sale was not a lease, Jeffreys identified various leases from Blue Coal to third parties to support his valuation. Jeffreys failed to consider that one generally will pay more for a stripping lease because400 the amount and location of the coal in the coal veins is accurately documented. Although agreeing with the statement that to understand the composition of a culm bank one needs to know the type of equipment that deposited the material on the bank, Jeffreys did not know what equipment was used to deposit the Blue Coal banks. Jeffreys noted that culm bank material could be used for highway construction, building blocks, antiskid material, raw material for the mineral wood industry, soilless media for plant growing, and recovery of mineral and trace elements. However, he failed to identify what companies were involved in these processes or the price that they would pay for the refuse. Although he used the term mineral wood in his report and in his testimony, it appears that his reference should have been to mineral wool. Accordingly, we do not give his report much weight. (3) ChamberlinChamberlin, one of petitioners' experts, valued the Blue Coal banks at 3 cents per gross ton. He has solid credentials based on his long experience in the field. Chamberlin is a registered professional engineer in Pennsylvania, and a member of various local and national engineering societies. 401 He has been extensively involved in the Pennsylvania coal industry from before 1945 to the present. He has been a coal broker, managed mines, managed and rebuilt preparation plants, was a partner in a company that operated a silt bank, and since 1957 has owned a mining and machinery company. Since 1975, Chamberlin has appraised approximately 20 coal mine properties and advised people about leases, volumes (as opposed to values), recovery rates, and the processing of culm banks. Chamberlin used the market approach to valuation. His valuation was predominately based upon an analysis of the UGI-Blue Coal agreement as a comparable sale. The UGI transaction was the issuance of an option to UGI from Blue Coal to buy 60 million tons of culm banks for 5 cents per ton. The option was not exercised for many reasons, including the large size of the deal, the inability to obtain proper title insurance, and the uncertain coal content of the banks. In addition, the UGI transaction was negotiated in 1971, 4 years before petitioners' purchase, when the price of coal and culm activity in the area was substantially lower. We do not give this unexercised option much weight as a comparable sale. 402 See M & W Gear Co. v. Commissioner, 446 F.2d 841">446 F.2d 841, 845 (7th Cir. 1971), affg. in part and revg. in part 54 T.C. 385">54 T.C. 385 (1970). Chamberlin's testimony was undocumented, overzealous, and vague in parts. We think his analysis that the culm banks contained nonstandard anthracite coal is oversimplified in parts. Chamberlin agreed that there is a market for nonstandard anthracite coal and the quality of coal can be increased through processing. In addition, Blue Coal and Carrier Coal were processing banks profitably. Carrier Coal's records do not show ash content, but their sales prices suggest it was standard anthracite. Chamberlin failed to adequately distinguish between high and/or low quality nonstandard anthracite. Chamberlin's September 1974 report is inconsistent with the report he submitted in this case. In his September 1974 report, he estimated the value of the Olyphant, Eddy Creek, and Gravity Slope culm banks to be 20 cents per gross ton, compared to a 3 cents per ton estimate in this case. In the September 1974 report, he estimated that the yield would be between 15 and 20 percent for the Olyphant and Gravity Slope culm banks. He testified403 at trial that he meant this to be about 5-percent standard and 10- to 15-percent nonstandard anthracite coal. This testimony appears to be a farfetched attempt to harmonize inconsistent conclusions. It appears that Chamberlin was excessively concerned with supporting his client's position in one or both of those reports. Chamberlin testified that he knew the history of the Blue Coal banks and the types of equipment used to produce them. However, his testimony on this point appeared glib and overstated to us. Chamberlin testified that he usually relied upon a mineral economist, but there is no evidence that he did so here. However, we believe that he is correct in pointing out some of Kaufman's shortcomings. We also believe that he is correct in taking into account the $ 1 per ton royalty payments to be paid by petitioners. Under the Culm Agreement, petitioners agreed to pay $ 4.17 million plus $ 1 royalty per net ton for all clean coal produced. Chamberlin considered the $ 1 per ton royalty as an additional cost to be borne by petitioners dependent on the amount of coal produced. For example, he calculated royalties of $ 6 million if, as estimated by Kaufman, 6 million tons404 were produced. (4) BeltramiBeltrami was an expert witness for petitioners. He valued the Blue Coal banks at 10 cents per gross ton. Beltrami is not an engineer or appraiser, but he has more than 20 years of experience in the coal industry. He has been an employee of, and the owner and operator of coal companies, such as Beltrami Enterprises, that have processed culm banks. In 1975 and 1976, Beltrami Enterprises was one of the largest anthracite coal producers in the United States. Since 1972, Beltrami has invested over $ 40 million dollars in the coal business. Beltrami had inspected culm banks as early as 1974, and was familiar with the Blue Coal banks. He was involved in testing culm banks in 1974 and 1975 to determine their quality. However, on balance, we give little weight to Beltrami's opinion. He has known petitioners for a long time. He has much practical experience in the coal producing business, but his report consisted primarily of conclusionary language which lacked background analysis and detail, and was not fully documented. He also testified that his valuation date was 1990, rather than June 26, 1975. b. Business, Financial, and Loan Records405 Respondent contends that petitioners' business and financial records and documents related to various loans and loan applications support respondent's position as to fair market value of the culm banks. Petitioners argue that the business records upon which respondent relies were not intended to represent the fair market value of the culm banks, and respondent's reliance on the Boyd reports was improper. (1) The John T. Boyd Co. ReportsPetitioners retained the Boyd Co. to prepare reports evaluating some of the culm banks at issue. We find the Boyd reports to be generally credible. Boyd testified that more time and more money spent on a report would provide for a more thorough and, we presume, more accurate test. The Boyd reports have limitations. The reports are overly optimistic in places and overstate the value of the culm banks. However, we conclude that the Boyd reports are credible because of their lack of bias, the credentials of those involved in their preparation, and reliance on the reports by lending institutions and prospective business partners. Chamberlin sought to discredit the January 16, 1975, Boyd report through his testimony that 97 tons of oversized406 material was discarded, thus leading the report to overstate the coal recovery from the tested sample. In contrast, Kaufman said the proper interpretation of the test results is that the oversized material was crushed or broken into smaller pieces. We are not convinced by Chamberlin's criticism of the Boyd report on this point. The January 16, 1975, Boyd report valued only 2 of the more than 30 culm banks in issue in this case. Petitioners argue that extrapolation of data from some culm banks to the remaining culm banks is improper, and Boyd and experts for both parties agreed. Yet, both sides did so. For example, petitioners relied on the Boyd reports in seeking loans from banks for Carrier Coal and Truesdale prepared by Davis and in the TELCO joint venture. The January 16, 1975, Boyd report concludes that the banks contained nonstandard anthracite coal, while the valuation in the reports is based upon standard anthracite coal. Petitioners argue that the Boyd reports are invalid because they value an operating corporation. We disagree. The Boyd reports valued culm banks using an income method similar to that used by Kaufman. The Boyd reports were not completely accurate. 407 However, they generally lend support to respondent's position as to fair market value of the culm banks on June 26, 1975. (2) Carrier-Truesdale Partnership Outline, Financial Statements, Balance Sheets, and Boyd Reports to TELCO and Chemical BankThe attorney for the Carrier-Truesdale partnership prepared an outline that estimated the culm banks had a value of about $ 10 million. He also submitted financial statements, a pro forma balance sheet of the proposed joint venture, and the Boyd reports to TELCO and Chemical Bank. The balance sheet prepared by Parente listed the culm banks as a $ 9,765,793 asset. When the Carrier Coal Enterprises joint venture was proposed in August 1975, petitioners or their representatives presented to TELCO several documents that indicate the true value of the culm banks to be substantially that which respondent determined. Petitioners argue that TELCO sought to join the partnership to use TELCO's net operating losses to minimize TELCO's profit objective and TELCO's reliance on profit projections provided by the Durkin interests. We disagree with this view. We are persuaded by indications that TELCO approached the partnership with every expectation408 of profit. Petitioners sought to portray the $ 5.5 million Chemical Bank loan to TELCO as a favor for a good customer, and not as a loan objectively considered on its merits. We disagree with petitioners' characterization of Chemical Bank's decision making. (3) Carrier Coal Enterprises' Income Tax ReturnsParente prepared the Carrier Coal Enterprises' corporate income tax return in 1976 which stated a $ 9,935,774 market value for the culm banks. At trial Parente denied that $ 9,935,774 amount was intended to represent the fair market value of the culm banks. Petitioners contend that the $ 9,935,774 amount was a plug number used to balance the partners' capital accounts at 50 percent. Petitioners note that the Carrier-Truesdale partnership contributed all of its assets including the culm banks and $ 5,112,000 in liabilities for a net of $ 258,186.94 while TELCO contributed approximately $ 5.5 million. Petitioners also argue that the $ 9,935,774 amount represented the Carrier-Truesdale partnership's basis in the banks ($ 4,743,955) plus an amount petitioners labeled excess ($ 5,191,819.06). Petitioners define excess as the total assigned value of the Carrier- Truesdale 409 Partnership's capital account ($ 5,450,000) minus the difference between the book value of the assets transferred less the liabilities assumed ($ 258,280). Petitioners view the excess as goodwill. They defined goodwill as an additional cost of the culm banks. Thus, petitioners' $ 4,743,955 basis in the banks, plus the $ 5,191,819.06 additional cost of the banks equals $ 9,935,774.06. Consequently, we conclude that the $ 9,935,774 amount was not a plug number, but rather an expression of the value of the culm banks. We find that Carrier-Truesdale partnership and TELCO entered into their agreement at arm's length, and desired a 50-50 partnership based on equal contributions. Thus, we conclude that the parties contributed equal value. It follows that the so-called plug figure represents what the parties believed the culm banks' value to be. The Carrier Coal Enterprises report that the culm banks had a market value of $ 9,935,774 is consistent with this conclusion because petitioners' business records of the culm banks indicate their $ 4,743,955 basis plus $ 5,191,819.06 additional cost equals $ 9,935,774.06. (4) Loan ApplicationDavis prepared a loan for petitioners based410 on the Boyd reports, cash-flow projections, financial statements prepared by petitioners' accounting firm, and other information. The application was submitted to First Valley Bank, Wyoming Bank, and Mellon Bank around October 1975. The application stated that an estimated 21 million tons of culm material could be processed from the 2 existing plants in 18 years. The application estimated the present value of the culm material to be more than $ 18 million. These documents support respondent's position. Petitioners argue that the inability of petitioners and their sons to obtain financing from Pennsylvania banks shows the low value of the culm banks. We disagree. First, on March 13, 1975, the Mellon bank gave as a reason for its refusal to lend money that the transfer was a potential fraudulent conveyance because the banks had been estimated to have a higher value, and the parties (Durkin and Green and Interstate Coal (James and Edward Durkin and Green)) were related. Second, petitioners did not have a firm contract to purchase the output of the breaker to be built. Third, there are many reasons in addition to the value of the culm banks which determine whether it is a sound411 loan, such as the business experience and credit history of the borrowers. (5) Carrier Coal Enterprises Financial StatementThe accounting firm of Laventhol, Krekstein, Horwath & Horwath prepared a financial statement for Carrier Coal Enterprises which states, "Culm banks (estimated at 36,800 long tons) [=] 10,231,036." Petitioners argue that the $ 10,231,036 figure was used to balance the capital accounts, and not intended to represent fair market value. We disagree for reasons stated above. (6) Carrier Coal Enterprises' Business PlanCarrier Coal Enterprises prepared a business plan in May 1977 which indicates that the market value of the culm material was more than $ 280 million. However, petitioners did not sign it, and we do not consider it here. (7) TelexesRespondent argues that in a telex sent on June 19, 1977, James J. Durkin, Jr., represented that the culm banks contained over 36.4 million tons of material of which 6 million tons were guaranteed to be marketable anthracite. In a telex sent on June 20, 1977, over James J. Durkin, Jr's. signature, the coal was estimated to be salable for $ 42 per ton. James J. Durkin, Jr., testified that those telexes412 were sent by Myrtetus and that he disagreed with them. His denials appear to be a self-serving attempt to contradict business records. (8) Teamsters Commitment LetterThe commitment letter to be signed by James J. Durkin, Sr., stated the value of 96 million tons of culm material was 5 cents per ton. We disregard this document because it was not signed by James J. Durkin, Sr., and it refers to significantly more material than the culm banks in issue. Overall, we believe that the business and financial records support respondent's position. c. Comparable TransactionsFor reasons discussed above, we do not consider the UGI transaction as a comparable sale. We note that the Jeffreys expert report offers several culm bank transactions as comparable sales. The prices range from 20 cents to $ 1.79 per ton. The transactions all involve leases, and none involve the large quantity at issue here. We are not convinced that those transactions are sufficiently similar to consider here as comparable transactions. d. Failed Business TheoryPetitioners argue that the business failure of Carrier Coal Enterprises shortly after the culm bank transaction is proof that the culm413 banks are worth far less than respondent contends. They argue that no one ever made any money processing the culm banks. Petitioners did not provide records or documents to corroborate much of this theory. We are also not persuaded that the value of the culm banks was the sole or major cause of the business failure. Accordingly, we do not give Carrier Coal Enterprises' business failure much weight as evidence of the earlier value of the culm banks. Petitioners cite the testimony of John Sgarlett relating to the sale of Truesdale stock to show its lack of value. Sgarlett was a longtime friend and business associate of the Durkins. We are not convinced by his testimony because of the lack of corroborating documents. For example, petitioners did not produce any sales agreement for the stock, indication of Truesdale's assets at the time of the sale, or proof of the value of Cavanaugh stock. e. Valuation of Culm Banks -- ConclusionPetitioners contend that respondent improperly failed to consider the fact that petitioners agreed to pay GACC a $ 1 per ton royalty in calculating petitioners' consideration for the culm banks. We agree with petitioners. Assuming that Kaufman's414 estimate of the coal production potential of these culm banks is correct, GACC would receive royalties of $ 134,000 in year 1, $ 267,000 per year in years 2 through 19, and $ 134,000 in year 20. Using an 18-percent discount factor, the present value to GACC of these amounts is $ 1,129,608.07. We believe the $ 1 per ton royalty reduces the value of the culm banks. Based on the multitudinous factors discussed above, we conclude that the fair market value of the culm banks was $ 7.25 million on June 26, 1975. 3. Innocent SpousePetitioners contend that Mrs. Durkin is an innocent spouse under section 6013(e). We disagree because Mrs. Durkin has failed to prove she meets the requirements of section 6013(e)(1)(B), (C), and (D). A husband and wife who file a joint return are jointly and severally liable for the tax due on their joint income. Sec. 6013(d)(3). The resulting joint and several liability also extends to any additions to tax. Sec. 6662(a)(2). However, a spouse may be relieved of joint and several liability in certain circumstances. Sec. 6013(e). To obtain relief as an innocent spouse, the taxpayer must prove that: (1) Joint returns were made for each year in415 issue; (2) there is a substantial understatement of tax attributable to grossly erroneous items of the other spouse on each return; (3) the spouse desiring relief did not know, and had no reason to know, of such substantial understatement when signing the return; and (4) taking into account all facts and circumstances, it is inequitable to hold the spouse seeking relief liable for the deficiency attributable to such substantial understatement. Sec. 6013(e)(1). A taxpayer must prove compliance with each of these provisions. Purcell v. Commissioner, 826 F.2d 470">826 F.2d 470, 473 (6th Cir. 1987), affg. 86 T.C. 228">86 T.C. 228 (1986); Sonnenborn v. Commissioner, 57 T.C. 373">57 T.C. 373, 381 (1971). However, we are mindful that in enacting section 6013(e) Congress "intended the exception to remedy a perceived injustice, and we should not hinder that praiseworthy intent by giving the exception an unduly narrow or restrictive reading." Sanders v. United States, 509 F.2d 162">509 F.2d 162, 166-167 (5th Cir. 1975); accord Allen v. Commissioner, 514 F.2d 908">514 F.2d 908, 915 (5th Cir. 1975), affg. in part and revg. in part 61 T.C. 125">61 T.C. 125 (1973).416 a. Joint ReturnsPetitioners filed joint returns for the years in issue, thereby satisfying the requirements of section 6013(e)(1)(A). b. Understatement Attributable to Grossly Erroneous Item of the Other SpouseMrs. Durkin has failed to prove there was a substantial understatement attributable to grossly erroneous items of Mr. Durkin as required by section 6013(e)(1)(B). We are not persuaded that the substantial understatement is solely attributable to Mr. Durkin. Petitioners argue that Mr. Durkin and not Mrs. Durkin was the sole moving force behind the culm bank purchase; thus the understatement is not attributable to Mrs. Durkin. We disagree. Mrs. Durkin was extensively involved in petitioners' business activities. For example, she was a director, vice president, secretary, and treasurer of Barbara Coal; vice president, secretary, and director of Raymond Colliery Co.; vice president, secretary, and a director of Blue Coal; secretary and director of Truesdale; and she was an officer, director, and/or employee for Connell Coal Co., Dart Coal Co., Lyon Coal Co., Lark Coal Co., Almar Coal Co., and Great West Sales Co. Mrs. Durkin was also the sales manager of the417 Durkin Enterprises operation where she was responsible for mining, stripping, hunting, timber and clay leases. We are not persuaded that the substantial understatements are due solely to Mr. Durkin. c. Knowledge of the UnderstatementPetitioners must prove that Mrs. Durkin had no actual knowledge or reason to know of a substantial understatement when signing the return. Sec. 6013(e)(1)(C). She must show that a reasonably prudent person with her knowledge of the surrounding circumstances would not and should not have known of the omissions of income and overstated deductions and credits at the time of the signing of the return, keeping in mind her level of intelligence, education, and experience. Sanders v. United States, 509 F.2d 162">509 F.2d 162, 166-168 (5th Cir. 1975). Mrs. Durkin argues that she had no actual knowledge of the understatement. She asserts that her husband involved her in deals that she knew nothing about, and that she trusted her husband. She denies knowing the value of culm banks. Mrs. Durkin minimizes her presence at the Blue Coal offices. She argues that the understatement was the result of complex transactions, and that she had no reason418 to know something was wrong with the returns. We are not persuaded by these assertions. Mrs. Durkin had an extensive business background. She has a college degree in mathematics. She has attended accounting courses and law seminars. She has Pennsylvania real estate and insurance licenses, and she was extensively involved in the family coal businesses. Petitioners argue that there is no evidence that she was involved in the processing of the culm banks or aware of the value of the banks acquired in the June 26, 1975, transaction. Despite these denials, we conclude that she had actual knowledge of the culm bank transaction, and the sale of GACC stock, and that she knew generally of the value of the banks acquired and what was being given in consideration for them. Mrs. Durkin argues that she learned that the Carrier Coal Enterprises' venture was a disaster when she signed her 1975 return in August 1976. This position is not persuasive. Mrs. Durkin asks us to infer that Carrier Coal Enterprises' failure was caused by low culm bank values. We have rejected this argument. In addition, assuming for the sake of argument that by August 1976, the fair market value of the culm banks419 had substantially decreased, the value on the return represented the value on the date of the transaction from which gain or loss is calculated. Accordingly, she would know of the understatement when she signed the return. d. Inequitable to Hold Spouse Seeking Relief LiableTo be eligible for innocent spouse status, Mrs. Durkin must show that it is inequitable to hold her liable for tax. Sec. 6013(e)(1)(D). Petitioners argue that Mrs. Durkin did not financially benefit from this transaction. We are not so persuaded. Petitioners point to their interest in Truesdale Enterprises, Inc., being sold at an alleged $ 4 million loss. Petitioners' interest in Truesdale Enterprises, Inc., has nothing to do with the tax result of the culm bank transaction. Petitioners also argue that Mrs. Durkin had everything she wanted before and after the culm bank transaction. They urge us to infer from that assertion that Mrs. Durkin did not benefit from the tax result of the culm bank transaction. We decline to do so. We conclude that it is not inequitable for Mrs. Durkin to be liable for the tax deficiencies at issue in this case. In light of the forgoing, we are not persuaded that Mrs. 420 Durkin is entitled to relief as an innocent spouse under section 6013(e). We again point out that this opinion resolves the culm bank valuation and innocent spouse issues only, and that the constructive dividend issue is still before the Court. Footnotes. After installation of new vessel.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623616/	Louis Morris, Petitioner, v. Commissioner of Internal Revenue, RespondentMorris v. CommissionerDocket No. 42101United States Tax Court30 T.C. 928; 1958 U.S. Tax Ct. LEXIS 123; July 16, 1958, Filed 123 Decision will be entered under Rule 50. 1. Held, petition dismissed for lack of prosecution, and deficiencies and additions to tax under section 294 (d) (1) (A) and (d) (2), I. R. C. 1939, found as set forth in the notice of deficiency.2. Held, respondent's burden of proof as to fraud issue is adequately supported by facts alleged in the answer and deemed admitted as a result of Tax Court's order under Rule 18, entered after notice and default by petitioner. Bernard J. Boyle, Esq., for the respondent. Van Fossan, Judge. VAN FOSSAN 928 OPINION.The Commissioner determined deficiencies in income tax and additions to tax under sections 293 (b), 294 (d) (1) (A), and 294 (d) (2) of the Internal Revenue Code of 1939, against the petitioner as follows:Additions to taxYearDeficiencySec. 293 (b)Sec.Sec.294 (d) (1) (A)294 (d) (2)1946$ 125.00$ 62.50$ 12.50$ 7.5019471,448.59724.29152.2691.351948972.63486.3155.301949956.10478.0557.3719501,605.99802.99160.6096.36These deficiencies and additions to tax were made the subject of a jeopardy assessment.Petitioner, Louis Morris, is a resident124 of Osceola, Indiana. He filed his income tax returns for the years here involved with the then collector of internal revenue for the district of Indiana.Petitioner's income tax returns for each of the years 1946 through 1950 were false and fraudulent with intent to evade tax. Some part of the deficiency for each of the years is due to fraud with intent to evade tax.Petitioner failed to file a declaration of estimated tax in each of the years 1946, 1947, and 1950, and failed to make a declaration of 80 per cent of the tax due in each of the years 1948 and 1949.929 There was no appearance for the petitioner at the hearing and no evidence was presented in his behalf.The respondent moved that the proceeding be dismissed for lack of prosecution and that the Court find the deficiencies in income tax and additions to tax under section 294 (d) of the Internal Revenue Code of 1939, as set forth in the notice of deficiency. It is so ordered.The respondent also moved for judgment on the fraud issue as to which he had the burden of proof. Affirmative allegations in the answer deemed admitted, by an order of this Court pursuant to Tax Court Rule 18, because of petitioner's failure*125 to reply after due notice, satisfy the respondent's burden on the fraud issue. Robert Kenneth Black, 19 T.C. 474">19 T. C. 474.Respondent submitted in evidence a schedule showing partial payments of the deficiencies for the years 1947, 1948, and 1949, and overpayments for the years 1946 and 1950. Therefore,Decision will be entered under Rule 50.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4653917/	[J-59AB-2020] IN THE SUPREME COURT OF PENNSYLVANIA EASTERN DISTRICT SAYLOR, C.J., BAER, TODD, DONOHUE, DOUGHERTY, WECHT, MUNDY, JJ. COMMONWEALTH OF PENNSYLVANIA, : No. 774 CAP : Appellant : Appeal from the order entered on : February 11, 2019 in the Court of : Common Pleas, York County, v. : Criminal Division at No. CP-67-CR- : 0000753-1999. : NOEL MATOS MONTALVO, : SUBMITTED: July 8, 2020 : Appellee : COMMONWEALTH OF PENNSYLVANIA, : No. 776 CAP : Appellee : Appeal from the order entered on : February 11, 2019 in the Court of : Common Pleas, York County, v. : Criminal Division at No. CP-67-CR- : 0000753-1999. : NOEL MATOS MONTALVO, : SUBMITTED: July 8, 2020 : Appellant : OPINION JUSTICE TODD DECIDED: January 20, 2021 Before our Court in this capital case is the Commonwealth’s appeal of the order of the York County Court of Common Pleas granting the petition of Noel Matos Montalvo (hereinafter, “Noel”) for relief under the Post Conviction Relief Act (“PCRA”), 42 Pa.C.S. §§ 9541 et seq., in the form of a new guilt-phase trial.1 Also before us is Noel’s cross- appeal, in which he challenges the trial court’s rejection of a myriad of additional bases for granting him a new guilt-phase trial. For the reasons that follow, we affirm the trial court’s grant of a new guilt-phase trial. I. BACKGROUND This case arises from the March 1998 murder of Miriam Ascencio and Nelson Lugo, the circumstances of which were summarized previously by this Court: [Noel] is the brother of Milton Montalvo (“Milton”). In 1995, Milton and his common law wife, Miriam Ascencio (“Miriam”), moved from Puerto Rico to York County, Pennsylvania. The couple frequently fought, and, around March 1998, Milton moved out of the couple’s apartment. On the evening of April 18, 1998, Miriam was seen at a local bar with a friend, Nelson Lugo a/k/a Manuel Santana (“Nelson”). At some point during the evening, Miriam and Nelson left the bar and walked to Miriam’s apartment. Later that evening, Vincent Rice, Miriam’s next-door neighbor, was awakened sometime after 11:30 p.m. by the sound of breaking glass on the common porch he shared with Miriam. Rice reported hearing Milton shout “open the door,” after which he heard additional noises coming from the apartment. The following day, April 19, 1998, Rice looked through the window of Miriam’s apartment and observed a man lying on the floor; at this point, he summoned the police. When the police arrived at the scene, they observed that one pane of a four-pane window in the door to Miriam’s apartment was broken; the broken pane was the closest to the door lock. Upon entering the apartment, the officers discovered Nelson’s body in the kitchen and Miriam’s body in the bedroom. Nelson had defensive wounds on his hands, his fingers were nearly severed, and he had a lipstick inserted in his mouth. Nelson’s autopsy revealed that he died from a stab wound to the chest. Miriam had a broken nose, stab wounds to her eyes, and her head was nearly severed from 1 In capital cases, this Court has exclusive appellate jurisdiction over orders finally disposing of petitions for relief pursuant to the PCRA. See 42 Pa.C.S. §§ 722(4), 9546(d); Commonwealth v. Williams, 936 A.2d 12, 17 n.13 (Pa. 2007). [J-59AB-2020] - 2 her body. She was naked from the waist down, and her underwear was around her face. She was lying with her head on a pillow, and a high-heeled shoe was found under her buttocks. Miriam’s autopsy revealed that she died from sharp force and blunt force injuries to her head and neck. According to the trial testimony of Chris Ann Arrotti, a chemist employed with the Pennsylvania State Police, forensic testing was conducted on more than 70 items collected from the crime scene; approximately 17 of those items contained traces of human blood. Of the items that contained traces of human blood, two of the items contained traces of blood which did not belong to either victim: a white cloth bag found on a sofa bed near Miriam’s body, and a kitchen window blind. The blood on both of those items was determined to belong to Milton Montalvo. Milton Montalvo’s blood also was found on glass that remained in the broken window pane, and a hair collected from Nelson’s hand was determined to belong to Milton Montalvo. There was no blood, hair, or fiber evidence that linked [Noel] to the scene of the murders. An arrest warrant was issued for Milton, and, in 1999, he was captured in Florida, and extradited to York County to stand trial for the murders of Miriam and Nelson. Ultimately, he was convicted of two counts of first-degree murder and one count of burglary, and, on February 14, 2000, he was sentenced to death. Approximately two months before Milton was arrested, Detective Roland Comacho, purportedly based on a statement given to him by Esther Soto, sought and obtained an arrest warrant for [Noel], charging him as a possible accomplice or participant in the murders. [Noel] remained a fugitive until 2002, at which time he was discovered living under an assumed name, with an altered appearance, in Hudson County, New Jersey. [Noel] was extradited to York County to stand trial, at which he was represented pro hac vice by Francis Cutruzzula, Esquire. Frank Arcuri, Esquire served as local counsel. In his opening statement at [Noel’s] trial, the prosecutor suggested that [Noel] wanted to kill Miriam because he “was angry with Miriam because the ties with Milton had broken down,” and because Miriam knew that [Noel] “was living in this country under an alias having escaped from parole for automobile theft in Puerto Rico.” The Commonwealth further posited that the victims’ different injuries demonstrated that [J-59AB-2020] - 3 two different weapons were used − a knife and some other blunt object − and, therefore, that there must have been two assailants. In addition to the above-described testimony of Vincent Rice, Miriam’s next-door neighbor, the Commonwealth presented at trial the testimony of Miriam’s downstairs neighbor, Fedelio Morrell. Morrell testified that, on the night of the murders, sometime between 2:00 and 2:30 a.m., he saw Milton at Miriam’s door, and heard him tell her to open the door. Morrell also heard Milton shout that he had seen someone go into Miriam’s apartment. Morrell recounted that, approximately 20 minutes later, he heard a woman’s voice say “call the police, call the police,” and then he fell asleep. Morrell testified that, 20 minutes after he fell asleep, he heard “noise on the floor and on the walls and something being dragged.” The Commonwealth also presented Nici Negron, who operated a towing business, as a witness. Negron testified that Milton called him at around midnight on April 18, 1998, and when he arrived approximately one-half hour later at the location Milton specified, he observed Milton, “a pregnant [woman], and Milton’s brother” inside or nearby Milton’s Dodge van. Patricia Ascen[c]io, Miriam’s niece, was also called as a witness by the Commonwealth. Patricia testified that she and her boyfriend, Angel Santos (“Angel”), went to [Noel’s] apartment at approximately 9:00 p.m. on the evening of the murders so that [Noel’s] wife, who was known as “Ketty” or “Kathy,” could do Patricia’s hair. Patricia stated that she saw Milton at the apartment at approximately 9:30 p.m., but that Milton left at around 10:00 p.m. Patricia testified that she and Angel left the apartment at approximately 11:00 p.m., and the only individuals present when they left were [Noel], Ketty, and [Noel’s] son. As the Commonwealth was unable to locate Angel Santos at the time of trial, the parties agreed to allow Angel’s statements to Detective Lisa Daniels to be introduced through Detective Daniels’ testimony. According to the police report prepared by Detective Daniels, Angel reported that he and Patricia were at [Noel’s] apartment with [Noel] and [Noel’s] wife at approximately 12:30 a.m. on the morning of April 19, 1998; that Milton arrived sometime later and appeared [J-59AB-2020] - 4 “upset,” “agitated,” “hyped,” and “sweating profusely”; that Milton asked [Noel], and then Angel, for $20; that Milton left the apartment between approximately 1:15 and 1:30 a.m. on the morning of April 19; and that he and Patricia left the apartment at approximately 2:00 a.m. that same morning. City of York Police Dep’t Supplement to Complaint Report, 4/19/98; N.T. Trial, 3/13/03, at 580-81. The only evidence presented by the Commonwealth to connect [Noel] to the murders was the testimony of Esther Soto (“Esther”). Esther testified that, on the afternoon of April 18, 1998, Milton visited the grocery store she operated with her husband at the time, Miguel Soto (“Miguel”). Esther testified that Milton used the store’s telephone to call Miriam about unemployment checks she had received in the mail, that an argument ensued, and that she heard Milton shouting at Miriam over the telephone. As Milton was shouting at Miriam, [Noel] entered the store and approached Milton. According to Esther, after Milton ended his telephone call, she heard him tell [Noel] that he wanted to kill Miriam. [Noel] told Milton to “leave it to him,” and stated that he would kill Miriam himself. Esther recounted that, later that evening, after she and Miguel were asleep, Milton and [Noel] arrived at their house. Esther stated that she remained in bed while Miguel opened the door, and then she overheard Milton and [Noel] describe to Miguel how they murdered Miriam and Nelson. Esther also testified that she recalled hearing [Noel] tell her husband that he killed Miriam by cutting her throat, stabbing her in the eyes, and kicking her as she lay on the floor. According to Esther, Milton and [Noel] wanted to stay at her house, but she and Miguel told them they could not stay; Miguel then gave them some money, and Milton and [Noel] stated they were going to Florida. Esther claimed that, a day or so after the murders, she saw in the newspaper a telephone number for individuals who had information regarding the murders, and that, approximately two weeks after the murders, she called the police. Thereafter, Esther gave a recorded statement to Detective Comacho, telling him that she had overheard Milton tell Miguel that he killed Nelson, and that she overheard [Noel] tell Miguel that he killed Miriam. [J-59AB-2020] - 5 On cross-examination, defense counsel questioned Esther regarding her testimony that she called the police two weeks after the murders, when, in fact, she did not give a statement to Detective Comacho until December 12, 1998, nearly eight months later. Although Esther initially indicated that she did not remember, she then admitted that she only contacted police at that time because she was “trying to get [her] van back” after it was taken into custody by Detective Comacho. Id. at 661.2 Additionally, after Esther admitted on direct examination that, when testifying at Milton’s trial, she repeatedly stated that she did not remember any statements made by [Noel], defense counsel asked Esther whether, in light of her changed testimony at [Noel’s] trial, she was admitting to lying during her testimony at Milton’s trial. Id. at 638. Esther repeatedly stated that she “doesn’t lie,” and she maintained that she did not believe that claiming she didn’t remember something was the same as lying. Id. at 638-39. Defense counsel also confronted Esther with, inter alia, the fact that, at Milton’s preliminary hearing on May 20, 1999, Esther testified that Milton, not [Noel], told her and her husband on the morning of April 19, 1998 that Milton killed Miriam. Id. at 647. Esther responded: “I get nervous that day. I was so nervous all the time I’m nervous. I’m not the same person, okay.” Id. at 649. When asked by defense counsel if she lied when she testified at Milton’s trial that Detective Comacho had “forced” 2 Specifically, at Noel’s trial, Detective Comacho testified that police had entered information regarding Milton Montalvo’s Dodge van into the National Crime Index Computer (“NCIC”) system, but erroneously entered the license plate of Miguel Soto’s van, a Ford Aerostar. N.T. Trial, 3/18/04, at 199. As a result, when Miguel attempted to obtain the required registration for his van, there was a “pop up NCIC hit” for the homicide involving Milton. Id. at 199. Miguel was instructed by PennDot personnel to go to the Lancaster City Police Department, where he was met by Detective Comacho and another officer. Detective Comacho interviewed Miguel, and, upon “figuring out that he had some sort of connection to Milton,” asked Miguel “what information . . . he had about the homicide.” Id. at 200. According to Detective Comacho, Miguel stated that his wife, Esther, “also had information around,” and the detective told Miguel he needed to speak with Esther. Id. At that point, Detective Comacho drove to Miguel’s store, where he took possession of Miguel’s van and placed it in the city garage. Detective Comacho reiterated to Miguel at that time that he “needed to talk to Esther.” Id. at 201. Several days later, Esther went in for an interview with Detective Comacho. [J-59AB-2020] - 6 her to change her testimony at [Noel’s] trial; that Detective Comacho “forced her to give the statement” that she gave; that the detective told her that if she didn’t “say what he said[,] my business would be closed and I would go to jail and I won’t see my kids,” id. at 639-40, Esther responded, “[f]or me that is not lying.” Id. at 640. When asked if she saw Detective Comacho in the courtroom at [Noel’s] trial, Esther identified him, and when asked “is that the detective that forced you to give this statement back in December of 1998?,” she replied: “[y]es.” Id. at 666. Esther’s testimony also conflicted with the testimony given by her husband Miguel Soto, a defense witness. Miguel testified that, in the early morning hours of April 19, 1998, his wife woke him up because someone was knocking at the door. N.T. Trial, 3/18/03, at 245. Miguel answered the door to Milton and [Noel]. Id. When asked what, if anything, Milton said to him when he opened the door, Miguel replied, “Milton told me -- I don’t want to say this -- that he had killed his wife.” Id. Miguel testified that Milton did not explain how he killed his wife, but simply stated that “he had problems with the police because he had killed his wife,” and that “he had to leave and he wanted to know if he could leave his brother -- and that’s when I found out [Noel] was his brother -- could stay at my house.” Id. Miguel testified that Esther was upstairs when Milton made this statement. Id. at 246. After approximately 25 minutes, Miguel told them he did not want any problems and that Esther did not want them staying in the house, so they left. Id. at 247. When asked on cross- examination why he did not go to the police, Miguel explained that he intended to go to the police, but Esther convinced him not to do so because it would cause problems. Id. at 248-49. Miguel testified that he told Detective Comacho that Milton admitted to killing his wife when Miguel was interviewed by the detective nine months later, in November 1998, when he had problems obtaining the registration for his vehicle. Id. at 263. Commonwealth v. (Noel) Montalvo, 114 A.3d 401, 402-06 (Pa. 2015) (internal citations and some footnotes omitted). In March 2003, more than three years after Milton was convicted of two counts of first-degree murder for the deaths of Miriam and Nelson, a jury convicted Noel of first- [J-59AB-2020] - 7 degree murder3 for the death of Miriam, second-degree murder4 for the death of Nelson, conspiracy to commit murder,5 and burglary.6 At the penalty-phase of trial, the jury found two aggravating circumstances − that Noel killed Miriam during the perpetration of a felony, 42 Pa.C.S. § 9711(d)(6), and that Noel had been convicted of another murder committed either before, or at the time of, the offenses at issue, id. § 9711(d)(11).7 The jury also found two mitigating factors − that Noel had no significant history of prior criminal convictions, id. § 9711(e)(1), and that Noel was a good worker, attended church, and was a good son to his mother, id. § 9711(e)(8) (the “catch-all” mitigator). Ultimately, the jury determined the aggravating circumstances outweighed the mitigating circumstances, and recommended a sentence of death. On April 14, 2003, the trial court imposed a sentence of death in connection with Miriam’s murder, a sentence of life imprisonment for Nelson’s murder, and concurrent terms of 10 to 20 years incarceration each for burglary and conspiracy to commit murder. Noel filed a direct appeal to this Court, during which he was represented by Gerald Anthony Lord, Esquire.8 On appeal, Noel raised a variety of claims, including claims alleging ineffectiveness of trial counsel. On September 24, 2008, this Court affirmed Noel’s judgment of sentence, holding, inter alia, that, pursuant to Commonwealth v. 3 18 Pa.C.S. § 2502(a). 4 Id. § 2502(b). 5 Id. § 903(a). 6 Id. § 3502(a). 7 Noel’s conviction for the murder of Nelson was used as an aggravating factor for his death sentence for the murder of Miriam. 8 On March 22, 2004, prior to sentencing, Mary R. Ennis, Esquire, entered her appearance as counsel for Noel, and Attorney Ennis filed an Amended Concise Statement of Matters Complained of on Appeal on his behalf. Thereafter, Attorney Ennis was granted leave to withdraw as counsel, and, on May 17, 2007, Attorney Lord was appointed to represent Noel. [J-59AB-2020] - 8 Grant, 813 A.2d 726 (Pa. 2002), his ineffectiveness claims would be deferred to post- conviction proceedings. Commonwealth v. (Noel) Montalvo, 956 A.2d 926 (Pa. 2008). On July 27, 2009, Noel filed a timely pro se PCRA petition. Thereafter, Attorney Lord was granted leave to withdraw and Jeffrey Marshall, Esquire, was appointed to represent Noel. Attorney Marshall filed an amended PCRA petition on Noel’s behalf on February 1, 2010, and then a supplement to the amended PCRA petition. Between March and September 2011, the PCRA court, by Judge Sheryl Ann Dorney, conducted four days of hearings,9 and, on January 29, 2013, by opinion and order, Judge Dorney dismissed Noel’s amended PCRA petition. Noel appealed to this Court, and subsequently filed a statement of matters complained of on appeal pursuant to Pa.R.A.P. 1925(b). Judge Dorney issued a Rule 1925(a) opinion rejecting Noel’s 15-plus claims raised on appeal, in many instances simply referring to her January 29, 2013 opinion and order. On August 23, 2013, Noel filed a motion to amend and supplement his Rule 1925(b) statement. As Judge Dorney had retired effective August 1, 2013, the matter was assigned to Judge Michael E. Bortner, who granted Noel’s motion to amend. Thereafter, Noel filed an “Amended and Supplemental Statement of Matters Complained of Under [Pa.R.A.P. 1925(b)]”. On December 3, 2013, Judge Bortner filed a single-page order denying Appellant PCRA relief, and stating, “[t]his Court defers to the reasoning and decision entered by the Honorable Judge Dorney of the York County Court of Common Pleas on January 29, 2013.” PCRA Court Order, 12/3/13. Noel filed an appeal with this Court, raising 16 claims alleging multiple violations of his rights under the United 9 Witnesses who testified at the PCRA hearings included, inter alia, Attorney Cutruzzula; Angel Santos; R. Robert Tressel, a crime-scene forensic expert; Detective Comacho; Detective Dennis Williams, who conducted several witness interviews; Detective Daniels; Attorney Ennis; Allen Fuentes, an interpreter who assisted with Detective Williams’ interview of Negron; and Attorney Lord. [J-59AB-2020] - 9 States and Pennsylvania Constitutions, resulting from both trial court error and ineffectiveness of counsel during the guilt and penalty phases of trial. This Court, however, determined that deficiencies in the PCRA court’s opinion precluded our meaningful appellate review of Noel’s claims. Specifically, we noted, inter alia, that: despite four days of hearings on Noel’s PCRA petition before Judge Dorney, the PCRA court, in its January 29, 2013 opinion and order, addressed the issues set forth in Noel’s Pa.R.A.P. 1925(b) statement filed on direct appeal; the PCRA court did not discuss Noel’s PCRA petition, or the appropriate standard for relief, until the last two pages of its 55-page opinion; and the PCRA court addressed the issues raised in Noel’s supplemental 1925(b) statement in a single-page order in which it simply deferred to the trial court’s prior opinions, which themselves were insufficient. As a result, we observed that we had no findings of fact, no determinations of credibility, and no legal conclusions regarding Noel’s PCRA claims, thus precluding our meaningful appellate review. We further noted that, as there were more than 10 expert, lay, and other witnesses who testified at the PCRA hearings, including those noted above, see supra note 9, the lack of any credibility determinations by the PCRA court was particularly problematic. Accordingly, we vacated the PCRA court’s order, and remanded the matter to the PCRA court. Cognizant that Judge Dorney was no longer on the bench, we noted that the matter would need to be assigned to a new judge. Moreover, recognizing that the assigned judge would not have the benefit of having presided over Noel’s PCRA hearings, we authorized the newly-assigned judge to conduct additional hearings and admit evidence as necessary for those claims which could not be resolved on the existing record. On remand, the matter again was assigned to Judge Bortner, who conducted three days of additional PCRA hearings, and, in an 80-page opinion, addressed the issues [J-59AB-2020] - 10 raised in Noel’s PCRA petition. Ultimately, the PCRA court granted Noel a new penalty- phase trial,10 as well as a new guilt-phase trial based on trial counsel’s ineffectiveness for failing to object to the trial court’s error in instructing the jury on the issue of guilt, discussed infra. Presently, the Commonwealth appeals the PCRA court’s grant of a new guilt-phase trial; it does not, however, challenge the PCRA court’s grant of a new penalty- phase trial. In his cross-appeal, Noel challenges the PCRA court’s rejection of the additional reasons he relied on for his claim that he is entitled to a new guilt-phase trial.11 II. Analysis In reviewing the grant or denial of PCRA relief, we examine whether the PCRA court’s conclusions are supported by the record and free of legal error. Commonwealth v. Housman, 226 A.3d 1249, 1260 (Pa. 2020). Further, we defer to the factual findings 10 The PCRA court concluded Noel was entitled to a new penalty-phase trial based on his establishment of ineffective assistance of counsel in three respects, including the erroneous submission to the jury of the 42 Pa.C.S. § 9711(d)(11) aggravator (the defendant committed another murder before or at the same time as the offense at issue), see PCRA Court Opinion, 2/11/19, at 56-57; counsel’s failure to investigate and/or prepare mitigation evidence, see id. at 57-62; and statements by both counsel and the prosecutor to the jury that its decision on whether to sentence Noel to the death penalty was simply a recommendation. See id. at 73-75. 11 These claims include that the PCRA court erred in denying Noel’s claim that trial counsel was ineffective for failing to present the testimony of alibi witness Angel Santos based on a “summary conclusion” that Santos’ testimony was not credible and that the absence of Santos’ testimony was not prejudicial; that the PCRA court erred in denying his claim that trial counsel was ineffective for failing to present evidence of innocence in the form of forensic expert testimony and finding Noel was not prejudiced by that failure; that the PCRA court erred in denying Noel’s claim that trial counsel was ineffective for failing to object to Noel’s illegal arrest and to seek suppression of the statements made by Noel following his arrest; that the PCRA court erred in denying his claim that trial counsel was ineffective for failing to object to the jury selection procedure of York County, which he alleges systematically excludes minorities; that the PCRA court erred in denying Noel’s claim that trial counsel was ineffective for failing to object to numerous instances of prosecutorial misconduct, denying him a fair trial; and that the PCRA court erred in denying Noel’s claim that trial counsel was ineffective for failing to object to the trial court’s jury instructions regarding reasonable doubt. [J-59AB-2020] - 11 of a post-conviction court, which hears evidence and passes on the credibility of witnesses. Id. In order to qualify for relief under the PCRA, the petitioner must establish, by a preponderance of the evidence, that his conviction or sentence resulted from one or more of the enumerated errors in 42 Pa.C.S. § 9543(a)(2). These errors include, inter alia, a violation of the Pennsylvania or United States Constitutions, or instances of ineffectiveness of counsel that “so undermined the truth-determining process that no reliable adjudication of guilt or innocence could have taken place.” Id. § 9543(a)(2)(i) and (ii); Housman, 226 A.3d at 1260. The petitioner also must establish that his claims have not been previously litigated or waived. 42 Pa.C.S. § 9543(a)(3). An issue is previously litigated if “the highest appellate court in which [the appellant] could have had review as a matter of right has ruled on the merits of the issue.” Id. § 9544(a)(2). An issue is waived if appellant “could have raised it but failed to do so before trial, at trial, . . . on appeal or in a prior state postconviction proceeding.” Id. § 9544(b). In order to obtain relief on a claim of ineffectiveness of counsel, a PCRA petitioner must satisfy the performance and prejudice test set forth in Strickland v. Washington, 466 U.S. 668 (1984). In Pennsylvania, we have applied the Strickland test by requiring that a petitioner establish that (1) the underlying claim has arguable merit; (2) no reasonable basis existed for counsel’s action or failure to act; and (3) the petitioner suffered prejudice as a result of counsel’s error, with prejudice measured by whether there is a reasonable probability that the result of the proceeding would have been different. Commonwealth v. Pierce, 786 A.2d 203, 213 (Pa. 2001). Counsel is presumed to have rendered effective assistance, and, if a claim fails under any required element of the Strickland test, the court may dismiss the claim on that basis. Housman, 226 A.3d at 1260-61. With these standards in mind, we turn to the Commonwealth’s claim that the PCRA court erred in [J-59AB-2020] - 12 granting Noel a new guilt-phase trial, based on its determination that trial counsel was ineffective for failing to object to the trial court’s error in instructing the jury on the Commonwealth’s burden of proof with respect to his guilt. Preliminarily, it is well established that, in reviewing a challenge to jury instructions, an appellate court must consider the charge in its entirety, rather than discrete portions of the instruction. Commonwealth v. Frein, 206 A.2d 1049, 1077 (Pa. 2019). Further, a trial court is free to use its own expressions of the law, so long as the concepts at issue are clearly and accurately presented to the jury. Id. The trial transcript in this case reveals that the trial court provided the following instruction to the jury regarding the Commonwealth’s burden of proof: Although the Commonwealth has the burden of proving that the Defendant is guilty, and this burden is beyond a reasonable doubt, this does not mean that the Commonwealth must prove its case beyond all doubt and to a mathematical certainty, nor must it demonstrate the complete impossibility of innocence. A reasonable doubt is a doubt that would cause a reasonably sensible person to pause or hesitate before acting upon a matter of importance in his or her own affairs. A reasonable doubt must fairly arise out of the evidence that was presented or lack of evidence presented with respect to some element of the crime. A reasonable doubt must be a real doubt; it may not be an imagined one, nor may it be a doubt manufactured to avoid carrying out what would otherwise be an unpleasant duty. In further explanation of reasonable doubt, let me give you a sample. Three years ago I wanted to go and look for a farm because I wanted to raise dogs. I found a great farm, nine acres and I said, that’s great for my dogs to run on. I wanted to go and check this farm out. And when I went into the basement of the farm -- of the farm house, I saw that there was damage to the walls. And me being the daughter of a home builder, I knew right away that the basement had substantial leaks of some sort of [J-59AB-2020] - 13 substance and I didn’t think that it was water because it was kind of an oily substance that came from the walls, it was an old stone wall. And when I looked at that, I had a reasonable doubt that caused me to pause and hesitate before acting upon a matter of importance in my own affairs, the buying of the house. As it turned out, I didn’t buy that house. Why didn’t I buy that house? Because I had a reasonable doubt. So if the Commonwealth has not sustained it’s (sic) burden to that level, the burden of proving the Defendant guilty beyond a reasonable doubt, then your verdict must be guilty. If, in fact, that you find that the Commonwealth has proven its case beyond a reasonable doubt, then your verdict should be guilty. So to summarize, you may not find the Defendant guilty based on a mere suspicion of guilt. The Commonwealth has the burden of proving the Defendant guilty beyond a reasonable doubt. If it meets that burden, then the Defendant does (sic) no longer presumed innocent and you should find him guilty. On the other hand, if the Commonwealth does not meet its burden, then you must find the Defendant not guilty. N.T. Trial, 3/19/03, at 5-7 (Commonwealth’s Reproduced Record (“R.R.”) at 42a-44a) (emphasis added). It is indisputable that the portion of the jury instructions italicized above was incorrect, as a jury may not find a defendant guilty if the Commonwealth fails to meet its burden of proving the defendant’s guilt beyond a reasonable doubt. In addressing Noel’s claim that he is entitled to PCRA relief based on this erroneous jury instruction, the PCRA court first opined that the above statement “was clearly a simple example of a jurist misspeaking during the lengthy process of instructing the jury.” PCRA Court Opinion, 2/11/19, at 49. Nevertheless, the PCRA court noted that trial counsel testified during the PCRA hearings that he did not object to the erroneous statement by the trial court because “he did not recognize the mistake.” Id. The PCRA court concluded that, had counsel requested a curative instruction from the trial court, it was “quite sure that this request would or should have been granted.” Id. at 50. Thus, [J-59AB-2020] - 14 the PCRA court found that Noel established the first and second prongs of his ineffectiveness claim − that the underlying claim had arguable merit, and that there was no reasonable basis for trial counsel’s failure to act. Turning to the third prong – prejudice – the PCRA court, recognizing that it was required to review jury instructions as a whole, concluded that the requirement of proof of guilt beyond a reasonable doubt is “the bedrock of our criminal law,” and the trial court’s erroneous instruction was a “basic and fundamental error” that could not be corrected except by a new guilt-phase trial. Id. The Commonwealth contends that the PCRA court erred in concluding that trial counsel was ineffective for failing to object to and/or request a curative instruction with respect to “one isolated misstatement that occurred during the course of otherwise error- free instructions to the jury.” Commonwealth’s Brief at 30. Initially, the Commonwealth submits that it is “unknown” whether the trial court actually misspoke when instructing the jury, or “whether the court reporter made a typographical error.” Id. The Commonwealth further emphasizes that, during the trial court’s individual voir dire of the jurors, the trial judge “explained the burden of the prosecution and made diligent inquiry as to whether the jurors could return a verdict of ‘not guilty’ if so warranted.” Id. at 32. Thus, according to the Commonwealth, the “one inaccurate statement” in the above-quoted jury instruction was “overshadowed by proper and adequate pronouncements on the burden of proof before and after the inaccurate statement appears.” Id. The Commonwealth additionally suggests that “the fact that the jury cannot convict someone if the Commonwealth does not prove their guilt beyond a reasonable doubt is a very basic legal tenet that is mostly familiar to everyone,” and “it strains credulity to believe that a juror would convict [Noel] if the Commonwealth failed to prove his guilt.” Id. at 35. [J-59AB-2020] - 15 The Commonwealth also asserts that “[t]his was not a case where [the trial court] expressed improper opinions on the evidence or credibility of the witnesses.” Id. Upon review, we are unpersuaded by the Commonwealth’s arguments. First, with respect to the Commonwealth’s novel suggestion that the erroneous statement by the trial court may not actually have been a misstatement, but a typographical error by the court reporter, had the Commonwealth genuinely believed that the stenographer made a typographical error in transcribing the record, it could have utilized the procedures provided by our Rules of Criminal and Appellate Procedure for the correction of such errors. See Pa.R.Crim.P 115 (c) (at any time before an appeal is taken, the court may correct or modify the record in the same manner as provided by Rule 1926 of the Pennsylvania Rules of Appellate Procedure); Pa.R.A.P. 1926 (“If any difference arises as to whether the record truly discloses what occurred in the trial court, the difference shall be submitted to and settled by that court after notice to the parties and opportunity for objection, and the record made to conform to the truth.”). As the Commonwealth did not avail itself of this procedure, we reject its eleventh-hour assertion that the transcript may be incorrect. We also reject the Commonwealth’s argument that the legal principle that, in order to be convicted of a crime, an individual must be proven guilty beyond a reasonable doubt is “mostly familiar to everyone,” Commonwealth’s Brief at 35, and that the jury would not have convicted Noel had it not believed he was guilty beyond a reasonable doubt. As we previously have explained: It is an axiomatic principle of our jurisprudence that the trial judge has the sole responsibility for instructing the jury on the law as it pertains to the case before them. “The function of elucidating the relevant legal principles belongs to the judge, and the failure to fulfill this function deprives the defendant of a fair trial.” [J-59AB-2020] - 16 Commonwealth v. Bricker, 581 A.2d 147, 153 (Pa. 1990) (citation omitted). Thus, a jury member’s prior or extraneous knowledge regarding critical legal precepts is irrelevant. Finally, we disagree with the Commonwealth’s suggestion that the trial judge’s individual voir dire of the jurors, during which she “properly advised the jury that the Commonwealth bore the burden of proving [Noel’s] guilt beyond a reasonable doubt and that a verdict of ‘not guilty’ was required if this burden was not met,” sufficiently and properly instructed the jury as to the Commonwealth’s burden of proof. Commonwealth’s Brief at 32. As this Court has explained, [t]he purpose of voir dire is solely to ensure the empanelling of a competent, fair, impartial, and unprejudiced jury capable of following the instructions of the trial court. Neither counsel for the defendant nor the Commonwealth should be permitted to ask direct or hypothetical questions designed to disclose what a juror’s present impression or opinion as to what his decision will likely be under certain facts which may be developed in the trial of the case. Commonwealth v. Bomar, 826 A.2d 831, 849 (Pa. 2003). In other words, the purpose of voir dire is to ascertain whether a juror is capable of following the instructions of the trial court. We cannot agree that questions posed by a trial court to potential members of a jury during voir dire, which takes place well before the presentation of any evidence in a case and before the selected jury retires to deliberate, could be considered a sufficient and proper jury instruction as to burden of proof. Thus, to determine whether the PCRA court erred in awarding Noel a new trial on the basis of trial counsel’s failure to object to the trial court’s erroneous jury instructions, we turn our focus to those actual instructions. As noted above, the Commonwealth repeatedly contends that “one inaccurate statement” by the trial court regarding the Commonwealth’s burden of proof was “overshadowed by proper and adequate pronouncements on the burden of proof before and after the inaccurate statement appears.” Commonwealth’s Brief at 32. Notably, [J-59AB-2020] - 17 however, the trial transcript reveals that, shortly after the trial court gave the erroneous jury instruction to which counsel failed to object, the trial court gave a second erroneous jury instruction: Trial Court: This is the verdict form that will be completed by the foreman and brought back into the courtroom, once you’ve reached a verdict. It helps you understand what the charges are. As I indicated, burglary and criminal conspiracy to commit criminal homicide only apply to Miriam Ascencio. There are also charges of first degree murder and second degree murder as I defined those for Miriam Ascencio and first degree murder and second degree murder arising out of the death of Manual Santana/Nelson Lugo. Go down each one of those, don’t jump down and keep it in chronological order. And I want to say simply, I don’t want you do (sic) to take this lightly, and keep it organized for you. And as I said, if you find that the Defendant was not involved in this, you should find him guilty of all those charges. Attorney Cutruzzula: Not guilty, Judge. Trial Court: Not guilty. Now that was a Freudian slip. Not guilty of all of those charges, if you find that he was not involved in this, first degree murder, as I described it to you. If you find that the Defendant not guilty of first degree murder involving both of (sic) death Miriam Ascencio and Manuel Santana, either a principal or a person who committed the murder or an accomplice of Milton Montalvo, then go down to the second degree murder and consider that. I want you to mark if you find not guilty and mark not guilty and consider second degree murder. N.T. Trial, 3/19/03, at 31-32 (R.R. at 50a-51a) (emphasis added). Notwithstanding the fact that the Commonwealth, in maintaining there was only one erroneous instruction in this vein, has, for the most part, ignored this second misstatement, the Commonwealth now posits that the fact that trial counsel corrected the trial court following this second erroneous instruction supports its theory that the trial court’s initial “misstatement,” to which counsel did not object, “may have been a [J-59AB-2020] - 18 typographical error.” Commonwealth’s Brief at 34. We have already rejected the Commonwealth’s reliance on the theory that there was a typographical error in the transcript. Furthermore, we conclude that the trial court’s second erroneous instruction to the jury, and the trial judge’s purported correction of the misstatement when brought to its attention by trial counsel, could only have served to prejudice Noel even further. In Commonwealth v. Archambault, this Court held that a trial judge may not express an opinion on the guilt or innocence of the defendant. 290 A.2d 72, 75 (Pa. 1972). We explained: An expression by the judge that in his opinion the accused is guilty leaves an indelible imprint on the minds of the jury. The jury is undoubtedly going to attribute to the judge, because of his experience in criminal cases, special expertise in determining guilt or innocence. As Mr. Justice (later Chief Justice) Kephart stated for this Court: ‘The judge occupies an exalted and dignified position; he is the one person to whom the jury, with rare exceptions, looks for guidance, and from whom the litigants expect absolute impartiality. An expression indicative of favor or condemnation is quickly reflected in the jury box . . . . To depart from the clear line of duty through questions, expressions, or conduct, contravenes the orderly administration of justice. It has a tendency to take from one of the parties the right to a fair and impartial trial, as guaranteed under our system of jurisprudence.' Id. (citation omitted). We further echoed the United States Supreme Court’s observation in Bollenbach v. United States, 326 U.S. 607 (1946), that “[t]he influence of the trial judge on the jury is necessarily and properly of great weight,‘ . . . and jurors are ever watchful of the words [J-59AB-2020] - 19 that fall from him. Particularly in a criminal trial, the judge’s last word is apt to be the decisive word.’” Archambault, 290 A.2d at 75 (quoting Bollenbach, 326 U.S. at 612). As noted above, when the trial court erroneously instructed the jury − for the second time − that, if it found that Noel was not involved in the murders, it should find him guilty, trial counsel corrected the court by stating “Not guilty, Judge.” The trial judge immediately commented, “Now that was a Freudian slip,” before providing a correct instruction. A “Freudian slip,” also called parapraxis, is defined as a “slip of the tongue that is motivated by and reveals some unconscious aspect of the mind.” Merriam- Webster.com Dictionary, Merriam-Webster, available at https://www.merriam- webster.com/dictionary/Freudian%20slip. The reference dates back to the research of Sigmund Freud, the founder of psychoanalysis, and is commonly understood to mean an unintended statement that reveals the true feelings of the speaker. In characterizing her own erroneous instruction to the jury as a “Freudian slip,” the trial judge conveyed to the jury her belief that Noel was guilty. In concluding that Noel established the prejudice prong of his ineffectiveness claim, the PCRA court did not expressly rely on the trial court’s second misstatement of the law, or the trial judge’s “Freudian slip” comment; it found that the trial court’s initial uncorrected misstatement of the law constituted a “basic and fundamental error” requiring the award of a new guilt-phase trial. PCRA Court Opinion, 2/11/19, at 50. Regardless of that finding, we conclude that the trial court’s second misstatement of the law, and her reference to a “Freudian slip” when attempting to correct that misstatement, fully supports the PCRA court’s finding that Noel is entitled to relief. The effect of the trial judge’s attempted correction was two-fold. First, the judge’s characterization of her misstatement of the law as a “Freudian slip” unmistakably constituted an expression of her opinion on [J-59AB-2020] - 20 Noel’s guilt, in violation of the central tenet, discussed above, that a judge must be resolutely impartial. Second, the trial judge’s use of the term “Freudian slip” when attempting to correct her misstatement of the law actually undermined the correction, as it made light of her two prior misstatements of the law, and implied that the prior misstatements were not simply innocent slips of the tongue that the jury should disregard. The trial judge’s flippant attempt at a correction of her prior misstatements could only have compounded any misunderstanding the jury may have had regarding the proper standard of proof and its application to Noel. We thus find that the record supports the PCRA court’s conclusion that Noel was prejudiced by counsel’s ineffectiveness. For these reasons, we agree with the PCRA court that Noel established all three prongs of his ineffectiveness claim, and, therefore, that a new guilt-phase trial is required. In light of this conclusion, we need not address the issues raised by Noel in his cross- appeal. Order affirmed. Chief Justice Saylor and Justices Baer, Donohue, Dougherty, Wecht and Mundy join the opinion. [J-59AB-2020] - 21	01-04-2023	01-22-2021
https://www.courtlistener.com/api/rest/v3/opinions/4653918/	IN THE SUPREME COURT OF PENNSYLVANIA WESTERN DISTRICT COMMONWEALTH OF PENNSYLVANIA, : No. 261 WAL 2020 : Respondent : : Petition for Allowance of Appeal : from the Order of the Superior Court v. : : : TRAVIS MICHAEL MAGASH, : : Petitioner : ORDER PER CURIAM AND NOW, this 20th day of January, 2021, the Petition for Allowance of Appeal is DENIED.	01-04-2023	01-22-2021
https://www.courtlistener.com/api/rest/v3/opinions/4623620/	ARLEN B. LOONEY and DOREEN M. LOONEY; RONALD K. MULLIN and KATHLEEN MULLIN; and R. MAX ETTER, JR. and SUSAN K. ETTER, Petitioners v. COMMISSIONER of INTERNAL REVENUE, RespondentLooney v. CommissionerDocket Nos. 20963-83, 35210-83, 35211-83.United States Tax CourtT.C. Memo 1985-326; 1985 Tax Ct. Memo LEXIS 309; 50 T.C.M. (CCH) 327; T.C.M. (RIA) 85326; July 2, 1985. Robert E. Kovacevich, for the petitioners. Robert F. Geraghty, for the respondent. FEATHERSTONMEMORANDUM FINDINGS OF FACT AND OPINION FEATHERSTON, Judge: In these consolidated cases, respondent determined the following deficiencies in petitioners' Federal income taxes: PetitionersDocket No.YearDeficiencyArlen B. Looney, et ux.20963-831977$33,149.761978109,519.331979113,005.42198064,691.29Donald K. Mullin, et ux.35210-83198017,366.0019815,054.00R. Max Etter, Jr., et ux.35211-83198017,263.8519814,457.37The deficiencies are attributable to a number of adjustments, most of which have been resolved by the parties. The only issue remaining for decision is the deductibility of "advance minimum rentals" and production and recording costs paid in 1980 and 1981 with respect to two master sound recordings leased311 by petitioners and certain other individuals. FINDINGS OF FACT Petitioners were legal residents of Spokane, Washington, when they filed their respective petitions. Petitioners' income tax returns for the years in dispute were filed with the Internal Revenue Service office in Ogden, Utah. In late 1980, Robert Kovacevich (Kovacevich), an attorney who specializes in the practice of tax law, assisted petitioners Arlen B. Looney (Looney), Donald K. Mullin (Mullin), and R. Max Etter (Etter), 1 along with other individuals, in arranging for a lease of two master sound recordings from Music Leasing Company (MLC). MLC was headquartered in New York and was engaged in marketing musical recordings as tax shelters. MLC was organized in August 1980, with no prior operating history; its officers had no expertise or prior experience in the music recording industry. Its local representative in Spokane was Dan Miller (Miller), who supplied Kovacevich with a number of documents: (1) Music Leasing Company Master Recording Program Information Memorandum (PIM), which explained the program in detail; (2) a 31-page tax opinion bearing the name of a New York law firm; and (3) a list of master recordings312 MLC had available for lease. The material supplied to Kovacevich described a master recording (master) as a "reproduction on tape of a recorded program", never before sold "in their present form or configuration"; the material represented that a master "will be leased in such manner to enable Lessees to engage in the manufacture and distribution of Products throughout the world", i.e., the manufacture of such products as "long playing albums or singles, and tape cartridges or cassettes * * ." The materials represented that tax write-offs would be available to prospective investors equivalent to at least $5.30 in deductions for each $1.00 invested, assuming the purchaser was in a 50 percent tax bracket. The allegedly available write-offs were in the form of an investment tax credit passed through from the company equal to 10 percent of the value MLC assigned313 to the master and ordinary income ductions equal to the investor's cash payments which were designated as rental deductions. Kovacevich and a group of individuals decided to acquire some masters. On or about December 2, 1980, a checking account was opened in the Farmers and Merchants Bank under the name Circle K Records, Robert E. Kovacevich or A.V. Klaue. Kovacevich had signatory authority over the account. Petititioners wrote the following checks which were deposited in the account: PetitionerPayeeDateAmountLooneyCircle K Records11-30-80$5,550LooneyCircle K Records12-12-805,550MullinKovacevich12-15-808,497EtterKovacevich12-15-808,497Other individuals also made deposits in the account. Under date of December 5, 1980, Kovacevich sent a handwritten letter to Stan Pearson, President of MLC, offering to "purchase" two long-playing records by an artist, Tom T. Hall, 2 and enclosing a check in the amount of $26,260 drawn on the Circle K Records account. The letter contained the following: This money is a deposit to the purchase and subject to the following conditions: 1. The check is from a nominee account of Circle314 K Records, which is a tenancy in common account. The actual purchasers are: 20 %August V. KlaueSS 539-07-420510 %Arlen Looney, Sr.537-01-85707.5%Ronald Mullin7.5%Max Etter, Jr.7.5%Carl C. Morrison7.5%Russell Van Camp7.5%Michael Hagan12.5%Robert E. Kovacevich531-32-77262. These persons are purchasing as tenants in common pursuant to the Common Law and the Revised Code of Washington (RCW 64.28.030) and are excepted from partnership treatment under RCW 25.04.070(2)(3). Under date of December 9, 1980, Kovacevich sent a letter to the other investors in the group with respect to the masters. In the letter, he stated that the members did not yet have binding agreements with MLC and that Miller would315 be calling on the members to complete details. Attached to the letter was a schedule showing the amount of money each member had paid or would have to pay by December 15, 1980, for the masters and the production costs. The amounts to be paid by that date totalled $108,296 which was allocated among the members according to their respective percentage interests. Looney's share, for example, was shown as $10,080 for the "record" and $937 for "production costs and recording." At some point, apparently in early December, 1980, Looney, Mullin and Etter each executed two separate lease agreements on forms supplied by MLC, all of which are dated December 5, 1980. The term of each lease was 85 months and payment for the first 12 months was to be made in the form of a minimum rental due on execution of the lease. Minimum rental payments for months 13 through 15 were due at the end of the eighth month. Rent for months 16 through 85 was to be paid at the end of each such month and was payable only out of, and was to consist of, 75 percent of the net receipts by the lessees from exploitation of the masters. The total cost of each master was shown as $1,100,000. The agreements did not name316 the masters being leased, but all except one of them designated the artist as Tom T. Hall or Tom T. Hall II. 3 The leases contained warranties of good title and industry quality. The agreements reflected the following rental payments for the first 12 months: InitialPetitionerAgreementPercentagePaymentLooney110 $5,040Looney210 5,040Mullin17.53,750Mullin27.53,750Etter17.53,750Etter27.53,750In connection with the leases, petitioners each signed, among other papers, a Lessee Warranty Statement. By signing the statement, the investor warranted that he had received the PIM and had employed a legal advisor and tax advisor to assist him in evaluating the purchase. He also acknowledged that the fair market value MLC had assigned to the master was based on certain assumptions which may prove to be incorrect, that he had independently evaluated the merits of acquiring a lease and was not relying on the information in the PIM. By so signing, the investor also317 acknowledged that he was aware of and understood that MLC had no prior operating history, and that the acquisition of a MLC lease is a speculative acquisition involving a high degree of risk of loss by the investor. Tom T. Hall, the artist whose master recordings are referred to in the lease agreements, is a well known country and western singer and songwriter. He has been recording since the 1960's. From 1972 through 1980, he was under exclusive recording contracts with major recording companies. Before petitioners executed the MLC leases, neither MLC, petitioners, nor any other prospective lessees of the masters, contacted Tom T. Hall, his representatives or the recording companies who had Tom T. Hall under exclusive contract, to determine whether MLC had the right to lease the masters. On December 19, 1980, Kovacevich sent a letter to the law firm, Rosenbaum, Lerman, Katz & Weiss, which he had retained to handle the closing of the transaction. In this letter, Kovacevich explained that Russell Van Camp and Michael Hagan, who had been listed in his letter of December 9, 1980, as participants in the venture, were not purchasing interests and that three additional purchasers,318 Patricia J. Maldon, Wayne W. Ormiston, and A. Keith Uddenberg, each with a 5 percent interest, had been added to the group. With the letter, Kovacevich enclosed the following checks dated December 18, 1980, all drawn by himself on the Circle K Records account: PayeeAmountRosenbaum, Lerman, KatzTrust Account$74,540Album Globe4,700Super Productions2,000Petitioners did not listen to the two masters which they had leased until the spring of 1981. When they did, they learned that the so-called masters were of very poor quality. Each master has two programs. 4 Program I of the first master begins with the tune, "I Like Beer", but the recording starts in the middle of the song, with no introduction or identification of the artist. Another song, "The Ballad of Forty Dollars", abruptly ends before it is actually over. In the words of an expert, there "are serious microphone problems, terrible feed-back noises, and volume drifts, poor mixing of sound, excessive crowd noises and just about every other engineering imperfection * ." 319 The second master 5 is of equally poor quality. On the first selection, an announcer introduces Tom T. Hall, but the recording actually begins in the middle of the introduction. In the words of an expert: The entire first side of the recording contains numerous imperfections that would not be acceptable in a commercial recording. There are microphone problems, feedback noise, tape speed variance, and a variety of other unprofessional problems that occur. On the second side of the recording the problems are duplicated. * * * Everything about the recording is wrong and based on my professional experience it would not be possible to correct the problems that exist on the tape. * * * The two master recordings have no commercial value. The master recordings were taken from a soundtrack of a video tape made sometime between 1977 and 1980 by an individual who was permitted to video tape a Tom T. Hall Concert. Hall's320 attorney told that individual, however, that he could not sell cassettes, phonograph records, or any derivatives of the taping. The individual never obtained approval to release or use the tape for any commercial purpose. The marketing of the recordings without the permission of Mercury Records would have violated Hall's exclusive contract with Mercury. Neither Hall, Mercury Records nor anyone else with authority ever authorized the sale of the masters involved in these cases or products manufactured from them. The masters purchased by petitioners and the other related investors were thus pirated recordings. MLC did not have title to the recordings and had no authority to grant petitioners leases covering the recordings. In early 1982, Hall's attorney received information that Kovacevich was involved in attempting to market the two masters. On January 11, 1982, he telephoned Kovacevich and followed up that contact with a letter in which he stated: I hope that by the time you receive this letter I have been able to reach Mr.f Pearson [of MLC] to advise him that the master he has been selling and attempting to sell is a pirated master. Tom T. Hall has not granted anyone321 the right to sell such product and does not want it on the market. After learning that the masters were pirated, Etter and Kovacevich discussed whether they should exercise their option under the Lease Agreements to substitute masters from MLC's inventory. Petitioners did not exercise the option. The only investments petitioners made in the transaction with MLC were their initial cash payments which were deposited in the Circle K Records checking account. Petitioners did not make the second payment of minimum rentals for months 13 through 15 which were due on August 5, 1980, under the terms of the leases. Only the four checks described above were ever drawn on the Circle K Records account, all by Kovacevich in December 1980. There have been no sales of recordings manufactured from the subject Tom T. Hall masters. The only "revenue" from the masters was reported on Album Globe Distribution Company, Inc. royalty statements which, as of June 30, 1981, showed a total of $2,000 payable to Circle K Records as "advance unearned foreign royalties." 6322 On November 29, 1983, petitioners, together with other members of the Circle K Records group sued MLC and other defendants alleging breach of contract, fraud, negligent misrepresentation, violation of Consumer Protection Act, punitive damages and violation of Washington State Securities Act. The action was brought in the Superior Court of the State of Washington, County of Spokane and captioned Circle K Records, a joint venture v. Music Leasing Company, a division of IFC Leasing Company, a New York Corporation, et al., No. 84201971-3. The complaint alleged, in part, as follows: During the latter part of 1980, the Plaintiff, by and through its members, entered into an agreement with Music Leasing Company during December, 1980. In exchange for a sum of money, Plaintiff's members were leased what was believed to be master recording[s] of singer Tom T. Hall. It was later revealed, however, that Music Leasing Company did not own the rights to Tom T. Hall's performance, but had in fact leased to Plaintiff's members a worthless pirated copy of Tom T. Hall's work. Judgment was entered for the plaintiff by default on December 31, 1984. On Schedule C of their income tax returns323 for 1980 and 1981, petitioners claimed deductions and investment tax credits which were disallowed in the notices of deficiency as follows: InvestmentPetitionersYearTax CreditLossLooney1980$11,000$11,100Mullin198016,5001,777Mullin198111,536Etter198016,5001,777Etter198111,536Petitioners have conceded the claimed investment tax credits. Only deductions for advance minimum rentals and production and recording costs remain in dispute. OPINION To support the claimed deductions for the minimum monthly rentals and production and recording costs that they paid, petitioners rely upon sections 162(a)(3) 7 and 212(1). 8 Section 162(a)(3) allows a deduction for all ordinary and necessary expenses paid or incurred during the taxable year "in carrying on a trade or business" including "rentals or other payments" for the continued possession of property "for purposes of the trade or business." Section 212(1) allows a deduction for all the ordinary and necessary expenses paid or incurred during the taxable year "for the production or collection of income." 324 Essential to petitioners' showing that their expenditures with respect to the Tom T. Hall master recordings are deductible under section 162(a) is a demonstration of an "actual and honest objective of making a profit." Dreicer v. Commissioner,78 T.C. 642">78 T.C. 642, 646 (1982), affd. without published opinion 702 F.2d 1205">702 F.2d 1205 (D.C. Cir. 1983); Estate of Baron v. Commissioner,83 T.C. 542">83 T.C. 542, 553 (1984). While a reasonable expectation of profit is not required, petitioners' objective of making a profit must be bona fide and must be predominant. Elliott v. Commissioner,84 T.C. 227">84 T.C. 227, 236 (1985). Similarly, under section 212(1), the expenditures must "satisfy the same requirements that apply to a trade or business expense under section 162 except that the person claiming the deduction need not be in the trade or business." Fischer v. United States,490 F.2d 218">490 F.2d 218, 222 (7th Cir. 1973). Section 212(1) thus requires a showing that the good faith purpose of the expenditures was the profitable production of income. Snyder v. United States,674 F.2d 1359">674 F.2d 1359, 1364 (10th Cir. 1982); see sec. 1.212-1(a), Income Tax325 Regs.The issue as to whether petitioners made the expenditures for the lease of the Tom T. Hall master recordings with the predominant objective or purpose of making a profit is one of fact to be resolved on the basis of all the evidence. Siegel v. Commissioner,78 T.C. 659">78 T.C. 659, 696-698 (1982); Engdahl v. Commissioner,72 T.C. 659">72 T.C. 659, 666 (1979). In deciding the issue, greater weight is to be given to the objective facts than to a mere declaration of a taxpayer's intent. Some of the relevant factors to be considered under both section 162(a) and section 212(1) are set forth in section 1.183-2(b), Income Tax Regs.9326 Based on all the evidence, we find that petitioners did not pay or incur the master recording expenditures with an actual predominant objective of making a profit. Two of the petitioners, Etter and Mullin, are attorneys and has substantial incomes in 1980. Petitioner Looney is a corporate executive and a successful businessman and had even larger income in that year. The master recordings deal was put together by Kovacevich, a tax lawyer with years of experience, near the end of the taxable year 1980. The clear inference from these and other facts of record is that the primary objective of the deal was to shelter petitioners' large incomes from tax rather than to make a profit. On December 5, 1980, Kovacevich sent to MLC his handwritten letter making an offer to purchase a Tom T. Hall recording and transmitting a $26,260 check as a deposit. In a later communication dated December 9, 1980, addressed to MLC's law firm, Kovacevich described his earlier letter to MLC as "rather hastily prepared." The haste in the handling of this nominally $2,200,000 transaction, which involved a cash investment of over $100,000, we infer, was to lay a foundation for each investor to claim for327 1980 the major portion of the equivalent of $5.64 in tax benefits for each $1.00 of invested cash in accordance with the representations in the materials supplied to Kovacevich by Miller, MLC's local representative. 10Kovacevich's letters of December 5 and 9, 1980, as well as other documents in evidence, show that the investors purported to make their investments as tenants in common rather than as partners. 11 This purported arrangement may have avoided some potential328 liabilities and disclosure objections, but it meant that, as a practical matter, unanimous agreement was required if anything was to be done with the leased master recordings. Yet Mullin and Etter, both experienced lawyers, entered into this deal with six other individuals, some of whom they did not even know. Before making this substantial investment, petitioners made no investigation or inquiries as to the character or reliability of MLC or the individuals controlling it. MLC's literature, larded with discussions of tax benefits and caveats emphasizing the risks involved, stated that MLC had been organized in August 1980, only about four months before petitioners made the December 5, 1980 deposit. The literature shows that its officers had no substantial prior experience in producing or marketing329 musical recordings. MLC was obviously majoring in marketing tax shelters. Petitioners likewise had no substantial prior experience in marketing musical recordings. Petitioners did not even listen to the master recordings before they leased them; nor did they know what songs the recordings contained. Failure to make such elementary inquiries and to obtain expert advice in a transaction of the magnitude of this one is not consistent with ordinary sound business practice; it is evidence that petitioners lacked a profit motive. Flowers v.Commissioner,80 T.C. 914">80 T.C. 914, 938 (1983); Surloff v. Commissioner,81 T.C. 210">81 T.C. 210, 237 (1983). Nothing in the record indicates that petitioners obtained an appraisal of the fair market value of the master recordings before they committed themselves to the deal. As stated in our findings, the master recordings were, in fact, pirated and had no commercial value. MLC and no right to lease them. It is almost inconceivable that petitioners, experienced lawyers and able businessmen, would have entered a $2,200,000 business transaction in this manner if they were motivated by profits wholly apart from tax benefits--without330 hearing the recording, without knowledge as to the reliability of MLC and its officers, without checking MLC's title to the property that it purported to lease, and without any concrete plans for producing and marketing recordings and tapes. Taking into account the emphasis on tax benefits in MLC's literature, the only plausible explanation for petitioners' participation in the venture was the prospect of obtaining tax benefits far in excess of petitioners' cash commitments. Petitioners point out that the lease agreements contained warranties as to title and quality and that, when petitioners learned that those warranties had been breached, they brought suit and obtained a default judgment against MLC and its president. From these facts petitioners ask us to find that they have proceeded in a business-like manner. We do not think these facts are sufficient to carry petitioners' burden of proof. We do not intend to suggest that petitioners thought they were leasing worthless pirated recordings, and we do not here decide whether they are entitled to a section 165(c)(3) loss deduction at some point. As to the years before the Court, however, we are not convinced, notwithstanding331 the judgment against MLC, that petitioners entered into the MLC transaction with an actual and honest objective of making a profit. They are not, therefore, entitled to deductions for the claimed advance minimum rentals and production and recording costs. Decision will be entered for the respondent in Docket Nos. 35210-83 and 35211-83.Decision will be entered under Rule 155 in Docket No. 20963-83.Footnotes1. Petitioners Doreen M. Looney (docket No. 20963-83), Kathleen Mullin (docket No. 35210-83), and Susan K. Etter (docket No. 35211-83) are involved in this case only because they filed joint returns with their husbands reporting their respective shares of the community income under the laws of the State of Washington.↩2. The material supplied to Kovacevich by Miller Contained the following illustration of the tax benefits from investments in a Tom T. Hall master: FAIR MARKET VALUE $650,000 ↩LeaseInvestmentRentalEquivalentPriceTax CreditDeductionWrite OffMultiple1980$28,000$65,000$28,000$158,0005.6419816,0006,0006,000$34,000$164,0003. This reference to Tom T. Hall II was evidently intended to describe the second of the two Tom T. Hall masters covered by the leases.↩4. Program I of the first master includes "I Like Beer", "Clayton Delaney", "Faster Horses, Younger Women", "Ballad of Forty Dollars", and "Auctioneer". Program II consists of "Your Man Love You", "Sneaky Snake", "That Song is Driving Me Crazy", "John Henry", and "Mabel, You Have Been a Friend to Me".↩5. Program I of the second master consists of "All in the Game", "Paradise", "Fox on the Run", and "I Love You Too". Program II includes "Old Dogs", "Children and Watermelon Wine", "Rank Stranger", "Rollin' in My Sweet Baby's Arms", and "Me and Jesus".↩6. Respondent suggests that this $2,000 was "a return of the $2,000 closing payment" transmitted to MLC's law firm with Kovacevich's letter of December 19, 1980. The evidence is not sufficient to permit a finding as to the character of this $2,000 payment.↩7. SEC. 162. TRADE OR BUSINESS EXPENSES. (a) IN GENERAL.--There shall be allowed as a deduction all the ordinary and necessary expenses paid or incurred during the taxable year in carrying on any trade or business, including-- * * * (3) 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. ↩8. SEC.212. EXPENSES FOR PRODUCTION OF INCOME. In the case of an individual, there shall be allowed as a deduction all the ordinary and necessary expenses paid or incurred during the taxable year-- (1) for the production or collection of income;↩9. Sec. 1.183-2(b), Income Tax Regs.↩, lists the following factors to be considered: (1) whether the taxpayer carried on the activity in a business-like manner; (2) the expertise of the taxpayer or his advisors; (3) the time and effort expended by the taxpayer; (4) the expectation that the assets used in the activity may appreciate in value; (5) the success of the taxpayer in other similar activities; (6) the taxpayer's history of income or losses with respect to the activity; (7) the amount of occasional profits, if any; (8) the financial status of the taxpayer; and (9) whether elements of personal pleasure or recreation are involved.10. The ratio of $5.64 to $1.00 was computed, as indicated in our findings, by assuming a price of $650,000 for each recording. As finally executed, the price was fixed at $1,100,000 each and the rates of tax benefits to cash outlay would be even greater. Even the ratio of $5.64 in tax benefits to $1.00 of cash outlay meant that petitioners, who were in high tax brackets, would profit substantially from the reduction of their tax liabilities even if, as it turned out, they realized nothing from the exploitation of such rights as they expected to acquire from MLC. See Barnard v. Commissioner,731 F.2d 230">731 F.2d 230, 231 (4th Cir. 1984), affg. Fox v. Commissioner,80 T.C. 972">80 T.C. 972↩ (1983).11. In the complaint filed in the suit against MLC in the Superior Court for Spokane County, Washington, Circle K Records, the name used for the bank account from which payments were made to MLC, is described as a "joint venture." The term "partnership" as used in the Internal Revenue Code includes a "joint venture." Sec. 7701(a)(2). The record does not explain this discrepancy.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623621/	Leonard Schwobel and Carole S. Schwobel v. Commissioner. Otis Tom Budd and Jewell D. Budd v. Commissioner.Schwobel v. CommissionerDocket Nos. 1739-63, 1057-64.United States Tax CourtT.C. Memo 1965-152; 1965 Tax Ct. Memo LEXIS 178; 24 T.C.M. (CCH) 802; T.C.M. (RIA) 65152; June 2, 1965178 Leonard D. Schwobel, pro se in Docket No. 1739-63. J. Chrys Dougherty, for the petitioners in Docket No. 1057-64. Thomas S. Loop, for the respondent. WITHEYMemorandum Findings of Fact and Opinion WITHEY, Judge: The Commissioner has determined deficiencies in the income tax of the petitioners for the following years in the indicated amounts: PetitionersDocket No.YearDeficiencyLeonard Schwobel and Carole S. Schwobel1739-631960$396.001961372.82Otis Tom Budd and Jewell D. Budd1057-641960360.001961360.00The only issue presented is whether during the taxable years 1960 and 1961 the petitioners Leonard Schwobel and Carole S. Schwobel or petitioners Otis Tom Budd and Jewell D. Budd furnished more than one-half of the support of three minor children who are the issue of the former marriage of Leonard Schwobel and the present Jewell D. Budd, and are therefore entitled to the dependency exemption for the children. Findings of Fact Some of the facts have been stipulated and are found accordingly. Leonard Schwobel and Carole S. Schwobel were husband and wife during 1960 and 1961, resided in Fort Worth, Texas, 179 and filed their joint Federal income tax returns for those years with the district director in Dallas, Texas. Otis Tom Budd and Jewell D. Budd were husband and wife during 1960 and 1961, resided in Austin, Texas, and filed their joint Federal income tax returns for those years with the district director in that city. Leonard Schwobel, before his marriage to Carole S. Schwobel, his present wife, was married to Jewell Davis, who is presently the wife of Otis Tom Budd. The issue of the marriage between Leonard Schwobel and Jewell Davis were as follows: NameDate of birthJames Leonard Schwobel, some-times referred to as LeonardSchwobelJune 11, 1946Charles Bennet SchwobelAug. 10, 1950Michael Bruce SchwobelApr. 23, 1953On October 24, 1957, the District Court of Tarrant County, Texas, 153rd Judicial District, granted a divorce to Jewell Davis Schwobel in Cause No. 8425-F, styled Jewell Davis Schwobel v. Leonard Schwobel. In the divorce decree the court granted custody of the above-named three children to Jewell Davis Schwobel, subject to Leonard Schwobel's right to reasonable visitation of them. Leonard Schwobel was ordered to pay to the Collector of180 Child Support in Tarrant County, Texas, the sum of $125 per month until the youngest child attains the age of 18 years as support for all of the children. The court further approved a separation contract entered into between Jewell Davis Schwobel and Leonard Schwobel. Thereafter Leonard Schwobel filed a motion in the foregoing cause asking, in part, that the court prepare and arrange for a definite visitation schedule. Subsequently the court entered its order modifying the judgment of divorce and, among other things, provided that Leonard Schwobel should pay to the Collector of Child Support in Tarrant County, Texas, the sum of $125 per month, except during the summer months when he had custody of the minor children and during the period of such custody he should pay the sum of $62.50 per month. In accordance with the modified judgment of the court, Leonard Schwobel paid the sum of $1,375 each year for the taxable years 1960 and 1961 to the Collector of Child Support. Following her divorce from Leonard Schwobel in October 1957, Jewell Davis Schwobel, in November 1958, married petitioner Otis Tom Budd and a son was born to them in July 1959 whom Budd and she supported during the181 taxable years 1960 and 1961. After the marriage of their mother to Budd the three children of her marriage to Leonard Schwobel resided with her and Budd. The dates of visitations of the children with their father Leonard Schwobel in Fort Worth, Texas, during the years 1960 and 1961 were as follows: 19601961James Leonard SchwobelJuly 9 to July 27NoneCharles Bennett SchwobelJuly 9 to Aug. 13June 17 to Aug. 19Michael Bruce SchwobelJuly 9 to Aug. 13June 17 to Aug. 19In 1960 Leonard Schwobel visited the children in Austin, Texas, on February 27, March 26, May 7, September 24, and November 5 and in 1961 on January 7, February 25, March 25, May 6, May 27, and October 7. During the taxable years in issue Otis Tom Budd and Jewell D. Budd maintained detailed records of the expenditures made by them in the respective years for the support of James Leonard, Charles Bennet, and Michael Bruce Schwobel, including receipts for payment of such expenditures. The amounts of such expenditures were as follows for the respective years: 19601961James Leonard Schwobel$1,169.46$1,467.44Charles Bennet Schwobel1,116.341,182.80Michael Bruce Schwobel1,117.481,191.86Total$3,403.28$3,842.10182 The foregoing total amounts of $3,403.28 for 1960 and $3,842.10 for 1961 included the amounts of child support money of $1,375 paid by Leonard Schwobel during 1960 and 1961, respectively, in accordance with court order. Subtracting the $1,375 so paid by Leonard Schwobel in each of the years from the foregoing amounts of $3,403.28 for 1960 and $3,842.10 for 1961 leaves $2,028.28 for 1960 and $2,467.10 for 1961 as the amounts furnished for the support of the three children in 1960 and 1961, respectively, by petitioners Otis Tom Budd and Jewell D. Budd. In addition to the child support of $1,375 paid by Leonard Schwobel under court order in each of the years 1960 and 1961, he paid medical bills of his sons as follows: James Leonard $5 in 1960, Charles Bennet $5 in 1961, and Michael Bruce $8.85 in 1961. Otis Tom Budd and Jewell D. Budd furnished more than one-half of the support for the children, James Leonard Schwobel, Charles Bennet Schwobel, and Michael Bruce Schwobel for the taxable years 1960 and 1961. Opinion Petitioners Schwobel take the position on brief that in addition to the child support payments of $1,375 made by Leonard Schwobel in each of the years 1960 and 1961, 183 they furnished other support to the Schwobel children in amounts sufficient to bring the total amount of support furnished by them to the children to $1,766.50 for 1960 and to $1,868.35 for 1961. Except for a medical or drug bill of $5 paid by Leonard Schwobel for James Leonard in 1960 and medical or drug bills of $5 and $8.85 paid by him for Charles Bennet and Michael Bruce, respectively, in 1961, the remainder of the claimed additional support concededly represented mere estimates made by Leonard Schwobel as to which he maintained no records and which are not substantiated by the record herein. However, in view of our finding that the amounts of support furnished the children by petitioners Budd were $2,028.28 in 1960 and $2,467.10 for 1961, petitioners Schwobel would not prevail if it be conceded that the total amounts of support furnished by them to the children were the above-mentioned amounts of $1,766.50 for 1960 and $1,868.35 for 1961. Other contentions made by petitioners Schwobel respecting the fair rental value of the dwelling owned and occupied by petitioners Budd and respecting the income of petitioners Budd and the adequacy thereof for the standard of living of the*184 Budd family are without support in the record. Decision will be entered for the respondent in Docket No. 1739-63. Decision will be entered for the petitioners in Docket No. 1057-64.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4562818/	In the United States Court of Appeals For the Seventh Circuit ____________________ No. 19-2162 UNITED STATES OF AMERICA, Plaintiff-Appellee v. ROLAND PULLIAM, Defendant-Appellant. ____________________ Appeal from the United States District Court for the Northern District of Illinois, Eastern Division. No. 16-cr-328 — Sara L. Ellis, Judge. ____________________ ARGUED MAY 20, 2020 — DECIDED SEPTEMBER 3, 2020 ____________________ Before SYKES, Chief Judge, and RIPPLE and KANNE, Circuit Judges. KANNE, Circuit Judge. Roland Pulliam was arrested after ﬂeeing from two Chicago police oﬃcers. During the chase, both oﬃcers saw a gun in Pulliam’s hand. Pulliam had previ- ously been convicted of multiple felonies, making it a federal crime for him to possess a gun. The government charged him with possessing a ﬁrearm as a felon, 18 U.S.C. § 922(g)(1); Pul- liam was convicted after a jury trial. 2 No. 19-2162 After Pulliam was sentenced, the Supreme Court decided Rehaif v. United States, 139 S. Ct. 2191 (2019), which clariﬁed the elements of a § 922(g) conviction. Now, in addition to proving that the defendant knew he possessed a ﬁrearm, the government must also prove the defendant belonged to “the relevant category of persons barred from possessing a ﬁre- arm.” Id. at 2200. This knowledge-of-status element was not mentioned in the jury instructions at Pulliam’s trial. Pulliam now argues that the erroneous jury instructions and three evidentiary errors require the reversal of his convic- tion. But none of these alleged errors call for the reversal of Pulliam’s conviction, so we aﬃrm. I. BACKGROUND In July 2015, Chicago Police Department Oﬃcers Victor Alcazar and Jason Guziec responded to a dispatch call that four black men were selling drugs near a fence a few blocks from the oﬃcers’ location. Dispatch received this information from two anonymous 911 callers: the ﬁrst caller reported see- ing two drug transactions, while the other observed the men selling “something.” As the oﬃcers drove to the reported sale, they noticed four black men standing together near a fence in a McDonald’s parking lot. Oﬃcer Guziec parked the car and both oﬃcers approached the men to conduct a ﬁeld interview. The four men dispersed as the oﬃcers approached. One of the men—later identiﬁed as Roland Pulliam, an employee of a nearby auto body shop—walked between a parked van and the fence. When Pulliam emerged from behind the van, both oﬃcers saw a chrome gun in his hand. Oﬃcer Guziec yelled “gun” and drew his weapon. Pulliam then ran away from the No. 19-2162 3 oﬃcers and into a nearby alley. A short way down the alley, Pulliam threw the gun, raised his hands, and allowed Oﬃcer Guziec to place him in handcuﬀs. Oﬃcer Guziec escorted Pul- liam back to the squad car. Oﬃcer Alcazar, having seen where Pulliam threw the gun, went to retrieve it. He found the gun and an ejected magazine near the McDonald’s dumpster. After Pulliam’s arrest, Oﬃcer Alcazar and other oﬃcers searched the parking lot for contraband. The oﬃcers found no guns (other than the one discarded by Pulliam) or narcotics in the area. Oﬃcer Guziec brought Pulliam to the station and searched him. Pulliam was carrying $408 in cash. Almost one year later, a grand jury charged Pulliam with possessing a ﬁrearm as a felon, 18 U.S.C. § 922(g). Before trial, the government ﬁled a motion in limine seeking a ruling on the admissibility of testimony related to the 911 calls that were relayed by dispatchers to Oﬃcers Alcazar and Guziec. Pul- liam ﬁled a motion in limine of his own, asking the district court to bar the oﬃcers from testifying about the $408 Pulliam possessed. Additionally, Pulliam informed the district court that he planned to elicit testimony from the oﬃcers that, dur- ing an interview, Pulliam responded to a question by saying “what gun.” The district court prevented the government from present- ing an audio recording of the 911 calls but allowed the oﬃcers to testify “as to what the dispatcher told them.” The district court also allowed the government to elicit testimony about the $408 found on Pulliam. Finally, the district court held that Pulliam could not elicit testimony from the oﬃcers about his “what gun” remark. 4 No. 19-2162 At trial, Oﬃcers Alcazar and Guziec testiﬁed about receiv- ing the dispatch call, arriving at the parking lot, and the chase and investigation that ensued. The government also called Al- ison Rees—a ﬁngerprint specialist for the Bureau of Alcohol, Tobacco, Firearms and Explosives—to testify that no ﬁnger- prints were recovered from the gun Oﬃcer Alcazar recovered. Pulliam called his boss and the owner of K&M Auto, Mar- lon Reid, to testify that Pulliam was normally paid in cash on Fridays. In response, the government called a K&M Auto em- ployee to testify that he personally was paid on Saturdays, not Fridays. A jury found Pulliam guilty of being a felon in possession of a ﬁrearm, 18 U.S.C. § 922(g)(1). The district court sentenced Pulliam to 63 months’ imprisonment. After Pulliam’s trial and sentencing, the Supreme Court decided Rehaif v. United States, 139 S. Ct. 2191 (2019). Rehaif held that, for the government to secure a conviction under § 922(g), the government must prove that a defendant knew he belonged to a category of persons prohibited from pos- sessing a ﬁrearm. Id. at 2200. The jury that found Pulliam guilty was not instructed about this knowledge-of-status ele- ment. II. ANALYSIS Pulliam raises four issues on appeal. First, Pulliam argues that the district court’s jury instructions constitute a plain er- ror in light of the Supreme Court’s decision in Rehaif. His other arguments concern three evidentiary rulings that the district court aﬃrmed in its order denying Pulliam a new trial. No. 19-2162 5 A. Missing Rehaif Instruction At Pulliam’s trial, the jury was instructed that the govern- ment had to prove three elements beyond a reasonable doubt to convict Pulliam of being a felon in possession of a ﬁrearm: “[F]irst, that the defendant knowingly possessed a ﬁrearm; second, at the time of the charged act [Pulliam] had previ- ously been convicted of a crime punishable by a term of im- prisonment of exceeding one year; and third, … the ﬁrearm had been shipped or transported in interstate or foreign com- merce.” The district court gave this instruction based on well-set- tled law at the time that § 922(g) “required the government to prove a defendant knowingly possessed a ﬁrearm … but not that [the defendant] knew he belonged to one of the prohib- ited classes.” United States v. Williams, 946 F.3d 968, 970 (7th Cir. 2020). Seven months after Pulliam’s trial, the Supreme Court in Rehaif reached a diﬀerent conclusion, holding that the government must show that “the defendant knew he pos- sessed a ﬁrearm and also that he knew he had the relevant status when he possessed it.” 139 S. Ct. at 2194. Pulliam did not argue in the district court that the jury in- structions were missing an element. Still, Pulliam believes the jury instructions constitute plain error, requiring a reversal of his conviction. See Fed. R. Crim. P. 52(b); United States v. Maez, 960 F.3d 949, 956 (7th Cir. 2020) (“We review for plain error even if the objection would have lacked merit at the time of trial, before an intervening change in the law.”). Plain-error review has four elements: (1) an error oc- curred, (2) that error is plain, and (3) the error aﬀects the de- fendant’s substantial rights. United States v. Olano, 507 U.S. 6 No. 19-2162 725, 732–34 (1993). These three elements are limitations on ap- pellate authority, id. at 734; if these elements are satisﬁed, an appellate court may “then exercise its discretion to notice a forfeited error, but only if (4) the error ‘seriously aﬀect[s] the fairness, integrity, or public reputation of judicial proceed- ings.’” Johnson v. United States, 520 U.S. 461, 467 (1997) (alter- ation in original) (some internal quotation marks omitted) (quoting Olano, 507 U.S. at 732). Pulliam argues that the district court’s error aﬀected his substantial rights and seriously aﬀected the fairness, integ- rity, or public reputation of judicial proceedings. Importantly, he argues that—in assessing the third and fourth plain-error elements—we may only look at evidence actually presented to the jury. To do otherwise, Pulliam reasons, would contra- vene his Sixth Amendment right to have “each element of a crime be proved to the jury beyond a reasonable doubt.” Al- leyne v. United States, 570 U.S. 99, 104 (2013). At the time Pulliam made this argument, we had not yet addressed how plain-error review applies to pre-Rehaif § 922(g) convictions by jury verdict. See, e.g., United States v. Dowthard, 948 F.3d 814, 817–18 (7th Cir. 2020) (applying plain- error review to a pre-Rehaif guilty plea); Williams, 946 F.3d at 971–72 (same). This question has since been resolved by our decision in United States v. Maez, 960 F.3d 949 (7th Cir. 2020). In Maez, we established the scope of the record we review when applying the third and fourth elements of the plain-er- ror test. In assessing the third element (substantial rights), we look only “to the trial record when a defendant has exercised his right to a trial.” Id. at 961 (noting that the Sixth Amend- ment “mandates this approach”). But in exercising our discre- tion under the fourth element, we may consider “a narrow No. 19-2162 7 category of highly reliable information outside the trial rec- ord[]” that includes “undisputed portions of [a defendant’s] PSR[].” Id. at 963 (concluding that looking at a prior convic- tion in a presentence investigation report (“PSR”) does not “raise the same Sixth Amendment concerns as other facts”). With the Maez framework in mind, we now turn to Pul- liam’s plain-error arguments. First, we agree with Pulliam and the government that there was an “error” that is “plain” in the jury instructions. The jury was not instructed that the government had to prove Pulliam knew he was a felon when he possessed a ﬁrearm. After Rehaif, this missing jury instruc- tion amounts to a plain error. Maez, 960 F.3d at 964; see Hen- derson v. United States, 568 U.S. 266, 279 (2013) (“[W]e con- clude that whether a legal question was settled or unsettled at the time of trial, ‘it is enough that an error be “plain” at the time of appellate consideration’ for ‘[t]he second part of the [four-part] Olano test [to be] satisﬁed.’”) (alterations in origi- nal) (quoting Johnson, 520 U.S. at 468). Turning to the third element, we must determine if the er- ror aﬀected Pulliam’s substantial rights. A jury instruction that omits an element of the crime aﬀects a defendant’s sub- stantial rights if “it appeared ‘beyond a reasonable doubt that the error complained of did not contribute to the verdict ob- tained.’” United States v. Caira, 737 F.3d 455, 464 (7th Cir. 2013) (quoting Neder v. United States, 527 U.S. 1, 15 (1999)). Put an- other way, if overwhelming evidence presented to the jury proves the omitted element, we can conclude that the omitted instruction did not impact the verdict and therefore did not aﬀect the defendant’s substantial rights. See, e.g., Maez, 960 F.3d at 964; United States v. Groce, 891 F.3d 260, 269 (7th Cir. 2018). 8 No. 19-2162 The substantial rights analysis here is a diﬃcult one. Pul- liam stipulated to a prior felony conviction. See Maez, 960 F.3d at 964 (“A jury could reasonably think that a felony conviction is a life experience unlikely to be forgotten.”). And the jury heard testimony that Pulliam ran from the police, although for a short period of time. See id. at 965 (noting that testimony concerning the defendant’s attempt to ﬂee from oﬃcers re- lates to the defendant’s knowledge of his status as a felon). This evidence is probative of Pulliam’s knowledge of his felon status, but it may not be overwhelming evidence “on the new Rehaif element of knowledge of status as a felon.” Id. How- ever, we decline to decide if Pulliam’s rights were aﬀected be- cause, even if they were, we would not exercise our discretion to correct this error under the fourth element. In exercising our discretion under the fourth element, we must ask whether the error “seriously aﬀect[s] the fairness, integrity or public reputation of judicial proceedings.” Olano, 507 U.S. at 732 (alteration in original) (quoting United States v. Young, 470 U.S. 1, 15 (1985)). This element “has been com- pared to a ‘miscarriage of justice,’ or in other words, ‘a sub- stantial risk of convicting an innocent person.’” Maez, 960 F.3d at 962 (quoting United States v. Paladino, 401 F.3d 471, 481 (7th Cir. 2005)). So, if we are conﬁdent that the error in the jury instructions does not create the risk of a miscarriage of justice, we may decline to exercise our discretion to remand for a new trial. Maez, 960 F.3d at 965. Here, undisputed portions of Pulliam’s PSR provide strong circumstantial evidence that Pulliam knew he was a felon. Pulliam has been convicted of crimes and sentenced to over a year in prison on several occasions. In 1995, Pulliam pled guilty to possessing a stolen vehicle; he was sentenced to No. 19-2162 9 three years in prison. In 1996, Pulliam pled guilty to pos- sessing a stolen vehicle and was sentenced to four years in prison, which ran concurrently with his prior sentence. Also in 1996, Pulliam pled guilty to escape of a felon from a penal institution; he was sentenced to four years in prison, which ran concurrently with his prior sentences. Pulliam was re- leased on parole in 1998, serving over three years of the con- current four-year sentence. Then, in 1999, he pled guilty to a narcotics oﬀense and was sentenced to 30 months’ probation. His probation was revoked in 2001 and he was sentenced to six years in prison; he served close to two years. See generally People v. Palmer, 817 N.E.2d 137, 140 (Ill. App. Ct. 2004) (“On revoking a defendant’s probation, the trial court sentences him to a disposition that would have been appropriate for the original oﬀense.”). Pulliam’s time in prison—serving over a year at a time on at least two occasions—and the “sheer number of his other convictions” impairs his ability to argue ignorance as to his status as a felon. Dowthard, 948 F.3d at 818. We are conﬁdent that Pulliam knew he was a felon at the time he possessed a ﬁrearm in 2015. So, there is no risk of a miscarriage of justice because the error here does not seriously harm the fairness, integrity, or public reputation of judicial proceedings. See Maez, 960 F.3d at 964 (“Aﬃrmance in this instance protects ra- ther than harms ‘the fairness, integrity or public reputation of judicia proceedings.’”). We therefore decline to exercise our discretion to correct the error in the jury instructions. B. Evidentiary Rulings Pulliam next challenges the district court’s denial of his motion for a new trial, which relied in part on three underly- ing evidentiary rulings. Pulliam argues that the district court 10 No. 19-2162 erred by (1) excluding the oﬃcers’ testimony about his “what gun” remark, (2) admitting the oﬃcers’ testimony that Pul- liam possessed $408 when he was arrested, and (3) admitting the oﬃcers’ testimony about the dispatch call. We review the district court’s denial of a motion for a new trial, as well as its evidentiary rulings, for an abuse of discre- tion. United States v. Washington, 962 F.3d 901, 905 (7th Cir. 2020). We give “special deference” to a district court’s eviden- tiary rulings, Groce, 891 F.3d at 268, and we reverse these rul- ings “only if no reasonable person could take the judge’s view of the matter,” United States v. Brown, 871 F.3d 532, 536 (7th Cir. 2017). But even the “[i]mproper admission of evidence does not call for reversal if the error was harmless.” United States v. Chaparro, 956 F.3d 462, 481–82 (7th Cir. 2020); see Fed. R. Crim. P. 52(a). “The test for harmless error is whether, in the mind of the average juror, the prosecution’s case would have been signiﬁcantly less persuasive had the improper evidence been excluded.” United States v. Buncich, 926 F.3d 361, 368 (7th Cir. 2019) (quoting United States v. Stewart, 902 F.3d 664, 683 (7th Cir. 2018)). Essentially, an evidentiary error is harmless if it did not have a substantial inﬂuence on the verdict. United States v. Zuniga, 767 F.3d 712, 717 (7th Cir. 2014). We now turn to Pulliam’s arguments concerning the dis- trict court’s order denying him a new trial and the underlying evidentiary rulings. 1. “What Gun” Statement Oﬃcers from the Chicago Police Department interviewed Pulliam after his arrest. It is unclear from the record what the No. 19-2162 11 investigating oﬃcers asked Pulliam during this interview. 1 But in response to the oﬃcers’ inquiry, Pulliam’s counsel and the district court agreed that Pulliam “denied knowledge [of the gun] and said: ‘What gun?’” Prior to trial, Pulliam informed the district court that he planned to elicit testimony from the oﬃcers about the “what gun” remark. The government objected to this testimony as hearsay; Pulliam responded that “what gun” is a question, not a statement, and is therefore not hearsay. Fed. R. Evid. 801(c) (“‘Hearsay’ means a statement that: (1) the declarant does not make while testifying at the current trial or hearing; and (2) a party oﬀers in evidence to prove the truth of the mat- ter asserted in the statement.”) (emphasis added). The district court ruled that Pulliam’s remark is inadmissible hearsay, reasoning “that it was an assertion as opposed to a question designed to elicit a response.” The district court aﬃrmed this reasoning in its order denying Pulliam’s motion for a new trial. Pulliam argues this ruling was an abuse of discretion. Spe- ciﬁcally, he believes that the district court should have re- solved the issue in favor of admissibility because of the “highly ambiguous record.” A defendant’s out-of-court statement, when oﬀered by the defense, can be hearsay. See United States v. Sanjar, 876 F.3d 725, 739 (5th Cir. 2017) (“When oﬀered by the government, a defendant’s out-of-court statements are those of a party op- ponent and thus not hearsay. When oﬀered by the defense, 1 The district court referred to a report describing this interview, but that report is not in the record. Pulliam did not object to the district court’s characterization of the report and did not add the report to the record. 12 No. 19-2162 however, such statements are hearsay … .”). But not all a de- fendant’s remarks are “statements” for hearsay purposes. Federal Rule of Evidence 801(a) deﬁnes a statement as “a per- son’s oral assertion, written assertion, or nonverbal conduct, if the person intended it as an assertion.” We have held that questions are not statements under Rule 801 and therefore are not hearsay. See United States v. Thomas, 453 F.3d 838, 845 (7th Cir. 2006). Since Thomas we have elabo- rated on what makes a remark a question rather than a state- ment. A defendant’s remark is a question if it is “designed to elicit information and a response.” United States v. Love, 706 F.3d 832, 840 (7th Cir. 2013) (quoting United States v. Summers, 414 F.3d 1287, 1300 (10th Cir. 2005)). If the remark is intended to assert information, it is a statement rather than a question. See Summers, 414 F.3d at 1300. Put simply, the intent behind a remark dictates whether it is a statement or a question for hearsay purposes. See id. And the context surrounding the remark may help us ascertain the declarant’s intent. See Love, 706 F.3d at 840; Summers, 414 F.3d at 1300. Moreover, the party challenging the admission of the remark has the burden of demonstrating the declarant’s in- tent. Fed. R. Evid. 801 advisory committee’s note to 1972 pro- posed rules. Still, this is a question of fact that “involves no greater diﬃculty than many other preliminary questions of fact.” Id. Here, although the record is ambiguous, it was not unrea- sonable for the district court to conclude—for purposes of Rule 801—that the government met its burden in showing that Pulliam’s “what gun” remark was a statement. This re- mark was coupled with a statement of denial: “I don’t know what you’re talking about, and I didn’t throw a gun in the No. 19-2162 13 bushes.” In this context, it is unlikely that Pulliam was genu- inely curious as to which speciﬁc gun the oﬃcers were ques- tioning him about. See Summers, 414 F.3d at 1300. As the dis- trict court noted, Pulliam’s remark seems more like a rhetori- cal question “equivalent to saying: I don’t know what you’re talking about.” And since “what gun,” in context, reads as a substantive assertion meant to deny knowledge rather than a question meant to elicit a response, the district court did not abuse its discretion in excluding this statement as inadmissi- ble hearsay. 2. Money in Pulliam’s Possession Before trial, Pulliam ﬁled a motion in limine asking the dis- trict court to preclude the government from eliciting testi- mony concerning the $408 recovered from Pulliam. Pulliam argued that the testimony “would be signiﬁcantly more prej- udicial than probative.” Fed. R. Evid. 403. The government re- sponded that evidence of the amount of money Pulliam car- ried would be relevant for the purpose of proving that Pul- liam had a motive to possess a gun because of his “involve- ment in the inherently dangerous business of street level drug sales.” That logic looks something like this: testimony about the cash was oﬀered for the purpose of showing Pulliam was dealing drugs at the time of his arrest, which would give him a reason to have a gun. The district court ruled that testimony about Pulliam’s cash is admissible to show his motive for carrying the gun. See Fed. R. Evid. 404(b) (evidence of crimes, wrongs, or other acts is not admissible to “prove a person’s character in order to show that on a particular occasion the person acted in accord- ance with the character,” but it can be admitted for purposes 14 No. 19-2162 such as motive). The district court aﬃrmed this reasoning in its order denying Pulliam’s motion for a new trial: Pulliam argues that this [evidence] was unfairly prejudicial. However, his own closing arguments that he had no incentive to possess a gun demon- strate the signiﬁcant probative value of this evidence for it provides a motive for possessing the gun in the ﬁrst instance. The Court ﬁnds that any unfair preju- dice did not substantially outweigh that probative value. “Federal Rule of Evidence 404(b) prohibits the use of evi- dence of a defendant’s other bad acts to show his propensity to commit a crime.” United States v. Norweathers, 895 F.3d 485, 490 (7th Cir. 2018). In this case, the “other bad act” evidence was the officers’ testimony about Pulliam’s cash, which was admitted to show that Pulliam was dealing drugs. But this other-act evidence may be used for a non-propensity purpose “such as proving motive, opportunity, intent, preparation, plan, knowledge, identity, absence of mistake, or lack of acci- dent.” Fed. R. Evid. 404(b)(2). The problem with other-act evidence is that it may often be used for a permitted use—like showing motive—and an impermissible use—like showing a propensity to commit a crime. United States v. Morgan, 929 F.3d 411, 427 (7th Cir. 2019). Still, even if the evidence might support a propensity infer- ence, it may be admitted so long as its admission for a permis- sible purpose is “supported by some propensity-free chain of reasoning.” United States v. Gomez, 763 F.3d 845, 856 (7th Cir. 2014) (en banc) (“Rule 404(b) excludes the evidence if its rele- vance to ‘another purpose’ is established only through the for- bidden propensity inference.”). Stated another way, the dis- trict court should “not just ask whether the proposed other-act No. 19-2162 15 evidence is relevant to a non-propensity purpose but how ex- actly the evidence is relevant to that purpose.” Id. But even if evidence is “relevant without relying on a pro- pensity inference,” it may still be excluded under Rule 403. Id. A court may exclude relevant evidence if its “probative value is substantially outweighed by a danger of … unfair preju- dice.” Fed. R. Evid. 403. Other-act evidence presents a unique Rule 403 problem: “it almost always carries some risk that the jury will draw the forbidden propensity inference.” Gomez, 763 F.3d at 857. Because of that risk, Rule 403 balancing in this context is diﬃcult and is a “highly context-speciﬁc inquiry.” Id. Still, one guiding principle has emerged: we must take into account “the degree to which the non-propensity issue actu- ally is disputed in the case.” Id.; see United States v. Brewer, 915 F.3d 408, 415–16 (7th Cir. 2019). Pulliam does not seem to contest the district court’s 404(b) analysis. He points out that “[p]roving motive can be a per- missible purpose for the introduction of ‘other acts,’ such as alleged drug activity.” Indeed, we have approved of admit- ting “other-act” evidence of drug dealing to prove the defend- ant had a motive to possess a ﬁrearm. See United States v. Schmitt, 770 F.3d 524, 533–35 (7th Cir. 2014) (admitting testi- mony that drugs were found in Schmitt’s home for the pur- pose of proving a motive to possess a gun when possession was disputed at trial). Pulliam instead argues that the district court’s Rule 403 analysis in its order denying Pulliam’s new trial was an abuse of discretion. He also argues that the dis- trict court failed to consider all of the unfairly prejudicial ef- fects of this evidence. Testimony about Pulliam’s cash presents the prototypical “other-act” evidence problem. The jury heard testimony 16 No. 19-2162 about the cash, which was admitted for the purpose of show- ing that Pulliam was dealing drugs at the time of his arrest, which would give him a motive to possess a gun. But the jury just as easily could have drawn the inference that Pulliam “was the type of person who would break the law once” by dealing drugs, so “he must be the type of person who would break the law again” by possessing a ﬁrearm as a felon. Id. at 534. So, the jury could have used this evidence for an im- proper propensity purpose, creating a risk of unfair prejudice. But this evidence was also probative of a central issue at trial. Motive to possess a gun—the non-propensity issue— was hotly disputed. Cf. Gomez, 763 F.3d at 857. And the testi- mony concerning Pulliam’s cash was oﬀered in support of that motive. Pulliam disputed that he possessed a gun and that he had a motive to possess a gun. In his opening state- ment, Pulliam made his theory of the case clear: “He was ar- rested frankly for being in the right place, a place he had every right to be, at the wrong time.” Pulliam also cross-examined the oﬃcers about whether they had seen Pulliam engage in drug transactions, if they found drugs on him, and if they knew how he got the $408. Additionally, Pulliam’s boss at K&M Auto testiﬁed that Pulliam is paid in cash on Fridays, giving him an innocent reason to possess the cash. Pulliam tied this all together in his closing argument: “There were no drugs on him. He had $400 that he got paid that day. What would be the incentive to have a gun? There was no incentive to have a gun.” Pulliam thus made possession, and a motive to possess a gun, “central to the case.” Brewer, 915 F.3d at 416. Evidence about his motive, then, was highly probative. See Gomez, 763 F.3d at 857. No. 19-2162 17 But the speciﬁc motive evidence—testimony about cash found on Pulliam’s person—is not strong evidence of drug- dealing activity, and therefore, even more tenuous evidence of motive. The oﬃcers did not ﬁnd any drugs on Pulliam’s person or in the parking lot. Instead, the government pre- sented the cash found on Pulliam and his brief period of ﬂight as circumstantial evidence of drug dealing. This evidence is substantially weaker, and so less probative, than the evidence of drug dealing and motive in Schmitt, which included drugs found at the defendant’s home. 770 F.3d at 534. Still, Pulliam’s possession of a gun and his motive for pos- session were squarely at issue during trial and were heavily contested. So it was not unreasonable, and therefore not an abuse of discretion, for the district court to conclude that the testimony’s probative value was not substantially out- weighed by the potential unfair prejudice of the jury assum- ing that Pulliam was a drug dealer, and thus more likely to commit other crimes. See Brewer, 915 F.3d at 416 (“The evi- dence of the Ohio and California robberies was of course prej- udicial—all other-act evidence is—but given that Brewer put his identity and intent squarely at issue, it was not unfairly so.”); cf. United States v. Foley, 740 F.3d 1079, 1088 (7th Cir. 2014) (“Our role on appeal … is not to apply the Rule 403 bal- ancing test de novo but to review the district court’s decision for an abuse of discretion.”). Finally, Pulliam takes issue with the district court’s rea- soning aﬃrming this evidentiary ruling in its order denying Pulliam a new trial. He argues that the district court failed to consider “the unfairly prejudicial eﬀect of using the innocent act of carrying cash to support the conclusion of criminal drug traﬃcking.” The district court acknowledged Pulliam’s unfair 18 No. 19-2162 prejudice argument, but ultimately concluded “that any un- fair prejudice did not substantially outweigh” the probative value of the testimony. A district court’s provided reasoning amounts to an abuse of discretion when the court fails to explain its “bare-bones conclusion that ‘the probative value of the evidence is not sub- stantially outweighed by the danger of unfair prejudice.’” United States v. Ciesiolka, 614 F.3d 347, 357 (7th Cir. 2010); see United States v. Eads, 729 F.3d 769, 777 (7th Cir. 2013) (ﬁnding the district court’s Rule 403 analysis insuﬃcient where it did not explain the speciﬁc probative value or risk of prejudice presented by the evidence). This is because “[a] pro-forma recitation of the Rule 403 balancing test does not allow an ap- pellate court to conduct a proper review of the district court’s analysis.” United States v. Loughry, 660 F.3d 965, 972 (7th Cir. 2011) (ﬁnding that the district court’s Rule 403 reasoning amounted to an abuse of discretion when it only explained that “the Court conducted the Rule 403 balancing test and concluded that the probative value of the Government’s evi- dence was not substantially outweighed by the danger of un- fair recitation”). It is true that the district court could have provided more thorough reasoning concerning its Rule 403 decision. But the district court emphasized the probative value of the testimony concerning Pulliam’s cash: “[Pulliam’s] own closing argu- ments that he had no incentive to possess a gun demonstrate the signiﬁcant probative value of this evidence for it provides a motive for possessing the gun in the ﬁrst instance.” Consid- ering this probative value, the district court reasoned that “any unfair prejudice did not substantially outweigh that pro- bative value.” See United States v. Adkins, 743 F.3d 176, 184 (7th No. 19-2162 19 Cir. 2014) (“[T]he district court found the … evidence more probative than prejudicial for the same reasons that it found the evidence to be direct evidence of criminality: the evidence went to [the defendant’s] knowledge, preparation, and in- tent.”). Essentially, in conducting the Rule 403 analysis, the district court determined that the evidence had signiﬁcant probative value, and that the unfair prejudice Pulliam argued he suﬀered as a result of this testimony would not substan- tially outweigh that probative value. This analysis is not “bare-boned” and provides enough reasoning for us to properly review it, especially since the only unfair prejudice Pulliam argues is that he was unfairly depicted as a drug dealer. So, although the district court could have provided more extensive reasoning to support its Rule 403 conclusion, the analysis provided does not amount to an abuse of discretion. 3. Dispatch Call The district court, over Pulliam’s objection, allowed the government to elicit testimony from the oﬃcers concerning the dispatch call they received. The district court reasoned: The government argues that the [anonymous 911 calls] provide the jury with the context for why the police oﬃcers were in the McDonald’s parking lot and why they approached Mr. Pulliam. There’s no suggestion that the oﬃcers listened to the 911 calls before arriving at the McDonald’s parking lot and seeing Mr. Pulliam there. The oﬃcers were respond- ing to a report from their dispatcher. Therefore, for these purposes it would be appropriate for the oﬃcers to testify as to what the dispatcher told them, which 20 No. 19-2162 may include that the emergency response center had received two calls of suspected drug sales. (emphasis added). And in its order denying Pulliam a new trial, the district court declined to alter this decision: “The court finds again that the dispatch information was relevant to the officers’ state of mind to explain their actions when they attempted to approach the group of men including Pulliam.” Pulliam argues that testimony concerning the dispatch call was highly prejudicial, had little probative value, and the dis- trict court abused its discretion by not excluding this evidence under Rule 403. The government argues that—like the testi- mony concerning Pulliam’s cash—the testimony about the dispatch call was admitted to show that Pulliam had a motive to possess a firearm because he was dealing drugs. And since motive and possession were disputed, the probative value of testimony about the dispatch calls outweighs its potential for unfair prejudice. We disagree with the government’s characterization of the district court’s reason for admitting this testimony. The dis- trict court, in both its rulings on the testimony about the dis- patch call, does not explicitly tie this evidence to motive. In- stead, in admitting this evidence and affirming this decision, the district court emphasized the testimony’s relevance to provide context for why the officers approached Pulliam. So, the district court did not allow the officers to testify about the dispatch call to prove that Pulliam had a motive to possess a gun because he was dealing drugs; it instead admitted this evidence to provide context for why the officers approached Pulliam prior to his arrest. And considering the purpose for which the evidence was actually admitted, the dispatch call had minimal probative No. 19-2162 21 value. The reason why the officers showed up at the parking lot was not disputed at trial. Importantly, it also had “nothing to do with the charge[] in this case,” possessing a gun. United States v. Cooper, 591 F.3d 582, 589 (7th Cir. 2010). It is hard to see how this evidence could have any probative value when it had no relation to the offense charged or the disputed is- sues. See United States v. Nelson, 958 F.3d 667, 670 (7th Cir. 2020) (expressing concerns “about overuse of the ‘complete- the-story’ theory of relevance”). This testimony also had a potential for unfair prejudice. The dispatch call informed the oﬃcers of a potential narcotics sale in the parking lot where they found Pulliam. The jury could have drawn the same inference from this evidence as it could have from testimony about the cash on Pulliam’s per- son: Pulliam “was the type of person who would break the law once” by dealing drugs, so “he must be the type of person who would break the law again.” Schmitt, 770 F.3d at 534. But unlike the testimony about the cash found on Pulliam, the tes- timony about the dispatch call has almost no probative value; this makes it hard to accept almost any risk of prejudice, United States v. Boros, 668 F.3d 901, 909 (7th Cir. 2012). So, the question of whether the district court abused its discretion in its rulings related to this evidence is a close call. But we need not answer this question because, even if this evidence was improperly admitted, its admission was harm- less.2 See United States v. Miller, 954 F.3d 551, 560–64 (2d Cir. 2 Pulliam asks us to apply a cumulative error analysis because he ar- gues the district court committed multiple errors. To demonstrate cumu- lative error, Pulliam must show that at least two errors occurred and that he was denied a fundamentally fair trial. Groce, 891 F.3d at 270. True, if we find an evidentiary error occurred in addition to the error in the jury 22 No. 19-2162 2020) (analyzing an evidentiary error for harmlessness when there was also a Rehaif error in the jury instructions that did not “rise to the level of reversible plain error”). Both oﬃcers testiﬁed in detail about the events leading to Pulliam’s arrest. The oﬃcers testiﬁed that as they approached the group of men in the parking lot, Pulliam began to walk away and disappeared behind a van. When he emerged from behind the van, both oﬃcers saw a chrome gun in Pulliam’s hand. Oﬃcer Guziec yelled “gun” and drew his own weapon; Pulliam ran from the oﬃcers and into a nearby alley. Oﬃcer Alcazar testiﬁed that, at this point, he was a few feet away from Pulliam and did not lose sight of him during the entire chase. Pulliam then raised his hands, turned around, and threw the gun toward the McDonald’s dumpster. Oﬃcer Al- cazar testiﬁed that he saw Pulliam throw the gun and saw ap- proximately where the gun landed. Oﬃcer Guziec also testi- ﬁed that he saw Pulliam throw the gun. Oﬃcer Guziec then escorted Pulliam back to the squad car. Oﬃcer Alcazar testiﬁed that he split from Oﬃcer Guziec and went to retrieve the gun Pulliam had just thrown. When Oﬃcer Alcazar got to the area where the gun landed—near the McDonald’s dumpster—he saw only one, chrome gun. Oﬃcer Alcazar testiﬁed that he retrieved this gun within one minute of Oﬃcer Guziec detaining Pulliam. instructions, there would be at least two errors. But even if we were to consider the cumulative effect of these errors, it would not change the out- come here. We have already decided that the jury-instruction error did not affect the fairness of Pulliam’s trial proceedings. And one harmless evi- dentiary error would not then make Pulliam’s trial fundamentally unfair. No. 19-2162 23 The oﬃcers provided extensive testimony proving that Pulliam knowingly possessed a ﬁrearm, the only issue dis- puted at trial. We are therefore convinced that excluding the oﬃcers’ brief testimony concerning the dispatch call would not have made the government’s case signiﬁcantly less per- suasive. See Buncich, 926 F.3d at 368–69. Any error in admit- ting this evidence, then, would be harmless. III. CONCLUSION Because the error in the jury instruction does not seriously aﬀect the fairness, integrity, or public reputation of judicial proceedings, and because the only potential evidentiary error would be harmless, we AFFIRM Pulliam’s conviction.	01-04-2023	09-03-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623622/	Frederick L. and Catherine V. Sullivan v. Commissioner.Sullivan v. CommissionerDocket No. 2162-66.United States Tax CourtT.C. Memo 1968-111; 1968 Tax Ct. Memo LEXIS 185; 27 T.C.M. (CCH) 538; T.C.M. (RIA) 68111; June 11, 1968. Filed 185 Bad debt deduction disallowed for failure to prove worthlessness in the taxable year. Kenneth F. Kane, CPA, 41 Arlington St., Brockton, Mass., for the petitioners. Robert B. Dugan, for the respondent. 539 DRENNENMemorandum Findings of Fact and Opinion DRENNEN, Judge: Respondent determined a deficiency in petitioners' income tax for 1964 in the amount of $558.65. The sole issue for decision is whether petitioners were entitled to a bad debt deduction in the amount of $1,000 in the taxable year in issue. 1There186 was no pretrial stipulation of facts in this case. Findings of Fact Petitioners were residents of Brockton, Mass., at the time they filed their petition with this Court. They filed their joint Federal income tax return for 1964 with the district director of internal revenue, Boston, Mass. Catherine V. Sullivan is a petitioner herein only by virtue of having filed a joint return with her husband. Hereafter, reference made to petitioner will be to Frederick L. Sullivan. Petitioner taught accounting in 1964 and his wife was a social worker. Prior to that time he was in business as a controller and had taught accounting for many years. In 1962 petitioner was approached by Joseph O'Reilly, his son-in-law (hereinafter referred to as O'Reilly), requesting him to cosign or guarantee a note to be executed by O'Reilly as evidence of a loan from a bank to O'Reilly. O'Reilly was in the building business in 1962. He had experienced some financial misfortunes, and he was still in financial difficulty at the time he requested his father-in-law's signature for purposes of obtaining a loan. The loan would not have been available without petitioner's signature. Petitioner agreed to sign the187 note, which was dated November 1, 1962, was in the amount of $2,000, and was payable in 90 days. Petitioner had cosigned a prior note for O'Reilly for a similar type and had been repaid at the time of the present transaction. At the end of the 90-day period, O'Reilly did not meet the note nor any of the interest payments. The bank requested payment of petitioner of half of the $2,000 in August 1964. The bank had made some prior efforts to collect from O'Reilly, but it had been unsuccessful in its attempts to do so. It did not bring suit against him because it knew that there would be no difficulty in collecting from petitioner as cosigner. As of August 1964, the bank had received only a few interest payments from O'Reilly. After paying the $1,000 petitioner did not make any efforts to collect from O'Reilly through legal action or otherwise, and he subsequently paid the balance of the note. In 1964 O'Reilly was still in the construction business. He would contract to build a home for someone who was willing to do his own financing. At no time between 1962 and 1964 did O'Reilly go through bankruptcy. Sometime prior to 1962, petitioner's daughter (O'Reilly's wife) began teaching elementary188 school at a salary that was not disclosed during trial. Ultimate Finding of Fact Petitioner has failed to prove that the debt in question was wholly worthless in 1964. Opinion A deduction for a debt that has become worthless within the taxable year is allowed under section 166(a), I.R.C. 1954. 2 The regulations promulgated thereunder state that the "debt" must be bona fide and that whether the debt is worthless will be determined from all the pertinent evidence. 3With respect to the bona fides of the debt, respondent argues that the petitioner is no more than a mere cosigner of the note which he paid and with respect to which he is seeking a deduction for a189 bad debt as guarantor. While the record leaves considerable doubt whether petitioner signed the note as cosigner or as guarantor, we do not feel that it is necessary to discuss that question because our conclusion that petitioners have failed to prove that the alleged "debt" was worthless in the taxable year is decisive of the issue. Taxpayer has the burden of proving that the debt became worthless in the year in 540 which the deduction is claimed. Earl V. Perry, 22 T.C. 968">22 T.C. 968, citing Redman v. Commissioner, 155 F. 2d 319. Worthlessness is an objective question of fact to be determined from all the evidence; and this Court is reluctant to determine that a debt is worthless on the opinion of the taxpayer alone, in the absence of evidence of facts upon which that opinion is based. R. A. Bryan, 32 T.C. 104">32 T.C. 104, affd. 281 F. 2d 238. Petitioner has failed to meet his burden of proof on the issue of worthlessness. He indicated that the bank attempted to collect payments on the note from O'Reilly. However, petitioner offered no testimony nor any witnesses to explain precisely how the bank did this. In addition, he testified that he190 supposed the bank found it easier to proceed against him than against his son-in-law and thereby save the expense of legal action. Having failed to specify in what manner the bank attempted to collect on the note from O'Reilly, petitioner does not persuade us that he tried to collect on the note, that O'Reilly was in such financial condition that he could not pay the note if payment was demanded, or that legal action against O'Reilly would not have had the desired effect, i.e., reimbursement for the funds paid on behalf of O'Reilly. Petitioner apparently made no attempt to collect any money from O'Reilly. He testified that it would have been embarrassing to him and improper for him to do so because his daughter was forced to work and O'Reilly had been through hard times and clearly could not pay. No occasions are mentioned, however, wherein petitioner ever even asked O'Reilly for payment and was refused. Finally, petitioner indicated that O'Reilly was still in the construction business in 1964; although he was unable to finance the houses he built, he could take on work if the customer provided the funds. O'Reilly never filed a petition in bankruptcy. There was no balance sheet191 presented of his financial condition. Consequently, the mere statement by petitioner that legal action against O'Reilly would have been futile is inconclusive. While we can sympathize with petitioner in his reluctance to take steps to collect the debt from his son-in-law and recognize that it is not necessary for a taxpayer to bring suit to prove worthlessness of the debt if it is clear that such action would be useless, nevertheless the existence of the close family relationship does not relieve the taxpayer from his burden of proving that the debt was worthless. 4 See Acheson v. Commissioner, 155 F. 2d 369, affirming a Memorandum Opinion of this Court, cited with approval in Investers Diversified Services, Inc. v. Commissioner, 325 F. 2d 341. This petitioner has completely failed to do by competent and convincing evidence.192 Because of the failure by petitioner to prove that the alleged debt became worthless in 1964, we hold for respondent. Decision will be entered under Rule 50. Footnotes1. The deficiency with respect to the issue in this case is $267.80 of the original $558.65, as petitioners did not assign as error in their petition the adjustments giving rise to the remainder of the deficiency.↩2. SEC. 166. BAD DEBTS. (a) General Rule. - (1) Wholly worthless debts. - There shall be allowed as a deduction any debt which becomes worthless within the taxable year. ↩3. Income Tax Regs.: Sec. 1.166-2. Evidence of worthlessness. (a) General rule. In determining whether a debt is worthless in whole or in part the district director will consider all pertinent evidence, including the value of the collateral, if any, securing the debt and the financial condition of the debtor.↩4. The burden might even be somewhat heavier under such circumstances to negative the suggestion that the failure to make any effort to collect a debt from a relative evidences a gift. Estate of Carr V. Van Anda, 12 T.C. 1158">12 T.C. 1158, affirmed per curiam 192 F. 2d 391. See Elwin L. Suman, T.C. Memo. 1967-84↩.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623624/	ELMER H. AND LENA A. BOYLE, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, RespondentBoyle v. CommissionerDocket No. 326-79.United States Tax CourtT.C. Memo 1980-123; 1980 Tax Ct. Memo LEXIS 462; 40 T.C.M. (CCH) 179; T.C.M. (RIA) 80123; April 17, 1980, Filed Elmer H. Boyle, pro se. Carolyn M. Parr, for the respondent. WILBURMEMORANDUM FINDINGS OF FACT AND OPINION WILBUR, Judge: Respondent determined a deficiency in petitioners' Federal income tax for the taxable year 1975 in the amount of $133.51 and determined an excise tax liability of $25.03. The questions presented for decision are: (1) whether petitioners are entitled to exclude $417.21 from income, which was distributed to petitioner Elmer H. Boyle from the retirement plan465 of his former employer and "rolled-over" into an IRA account, and (2) whether petitioners are liable for the excise tax of six percent that is imposed by section 4973 1 on "excess contributions" to an IRA. FINDINGS OF FACT Most of the facts in this case have been stipulated, and are found accordingly. Petitioners filed a timely Federal joint income tax return for the taxable year 1975. At the time the petition herein was filed, they resided in Potomac, Maryland. On November 14, 1975, Elmer H. Boyle (hereinafter petitioner) resigned from his position with Control Data Corporation, where he had worked for less than a year. While employed there, he was a participant in a qualified retirement plan in the form of a salary reduction plan sponsored by Control Data. Upon petitioner's resignation, he received a distribution of his salary reduction contributions to the Control Data retirement plan in the amount of $417.21. Subsequently during 1975, he opened an Individual Retirement Account (IRA) at a savings and loan association and deposited $417.21 in that account as a "roll-over" under section466 402(a)(5) of the distribution received from Control Data, and excluded this amount from his gross income in 1975 under section 219. In addition, petitioner stipulated at trial that he became a member of another qualified pension plan during the latter part of 1975, namely, the plan of Pfizer Medical Systems. OPINION Respondent determined that petitioner's contribution of $417.21 to an IRA and exclusion of this amount from income for 1975 was erroneous. In addition, respondent determined that this amount was an "excess contribution" to an IRA with the result that the entire contribution is subject to a six percent penalty under section 4973. Generally, section 219 2 provides that taxpayers may deduct amounts paid in cash to an IRA during the taxpayer year. However, section 219(b)(2)(A)(i) provides that no deduction for contributions to an IRA will be allowed for any individual for a taxable year, if for any part of such year he was an active participant in a plan described in section 401(a). During part of the year 1975, petitioner was an "active participant" in the Control Data profit sharing plan, a plan described in section 401(a), as construed by this Court in ,467 affd. . In addition, upon terminating that plan membership he became a participant in another qualified plan. On the basis of these statutes, it is clear petitioner could not establish an IRA in 1975. 468 Additionally, we must find that petitioner is not entitled to exclude the amount received from Control Data and "rolled over" into an IRA from his income. As in effect during 1975, section 402(a)(5)(A) 3 provided that in the event of a lump sum distribution of proceeds of a qualified plan made to a participant employee on account of his termination of employment, such distribution would not be included in gross income, if the taxpayer placed the distributed amount in an IRA on or before the sixtieth day after the date that the distribution was received. 469 However, section 402(e)(4)(H) 4 specifically provides that no amount distributed to an employee from a plan could be treated as a lump sum distribution (and thus eligible to be "rolled over" into an IRA) unless that employee had been a participant in the plan for five or more taxable years before the taxable year in which the distribution is made. Petitioner had not been a member of Control Data's qualified plan for even one year at the time the distribution was made to him, and thus he cannot be considered to be the recipient of a "lump sum distribution," within the meaning of section 402(e)(4)(A) and is therefore not eligible for the tax-free roll-over provided in section 402(a)(5)(A)(ii). 470 Petitioner contends that the issue herein is whether a taxpayer should be required to meet the requirements of a tax statute "that is not made known to him by the IRS * * * and is so obscure that the employees of the IRS are not aware of it." The record herein indicates that there was some confusion on the part of the Service as to why it found petitioner's distribution from Control Data to be ineligible for roll-over treatment. Indeed, as petitioner observed in his petition herein, he eventually discovered that the five-year rule prevented the roll-over, and informed the Service of the fact that he did not meet the five-year participation requirement. From September of 1976 to May of 1978, the Service contended that the Control Data plan was not a "qualified plan," and it was on this basis, rather than the basis of the five-year participation requirement, that petitioner's roll-over was being denied. However, the fact that Control Data's plan was at all times a qualified plan has now been stipulated. In May of 1978, two and one-half years after the roll-over had been made, petitioner became aware of the five-year participation requirement, and so informed the Service.Petitioner471 points out that the employees with whom he had been dealing were well aware that he had been in Control Data's plan less than one year. He contends, in essence, that if they did not know of and try to enforce the five-year rule, then he should not be held accountable under it, especially since he had to bring it to their attention. It is indeed a sorry commentary on the complexity of the tax laws that petitioner had to first spend two frustrating years trying to convince the Service that his company's plan was qualified (which it was) only to discover yet another hurdle in the form of the five-year participation requirement, which, if asserted by the Service to begin with, would have settled the issue. Nevertheless, the law unequivocally precludes petitioner in 1975 from either establishing an IRA or rolling-over the distribution that he received from the Control Data plan.It is the law Congress enacted that determines petitioner's substantive tax liability, and the mistakes the Service made, while understandably nettlesome to petitioner, do not alter these rules. Se , affd. 472 (mistakes by agents of respondent do not preclude him from making a correct determination of a taxpayer's liability). See also . Finally, it is clear that the excess contributions penalty under section 4973 5 is applicable on the facts before us. Although we sympathize with petitioner's claim that it is unfair to apply this penalty tax on top of the amount he owes because of his increase in taxable income, unfortunately for petitioner, section 4973 is a statutory penalty and we have no power to refuse to enforce it. See , affd. . 473 Decision will be entered for the respondent.Footnotes1. All section references are to the Internal Revenue Code of 1954, as amended.↩2. SEC. 219. RETIREMENT SAVINGS. (a) DEDUCTION ALLOWED.--In the case of an individual, there is allowed as a deduction amounts paid in cash during the taxable year by or on behalf of such individual for his benefit-- (1) to an individual retirement account described in section 408(a), (2) for an individual retirement annuity described in section 408(b), or (3) for a retirement bond described in section 409 (but only if the bond is not redeemed within 12 months of the date of its issuance). For purposes of this title, any amount paid by an employer to such a retirement account or for such a retirement annuity or retirement bond constitutes payment of compensation to the employee (other than a self-employed individual who is an employee within the meaning of section 401(c)(1)) includible in his gross income, whether or not a deduction for such payment is allowable under this section to the employee after the application of subsection (b).(b) LIMITATIONS AND RESTRICTIONS.-- (1) MAXIMUM DEDUCTION.--The amount allowable as a deduction under subsection (a) to an individual for any taxable year may not exceed an amount equal to 15 percent of the compensation includible in his gross income for such taxable year, or $1,500, whichever is less. (2) COVERED BY CERTAIN OTHER PLANS.--No deduction is allowed under subsection (a) for an individual for the taxable year if for any part of such year-- (A) he was an active participant in-- (i) a plan described in section 401(a) which includes a trust exempt from tax under section 501(a), (ii) an annuity plan described in section 403(a), (iii) a qualified bond purchase plan described in section 405(a), or (iv) a plan established for its employees by the United States, by a State or political division thereof, or any an agency or instrumentality of any of the foregoing, or (B) amounts were contributed by his employer for an annuity contract described in section 403(b) (whether or not his rights in such contract are nonforfeitable).↩3. SEC. 402. TAXABILITY OF BENEFICIARY OF EMPLOYEES' TRUST. (a) TAXABILITY OF BENEFICIARY OF EXEMPT TRUST.-- * (5) ROLLOVER AMOUNTS.-- (A) GENERAL RULE.--If-- (i) the balance to the credit of an employee in a qualified trust is paid to him in a qualifying rollover distribution, (ii) the employee transfers any portion of the property he receives in such distribution to an eligible retirement plan, and (iii) in the case of a distribution of property other than money, the amount so transferred consists of the property distributed, then such distribution (to an extent so transferred) shall not be includible in gross income for the taxable year in which paid.↩4. Sec. 402(e) TAX ON LUMP SUM DISTRIBUTIONS.-- * (4) DEFINITIONS AND SPECIAL RULES.-- * *(H) MINIMUM PERIOD OF SERVICE.--For purposes of this subsection (but not for purposes of subsection (a)(2) or section 403(a)(2)(A)), no amount distributed to an employee from or under a plan may be treated as a lump sum distributed under subparagraph (A) unless he has been a participant in the plan for 5 or more taxable years before the taxable year in which such amounts are distributed.↩5. SEC. 4973. TAX ON EXCESS CONTRIBUTIONS TO INDIVIDUAL RETIREMENT ACCOUNTS, CERTAIN SECTION 403(b) CONTRACTS, CERTAIN INDIVIDUAL RETIREMENT ANNUITIES, AND CERTAIN RETIREMENT BONDS. (a) TAX IMPOSED.--In the case of-- (1) an individual retirement account (within the meaning of section 408(a)), (2) an individual retirement annuity (within the meaning of section 408(b)), a custodial account treated as an annuity contract under section 403(b)(7)(A) (relating to custodial accounts for regulated investment company stock), or (3) a retirement bond (within the meaning of section 409), established for the benefit of any individual, there is imposed for each taxable year a tax in an amount equal to 6 percent of the amount of the excess contributions to such individual's accounts, annuities, or bonds (determined as of the close of the taxable year). The amount of such tax for any taxable year shall not exceed 6 percent of the value of the account, annuity, or bond (determined as of the close of the taxable year). In the case of an endowment contract described in section 408(b), the tax imposed by this section does not apply to any amount allocable to life, health, accident, or other insurance under such contract. The tax imposed by this subsection shall be paid by such individual.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623626/	George A. Butler and Anne G. Butler v. Commissioner. John M. Sheesley and Jean Sheesley v. Commissioner. Otto B. Schoenfeld and Hazel Schoenfeld v. Commissioner.Butler v. CommissionerDocket Nos. 58729-58731.United States Tax CourtT.C. Memo 1958-150; 1958 Tax Ct. Memo LEXIS 79; 17 T.C.M. (CCH) 752; T.C.M. (RIA) 58150; July 31, 195879 The principal petitioners were three of several stockholders of a corporation which was organized in 1946 to erect and operate a chemical plant. Construction of the plant continued for about 2 years, and approximately $1,250,000 was spent thereon. The bulk of this capital was obtained through the issuance of stock, and the issuance of certain long-term subordinated notes which were acquired by the stockholders, including the petitioners. Upon completion of the plant in about February 1949, it failed to function properly, due to mechanical and technical difficulties which were encountered. The management then proceeded to rectify these difficulties; obtained the assistance of an experienced engineer to advise them on the practicability of using the plant to manufacture an additional product; and installed a pilot plant for experimentation on the production of such additional product. This experimentation was still in progress at the end of the year 1949, and continued into the early months of 1950. There was no identifiable event in 1949 which wiped out the corporation's potentiality for earning profits. The corporation actually went into production in 1950, and continued to operate80 until sometime in 1953. Held, that neither the common stock nor the subordinated notes of the corporation became wholly worthless during and within the year 1949; and that petitioners are not entitled to deductions based on the claimed worthlessness of such securities in said year. William C. W. Haynes, Esq., Philip A. Masquelette, Esq., 3100 Gulf Building, Houston, Tex., and Carl B. Fox, Jr., Esq., for the petitioners. Robert L. Liken, Esq., for the respondent. PIERCE Memorandum Findings of Fact and Opinion PIERCE, Judge: These cases, which were consolidated for trial, involve deficiencies in income tax as follows: DeficienciesDocket Nos.Petitioners19491950195158729George A. and Anne G. Butler$34,665.64$12,227.6458730John M. and Jean Sheesley19,710.361,669.86$7,639.2258731Otto B. and Hazel Schoenfeld16,214.603,772.11The issues for decision are whether (1) the common stock of Gulf Chemical Company, a Texas corporation, and (2) this corporation's 4 per cent subordinated notes due April 30, 1953, both became worthless in the year 1949 - so that losses with respect of such securities held81 by the petitioners are deductible by them in 1949, under sections 23(g)(2) and 23(k)(4) of the 1939 Code. Decision on the above issues will be determinative of whether capital loss carryover deductions for subsequent years are allowable to petitioners, as claimed by them. Findings of Fact Certain facts have been stipulated. The stipulations of fact, together with the exhibits attached thereto, are incorporated herein by reference. The petitioners in each case are husband and wife, residing in Houston, Texas. Each of the couples filed joint income tax returns for the years involved, with the collector of internal revenue for the first district of Texas. In 1945, petitioners John M. Sheesley and Otto B. Schoenfeld were partners in the business of manufacturing and selling pumps, including a device for proportioning soluble phosphates into drinking water for cattle. Following the close of World War II, the users of these latter devices found it difficult to obtain sodium phosphates; and therefore these petitioners explored the possibilities of producing this type of chemical in a plant of their own. After consulting chemical engineers, including a man named Truman Wayne, they82 concluded that construction of a plant solely to meet the needs of the users of their proportioning device would not be practicable; but that a plant could be erected at an estimated cost of approximately $250,000, exclusive of the plant site and docks, which could meet the growing demand for sodium phosphates, both in the cattle feed and other industries. Realizing that they alone would be unable to finance a venture of this size, they approached petitioner George A. Butler; interested him in coming into the venture; and arranged with him to furnish a substantial portion of the anticipated capital requirements. The first step in getting the venture started was the organization of a Texas corporation in August 1946, known as Gulf Chemical Company. The original capital stock of this company was $12,500 divided into shares of the par value of $1 each. All of the shares were subscribed and fully paid at the time of incorporation. The record does not disclose whether any persons, other than the three above-mentioned organizers, became stockholders; nor does it show what consideration was delivered to the corporation for the stock. There is evidence that, at about this time, the corporation83 acquired a 19.8-acre tract of land located on the Houston Ship Channel at Galena Park, Texas, for its plant site. On January 5, 1947, Butler was elected president of Gulf Chemical Company; and, at about that time, construction was started on a plant to produce principally sodium phosphates, and phosphoric acid. The estimated period for completion was approximately 1 1/2 years. Wayne was retained to design the plant and supervise the construction. As the construction progressed, it was found that substantially more capital than had originally been anticipated, would be required. Accordingly, the following steps to obtain additional capital were taken during the years 1947 and 1948: "1. On March 15, 1947, Gulf's board of directors authorized the borrowing of $80,000 from the National Bank of Commerce of Houston, on a 4 per cent promissory demand note secured by a deed of trust covering the company's real estate. On July 16, 1947, $30,000 of said amount was so borrowed. "2. On August 5, 1947, the corporation's charter was amended, so as to increase the authorized capital stock from 12,500 shares to 55,500 shares of the par value of $1 per share. All the additional 43,000 shares84 were subscribed and paid for. The record again does not disclose the identity of the shareholders who acquired this stock; nor does it disclose what consideration was delivered to the corporation for such additional shares. "3. On September 30, 1947, the corporation's board of directors authorized the issuance of $250,000 principal amount of 4 per cent subordinated promissory notes due April 30, 1953. By the end of the year 1947, $180,650 principal amount of such notes were outstanding in the hands of 20 stockholders; and none of such notes were held by others than stockholders. "4. On December 6, 1947, Gulf and the National Bank of Commerce of Houston executed a loan agreement, under which the bank agreed to make advances to the corporation up to April 1, 1948, for plant construction, in the aggregate amount of $325,000, including the $30,000 previously loaned. This loan agreement was thereafter successively amended and extended by supplemental agreements to December 1, 1948. Up to September 15, 1948, the corporation borrowed from the bank, in addition to the initial $30,000, a total of $245,000 as follows: "April 17, 1948$75,000May 12, 194875,000July 3, 194850,000August 5, 194830,000September 15, 194815,00085 "5. On March 2, 1948, the corporation's board of directors authorized the raising of further capital in the amount of $160,000, for plant construction, through: "(a) Issuance of 4,000 additional shares of common capital stock, to be sold by the corporation at $3.43 per share; and "(b) Issuance of an additional $146,000 principal amount of 4 per cent subordinated promissory notes due April 30, 1953. "In order to carry out this plan, the corporation's charter was amended on March 3, 1948, to increase the authorized capital stock from 55,500 shares to 61,000 shares, of the par value of $1 per share. As regards the promissory notes, the directors recalled the outstanding notes in the principal amount of $180,650; issued, in exchange therefor, new notes of the same principal amount to the prior noteholders; and proceeded to issue additional notes up to the newly increased amount of $350,000. "6. On December 11, 1948, the board of directors authorized the raising of still further capital for plant construction, by increasing the principal amount of its 4 per cent subordinated promissory notes due April 30, 1953, from $350,000 to $675,000. As of the end of the year 1948, $521,974.4186 principal of such promissory notes were outstanding in the hands of 29 stockholders." The plant was completed in about February 1949; and up to that time approximately $1,000,000 over the original estimate had been expended. The plant's production process, as designed by Wayne, differed from the one commonly used throughout the United States in producing sodium phosphates, in that it involved the use of a large kiln to defluorinate the phosphate rock. When attempts were made to put the plant into operation, various difficulties with the equipment were encountered; and the plant failed to produce sodium phosphates of the quality or quantity desired. Principal among these difficulties was that, when a mixture of crushed phosphate rock and phosphoric acid was fed into the long 150-foot kiln, it tended to cake up near the inlet, and to create such weight that the motor burned out and the conveyor was unable to remove the material from the kiln. Other major difficulties were that a submerged burner in one of the reaction tanks cracked; that the resin lining in the reaction tanks failed to provide sufficient insulation from the acid; and that the monel metal filters which had been purchased87 secondhand from the War Assets Administration, developed leaks. Repairs and attempts to remedy the defects were then undertaken. During the year 1949, the following additional financing was done by the corporation: "1. Approximately $115,000 was raised through the issuance of additional 4 per cent subordinated promissory notes, previously authorized. All of these notes were acquired by stockholders. "2. On March 19, 1949, all amounts previously borrowed from the National Bank of Commerce of Houston were consolidated into one note in the principal amount of $275,000, payable in quarterly installments of $14,475 each beginning June 1, 1949, with interest at the rate of 4 per cent per annum payable quarterly. Said note was secured by a deed of trust covering the 19.8-acre plant site and all improvements thereon. The maturity of this note was thereafter successively extended to August 1, 1949, and to September 1, 1949. "3. On May 16, 1949, the corporation's board of directors authorized the raising of further capital for plant construction and operating funds, through issuance of $200,000 principal amount of 4 1/2 per cent preferred second lien promissory notes due April 30, 1953. 88 These notes were secured by a subordinated deed of trust and chattel mortgage. "As of the close of the year 1949, $148,294.68 principal amount of these second lien notes were outstanding in the hands of 8 stockholders who also were holders of the corporation's 4 per cent subordinated promissory notes. Of said amount, the principal petitioners loaned the following amounts on such notes, on the following dates during the year 1949: "George A. ButlerMay 12$10,000.00May 135,000.00June 1740,000.00August 26500.00Sept. 22,000.00Sept. 21,500.00Sept. 161,000.00Sept. 301,700.00Oct. 171,805.71Dec. 20103.30Total$63,609.01"Otto B. Schoenfeld(individually)June 9$1,000.00"John M. Sheesley(individually)May 20$ 810.67Sept. 19500.00Nov. 1400.00Nov. 17200.00Total$1,910.67"Sheesley and SchoenfeldMay 26$ 4,000June 245,000Sept. 19500Nov. 1400Nov. 17200Total$50,100"The balance of said $148,294.68 was loaned by: W. J. Goldston on May 20 and August 5 in the amount of $11,445; George Bruce on June 27 in the amount of $3,935; J. O. Winston on July 5 in the amount of $1,650; 89 W. L. Goldston on July 29 and August 5 in the amount of $11,445; and Clayton Smith between August 26 and December 20 in the amount of $3,200. "4. On about December 5, 1949, Gulf issued 250 additional shares of its common stock to 10 new stockholders." By August 1949, Gulf had not succeeded in solving its major production problems; and the plant had not reached the operative stage. Attempts at full scale operation were then suspended, although the chief chemist and other supervising officials continued to work. At about this same time, consideration was given to either selling the plant in its entirety, or to arranging a consolidation with other chemical manufacturers, or to obtaining financial help from them. Representatives of three such manufacturers visited the plant, but no offers were received. Sometime in August 1949, petitioner Schoenfeld who was then vice-president and acting general manager concluded that, before further attempts were made to put the plant in full scale operation with consequent loss of materials, experimentation should be undertaken with a view to eliminating the difficulties which had been encountered. Accordingly, he built a small kiln which would90 operate with less material, conducted experiments therewith, and made test runs of the plant based on such experiments. In this manner, he found a way to overcome the difficulties which had been encountered with the larger kiln. However, the prosphoric acid produced in such test runs, which was necessary for the production of sodium phosphates, was still not of the desired purity; so Schoenfeld then sought the advice of engineers employed by other operators in the field. Among such engineers was a man named Yates who was in charge of research, development, and production of phosphates, for the Tennessee Valley Authority. In September 1949, a meeting was held which was attended by Wayne, Butler, Schoenfeld, and two other principal investors in Gulf Chemical Company. At this meeting, Schoenfeld's experimental work was discussed, and a decision was made to have Yates come to the plant and assist in the solution of Gulf's problems. Prior to Yates' arrival at the Gulf plant in about October 1949, Schoenfeld concluded that, since considerable money would be required to produce salable sodium phosphates, a search should be made for additional products that could be manufactured at the91 plant, such as calcium phosphates. Yates and Wayne, after examining the plant, agreed that calcium phosphates, as an additional product, could be produced in the plant. Schoenfeld then made a market survey in respect to such chemical; found that there was a great demand for the same; and concluded that Gulf Chemical Company could realize a reasonable profit from the manufacture of calcium phosphates. In about November or December of 1949, Schoenfeld, assisted by chemical and engineering employees of the corporation, built a pilot plant equipped with a 13-foot motor driven gas-fired kiln; and they proceeded to run experiments on the production of calcium phosphates. These experiments continued into the year 1950. Schoenfeld found from such experiments that Gulf's plant had the basic equipment necessary to produce calcium phosphates, if a suitable drying mechanism were added. About $6,000 was expended in connection with such experimental work and the above-mentioned market survey. On December 5, 1949, petitioner George A. Butler resigned as president of Gulf Chemical Company, and petitioner Otto B. Schoenfeld became president of the corporation. As of December 31, 1949, Gulf's92 plant still had not reached the operational or production stage. It was normal, however, for a new chemical plant of such character to have difficulty getting into production, particularly where its process embodied the novel feature of using a large kiln, and where consideration was being given to modifying the plant for manufacture of an additional product. By said date however, a solution to the difficulties encountered with the kiln had been found; and experiments directed toward the manufacture of calcium phosphates, as an additional product, had been begun and were still actively under way. As regards the corporation's financial condition on December 31, 1949, three $14,475 installments which had become due in June, September and December on the note held by the National Bank of Commerce of Houston, were unpaid; and interest on the last two of these installments also was unpaid. The 1948 and 1949 annual interest installments on the 4 per cent subordinated promissory notes held by stockholders, were likewise unpaid. And also, the November 15, 1949, semi-annual interest installment on the 4 1/2 per cent preferred second lien promissory notes held by certain of the stockholders, 93 was unpaid. However, none of the holders of the above-mentioned notes had commenced any proceeding to enforce collection; nor had they taken any step to accelerate payment of principal in accordance with the terms of the notes; nor had they attempted to foreclose on the collateral with which certain of the notes were secured. As of December 31, 1949, there had been no declaration of insolvency of Gulf Chemical Company; no petition in bankruptcy, either voluntary or involuntary, had been filed; and no action had been taken by the corporation's officers, board of directors, or stockholders, toward dissolving the company, placing it in liquidation, dismantling its plant, or discontinuing its business operations. Except for one temporary shutting off of electric power in November, because of an overdue electric bill, no action had been brought by any creditor to collect any debt of the corporation. A summary of the balance sheet of Gulf Chemical Company, as of December 31, 1949, is as follows: ASSETSCurrent AssetsInventories$ 3,800.00Prepaid expenses21,127.80Total current assets$ 24,927.80Fixed AssetsMarchinery and equipment$ 767,518.22Buildings237,939.54Miscellaneous113,246.06Total$1,118,703.82Less: Allowance for depreciation308.19Net depreciable assets$1,118,395.63Land61,706.59Net fixed assets$1,180,102.22Other assets1,721.19Total Assets$1,206,751.21LIABILITIES AND CAPITALCurrent LiabilitiesMortgage note payable to National Bank ofCommerce$275,000.00Insurance premium note payable to Na-tional Bank of Commerce11,209.05Accrued interest on notes48,154.28Vouchers payable40,095.61Bank overdraft14.17Accrued liabilities6,830.74Total current liabilities$ 381,303.85Long-term liabilities4 1/2% preferred second lien notes due 4/30/53$148,294.684% subordinated promissory notes due4/30/53636,932.49Total long-term liabilities785,227.17Total Liabilities$1,166,531.02CapitalCommon stock$ 61,000.00SurplusCapital surplus117,865.01Earned surplus (deficit)(138,644.82)Total capital and surplus40,220.19Total Liabilities and Capital$1,206,751.2194 On March 9, 1950, president Schoenfeld submitted a report to the Gulf Chemical Company to the effect that his pilot plant experiments with respect to the production of calcium phosphates had been successful, and that his above-mentioned survey disclosed a favorable market for such chemical. Thereafter, on April 26, 1950, an informal meeting of the larger stockholders was held to discuss this report; and at this meeting, a decision was made that the manufacture and sale of calicum phosphates, as an additional product, should be undertaken by Gulf Chemical Company, (a) if $100,000 new capital could be raised, and (b) if a satisfactory arrangement could be made with the holders of the corporation's outstanding notes to forebear foreclosure thereon pending an attempt to put the corporation on a better financial basis. On May 9, 1950, which was about 2 weeks after said meeting, a plan for refinancing Gulf Chemical Company was formulated and submitted by the secretary of the company to the security holders. Among the principal proposals embodied in such plan were: That the existing authorized amount of the company's 4 1/2 per cent preferred second lien notes be increased from $200,00095 to $250,000, so that $100,000 additional capital could be raised from such source; that the holders of the outstanding 4 per cent subordinated notes be requested to waive their claims to the accrued and unpaid interest thereon; and that the holders of these notes be requested also to exchange such notes for a new issue of preferred stock to be authorized by the corporation. The purpose of such refinancing plan was, not only to improve the financial condition of Gulf Chemical Company, but also to permit the carrying out of a program for manufacturing calcium phosphates as a permanent part of the company's activities, in addition to its original program for production of sodium phosphates. President Schoenfeld, on June 10, 1950, wrote a letter to the National Bank of Commerce of Houston, in which he said: "The officers and principal security holders of Gulf Chemical Company, while they believe the new manufacturing program [manufacture of calcium phosphates] will be sufficiently profitable to make it a permanent part of the company's activities, have not abandoned their intention of producing sodium phosphates. Rather, the new program is viewed as a vehicle for putting the company96 on a sufficiently sound financial basis that it may then devote further time and funds to utilization of the entire plant for the production of calcium phosphates and sodium phosphates." The principal stockholders and security holders who had adopted such refinancing plan at the informal meeting on April 26, 1950, deposited $100,000 with trustees for the benefit of Gulf Chemical Company, in anticipation that the plan would be approved by the other stockholders and security holders. And thereafter, during the year 1950, the following steps were taken: "1. On May 30, 1950, Gulf's board of directors increased the authorized amount of the corporation's 4 1/2 per cent second lien notes from $200,000 to $250,000. Thereupon, approximately $100,000 of new capital was raised by increasing the outstanding amount of such notes from $148,294.68 to approximately $248,000. Those stockholders and security holders who had previously deposited the $100,000 in trust for the company, converted such deposit into loans on said notes. Between May and December 1950, petitioner Butler thus loaned $43,796.42; W. J. Goldston loaned $43,492; W. L. Goldston loaned $2,500; J. O. Winston loaned $9,800; and97 George Bruce loaned $2,216. Of this new capital, approximately $26,000 was used in adapting Gulf's plant to the production of calcium phosphates. "2. On June 10, 1950, Gulf made an agreement with the National Bank of Commerce of Houston, under which the maturity date of the past due installments of principal on the corporation's $275,000 note was extended to September 1, 1950. At about the same time, all past due interest on the note, in the amount of about $6,000, was paid. "3. On November 6, 1950, Gulf's stockholders at a special meeting, (a) approved the above-mentioned refinancing plan and (b) amended the charter of Gulf Chemical Company, so as to increase the amount of its capital stock to $697,950, represented by: The previously issued 61,000 shares of common stock of the par value of $1 per share; 12,075 shares of class A preferred stock of the par value of $25 per share, to be issued in exchange for 4 per cent subordinated promissory notes surrendered by holders who participated in raising said $100,000 of new capital; and 13,403 shares of class B preferred stock of the par value of $25 per share, to be issued in exchange for 4 per cent subordinated promissory notes surrendered98 by holders who did not participate in raising the new capital. "4. By about the end of the year 1950, all of Gulf's outstanding 4 per cent subordinated promissory notes, except $6,000 principal amount thereof, were surrendered by the holders, in exchange for shares of the newly authorized preferred stock. Petitioners Butler, Sheesley and Schoenfeld were among those who participated in such exchange." During the first part of the year 1950, president Schonefeld learned that the process for making calcium phosphates, which he had developed in his pilot plant experiments, had recently been patented by International Mineral & Chemical Corporation. That firm, however, offered to license Gulf Chemical Company to use the process at a nominal royalty, and also to furnish technical supervision in putting Gulf's plant in operation. This offer was accepted; and thereupon, sometime in May or early June, a test run of the plant in the manner contemplated under the new manufacturing program, actually was made under the supervision and observation of a vice-president of International Mineral & Chemical Corporation. Thereafter, president Schoenfeld in his above-mentioned letter to the Houston99 bank, dated June 10, 1950, expressed the belief that Gulf could have its new program in operation by August 1; that it could produce from 10,000 to 12,000 tons of calcium phosphates per year; and that on such tonnage, Gulf could make an estimated annual profit of $150,000. Gulf's plant went into production during the latter part of the year 1950, and continued during the years 1951, 1952, and 1953. Almost from the start, however, it faced not only continued difficulties with its equipment, but also new and unanticipated difficulties arising from market and economic conditions. Following the outbreak of the Korean War in June 1950, the selling price of its calcium phosphates was frozen at $65.50 per ton; while, at about the same time, its operating costs went up, due to increases in the prices of its raw materials, increases in freight rates, and increases in its payroll following the unionization of its employees. Also, Gulf was limited as to the purchase of one of its essential raw materials, with the result that its plant was able to operate at only 60 per cent of capacity, notwithstanding that the demand for its product was far greater than it could supply. The results of Gulf's100 operations during the years 1950, 1951, and 1952 (exclusive of minor miscellaneous income, and exclusive also of a loss in 1951 from the sale of certain capital assets) were as follows: Profit (orLoss AfterLoss) BeforeDepre-YearSalesDepreciationciation1950$ 49,402.25($69,000.59)($171,840.11)1951591,175.7657,361.47(44,433.48)1952932,950.5085,451.96(21,961.42)During said years, the principal amount of Gulf's note with the National Bank of Commerce was reduced, by periodic payments, from $275,000 to $160,000. As of April 30, 1953, Gulf's 4-1/2 per cent preferred second lien notes, in the principal amount of approximately $248,000, matured; and the corporation was unable to meet this obligation. Thereupon, the holders of these notes foreclosed; and, at the foreclosure sale held on December 1, 1953, petitioner Butler, acting on behalf of the noteholders, purchased all of the assets of the Gulf Chemical Company, and conveyed the same to a new Texas corporation organized for the purpose, known as Gulf Chemical Corporation, Inc. This purchase and conveyance was made subject to the rights of the National Bank of Commerce101 of Houston. In 1955, the right of Gulf Chemical Company to do business in Texas was forfeited for nonpayment of franchise taxes. And in 1956, this company was notified by the Attorney General of Texas that an action was being commenced for forfeiture of its charter. Neither the shares of common capital stock of Gulf Chemical Company, nor the 4 per cent subordinated notes of said company, became worthless during and within the year 1949. Opinion The questions for decision, as before stated, are whether (a) the common stock of Gulf Chemical Company, a Texas corporation, and (b) that corporation's 4 per cent subordinated promissory notes due April 30, 1953, both became wholly worthless during and within the year 1949. The petitioners have contended that these questions should be answered in the affirmative; and accordingly they have claimed the benefit, not only of capital loss deductions for the year 1949 under sections 23(g)(2) and 23(k)(4) of the 1939 Code, 1 but also of capital loss carryover deductions for subsequent years. The respondent, on the other hand, has determined that said securities did not become worthless in the year 1949; and he has refused to allow the above-mentioned102 deductions. The burden is, of course, upon the petitioners to establish the worthlessness. In the case of stock and of non-business debts, like those here involved, such worthlessness must be total worthlessness - and neither partial worthlessness nor mere shrinkage in value is sufficient. Whether stock or other securities of a corporation have become worthless in any particular taxable period is a question of fact, to be determined from a practical103 consideration of all the evidence. ; see also, . Moreover, where the stock of a going corporation is claimed to be worthless, it must be established not only that the stock has no current liquidating value, but also that it has no potential value. In , affirmed (C.A. 7) , we said (at page 1278): "The ultimate value of stock, and conversely its worthlessness, will 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 be104 established ordinarily with satisfaction only by some 'identifiable event' in the corporation's life which puts an end to such hope and expectation." To the same effect, see , and authorities cited therein. In the instant case, we are convinced that the common stock of Gulf Chemical Company continued to have potential value throughout the year 1949; and also that, during said year, no identifiable event occurred to wipe out such potential value. In such situation we deem it unnecessary to consider such matters as liquidating value, and petitioners' contention that the corporation's balance sheet as of December 31, 1949, did not reflect its true financial condition. Gulf's plant had not been completed until about February 1949, after some 2 years of work thereon. Approximately $1,250,000 had been invested in the plant; and, at the end of the year involved, only $308.19 of depreciation had been taken. It is true that the plant did not function satisfactorily when the first attempt was made to put it into operation; but, as shown by the testimony, such difficulty is not unusual in getting a new chemical plant into operation, particularly where105 the production process involves a novel feature, such as was the use of the large kiln in Gulf's plant. The important facts are that, as shown by our Findings of Fact, Gulf's management did not consider the difficulties to be insurmountable, and took no steps to discontinue the business or to liquidate the corporation. Rather, they proceeded to rectify the mechanical and technical difficulties which had been encountered; arranged for an engineer, who was employed by the Tennessee Valley Authority, to come to the plant annd assist in the solution of Gulf's problems; erected a pilot plant with which to make experiments on the manufacture of a new product; and also made a survey as to the marketability of such product. This activity was in progress at the end of the year 1949; and the experiments then being made continued into the early months of 1950. Also, the record is devoid of any evidence of any identifiable event in 1949 which would serve to wipe out the potential value of the stock. There was no petition in bankruptcy; no cancellation of the charter; no fire or other disaster; and apparently no pressure from any important creditor. The parties have stipulated that the stock106 did have value as of January 1, 1949; and the above-mentioned facts negative any conclusion that such value may have been wholly eliminated during the course of said year. What we have said above with respect to the common stock of Gulf Chemical Company, applies also to the 4 per cent subordinated notes of that corporation. These notes were all held by the stockholders, and they represented merely another method of providing Gulf with the capital which was needed for the erection and operation of its plant. The value of the notes depended, from the time of their original issuance, not only upon the assets of the corporation, but also upon the potentiality of the corporation to earn profits in the future. As we have heretofore pointed out, no identifiable event occurred in the year 1949 which wiped out the potentiality for such profits. Finally, it should be observed that, although our foregoing conclusions have been based on evidence respecting events which occurred prior to the end of the year 1949, the soundness of such conclusions is supported by the events of subsequent years. As shown in our Findings of Fact, petitioner Schoenfeld reported to the corporation in March 1950107 that the experiments which he had begun in November or December 1949, on the production of a new product, had been successful; and he further reported that his market survey revealed that there was a demand for such product. Thereupon in April 1950, the larger stockholders and security holders of the corporation decided to go forward with the manufacture of such new product; new financing was arranged; 2 the maturity dates for installment payments on the bank loan were extended; arrangements were made with International Mineral & Chemical Corporation to use one of its patented processes; and full scale operation of the plant actually commenced in 1950, and continued until sometime in 1953. The demand for the corporation's product far exceeded its capacity to produce such product, with the amount of raw materials available to it under the existing governmental restrictions. 108 On the basis of all the evidence, we have heretofore found as a fact and we here hold, that neither the common stock of Gulf Chemical Company nor the 4 per cent subordinated notes of that company became worthless during and within the year 1949. Accordingly, we approve the action of respondent in denying to the petitioners the claimed deductions here involved. Decisions will be entered for the respondent. Footnotes1. SEC. 23. DEDUCTIONS FROM GROSS INCOME. * * (g) Capital Losses. - * (2) Securities Becoming Worthless. - If any securities * * become worthless during the taxable year and are capital assets, the loss resulting therefrom shall, for the purposes of this chapter, be considered as a loss from the sale or exchange, on the last day of such taxable year, of capital assets. * * (k) Bad Debts. - * *(4) Non-Business Debts. - In the case of a taxpayer, other than a corporation, if a non-business debt becomes worthless within the taxable year, the loss resulting therefrom shall be considered a loss from the sale or exchange, during the taxable year, of a capital asset held for not more than 6 months.↩2. In connection with the refinancing plan adopted and put into effect in 1950, the corporation's 4 per cent subordinated notes (which are the same promissory notes which petitioners here contend became worthless in 1949) were exchanged by the holders (including petitioners) for newly issued shares of preferred stock of the corporation.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623627/	EDYTHE L. R. DYER, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, RespondentDyer v. CommissionerDocket No. 29998-88United States Tax CourtT.C. Memo 1990-51; 1990 Tax Ct. Memo LEXIS 49; 58 T.C.M. (CCH) 1321; T.C.M. (RIA) 90051; January 30, 1990Calvin E. True, for the petitioner. Robert M. Finkel and Gerald J. O'Toole, for the respondent. FAYMEMORANDUM FINDINGS OF FACT AND OPINION FAY, Judge: Respondent determined deficiencies in petitioner's 1983 and 1984 Federal income tax in the amount of $ 29,298 and $ 42,525, respectively. This case was submitted fully stipulated pursuant to Rule 122. 1 The stipulation of facts, its supplement and exhibits attached thereto are incorporated by reference. The only issue 2 before50 us is whether petitioner is entitled to deductions in 1983 and 1984 3 for a charitable contribution of certain property to the Town of Hampden, Maine. FINDINGS OF FACT Petitioner, Edythe L. R. Dyer, was a resident of Hulls Cove, Maine, when the petition in this case was filed. Petitioner owned 30 acres of land in Hampden, Maine (the "Town"). Prior to 1983, petitioner constructed a house on the land intending to use it as her home. In February 1983, having never lived in the house, petitioner decided to donate the house and two and one-half acres of surrounding land (collectively "the Property") to the Town for use as a library. Petitioner communicated her desire in a letter from51 her son, John B. Dyer, to the Town Manager of Hampden. On March 8, 1983, petitioner and the Town entered into a lease agreement and a separate option agreement. Under the terms of the lease, the Town was to pay annual rent of $ 10,000 to petitioner. Pursuant to a prior separate understanding, petitioner promised to make charitable contributions of at least $ 10,000 per year in support of the library. The lease was to run for one year and thereafter from year to year subject to the right of either party to cancel the lease. Petitioner reserved the right to inspect the Property and to make such repairs or improvements petitioner deemed necessary. No alterations or additions could be made to the Property without prior consultation with petitioner. Any alterations or additions made by the Town were to become the Property of petitioner upon termination of the lease. The Town could not assign, sublease, or otherwise encumber the Property. The Town, pursuant to the terms of the lease, paid all real estate taxes and municipal assessments. The Town also maintained, at its own expense, the interior and exterior of the Property. With petitioner's permission, the Town incurred some52 expense to renovate the Property so it was suitable to house a library. The Town was maintaining insurance on the Property in petitioner's name with a carrier suitable to petitioner. Despite the lease's terms, the Town never paid any rent on the Property. Further, petitioner never made any payments for support of the library pursuant to the promise discussed above. The Town was given an option to purchase the Property at any time during the running of the lease for one dollar. The option could be terminated by petitioner at any time. The option further provided "subsequent to any exercise of said option by the [Town] th[e] Optionor [petitioner] may, at Optionor's sole election, defer the closing and the delivery of a deed for a period of time not to exceed three (3) years." During the deferral period the lease was to remain in "full force [a]nd effect." While leasing the Property, the Town began transforming the Property into a library. The Town moved its library from the local high school to the Property. A librarian was hired on a full-time basis, the Town Council passed an ordinance establishing the library as an official Department of the Town, and the Town amended53 its insurance policy to include the Property. 4On October 18, 1983, the Town Manager informed petitioner that the Town would exercise its option. The deed transferring the Property to the Town pursuant to the terms of the option was not recorded until January 30, 1987. The deed was delivered on December 31, 1986, but was dated December 31, 1985. Between the exercise of the option and the date of the deed, petitioner and the Town conducted their relationship as they had before the exercise of the option, i.e., approval of petitioner was sought by the Board of Trustees before any action was taken to change the character of the Property. OPINION Pursuant to section 170(a) there is allowed as a deduction any charitable contribution, payment of which is made within the taxable year. A contribution is made at the time delivery is effected. Sec. 1.170A-1(b), Income Tax Regs.In determining the54 existence and timing of a charitable contribution, the analysis applied is the same as the analysis applied in determining the existence and timing of a gift. DeJong v. Commissioner, 36 T.C. 896">36 T.C. 896 (1961), affd. 309 F.2d 373">309 F.2d 373 (9th Cir. 1962). This Court has consistently held the six essential elements of a bona fide inter vivos gift are: 1) a donor competent to make a gift; 2) a donee capable of accepting a gift; 3) a clear and unmistakable intention on the part of the donor to absolutely and irrevocably divest himself of title, domain, and control of the subject matter, in praesenti; 4) the irrevocable transfer of present legal title and dominion and control of the entire gift to the donee, so that the donor can exercise no further act of dominion or control over it; 5) delivery by the donor to the donee of the gift or of the most effectual means of commanding the dominion of it; and 6) acceptance of the gift by the donee. Weil v. Commissioner, 31 B.T.A. 899">31 B.T.A. 899, 906 (1934), affd. 82 F.2d 561">82 F.2d 561 (5th Cir. 1936), cert. denied 299 U.S. 512">299 U.S. 512 (1936); Guest v. Commissioner, 77 T.C. 9">77 T.C. 9, 16 (1981). 55 The parties agree to the applicability of the test set forth in Weil supra. They also agree the first two elements were satisfied. Respondent maintains the four remaining elements were not satisfied by petitioner in 1983 or 1984; therefore, there can be no deduction for those years. Petitioner maintains all six elements of the Weil test have been met. Petitioner bears the burden of proof. Rule 142. We agree with respondent. Our holding rests upon petitioner's failure, in the taxable years in question, to irrevocably transfer present legal title and dominion and control of the entire gift to the Town so that petitioner could not exercise any further act of dominion or control over it. All six of the above-referenced elements must be satisfied. Weil supra. Because we find the third element cited above was not satisfied, it is unnecessary to consider the remaining three elements. A contribution or gift is deemed to be made when delivered. Sec. 1.170A-1(b), Income Tax Regs.56 The regulations, however, fail to guide us as to when delivery is considered complete for income tax purposes. Therefore, we must look to state law. Brotzler v. Commissioner, T.C. Memo. 1982-615. See Greer v. Commissioner, 70 T.C. 294 (1978), affd. on another issue 634 F.2d 1044">634 F.2d 1044 (6th Cir. 1980); Alioto v. Commissioner, T.C. Memo 1980-360">T.C. Memo. 1980-360. Under the law of Maine, it is clear "a deed must be delivered in order for a conveyance of title to occur." Paine v. Paine, 458 A.2d 420">458 A.2d 420 (Me. 1983); Hood v. Hood, 384 A.2d 706">384 A.2d 706, 707 (Me. 1978). In Paine v. Paine, supra, the Court defined delivery as "that point in time at which the parties manifest their intention to make the instrument an operative and effective integration of their agreement." Paine v. Paine, supra at 421. In this case, it is clear petitioner did not intend the deed to be operative in 1983 or 1984. The terms of the option specifically provided the transfer of the deed could be deferred57 by petitioner for as many as three years after the option was exercised, and during the interim period the lease would remain operative. While Maine law will allow the parties to introduce "extrinsic evidence that they did not intend the writing to be a complete integration of their understanding," ( Paine v. Paine, supra at 421) extrinsic evidence will be of no help to petitioner in this case. During the period between exercise of the option and physical delivery of the deed, both the Town and petitioner continued their relationship in accordance with the lease. The Town continued to seek permission from petitioner before making any changes or improvements to the Property; petitioner objected to certain changes and exercised her dominion and control by seeing that the changes were not made; petitioner was still named as an insured on the Property; and the Town Council recognized the Town did not yet hold legal title to the Property. The Town's actions are inconsistent with ownership of the Property but consistent with the terms of the lease. Such actions indicate petitioner's continued ownership and dominion and control over the Property throughout 198358 and 1984. Petitioner cites a litany of cases, maintaining Maine as well as many other jurisdictions recognize the validity of the doctrine of parol gift as a means of gifting realty. Thompson v. Dart, 746 S.W. 2d 821, 825 (Tex. Ct. App. 1988); Tozier v. Tozier, 437 A.2d 645">437 A.2d 645, 648-49 (Me. 1981); French v. French, 125 Ariz. 12">125 Ariz. 12, 606 P.2d 830">606 P.2d 830 (Ariz. Ct. App. 1980), Locke v. Pyle, 349 So. 2d 813">349 So. 2d 813 (Fla. Dist. Ct. App. 1977). These cases are easily distinguishable from the instant case. In the instant case there is no parol or oral promise. The agreement between the Town and petitioner was reduced to writing (the lease agreement and the option agreement) which very clearly delineates the rights and obligation of each party. Both parties complied with the written agreement. We acknowledge altruistic behavior such as petitioner's makes a very compelling case for ignoring the plain language of the law and finding for petitioner. However, we are bound by the words of the statute. "In the field of statute law the judge must59 be obedient to the will of [Congress] as expressed in its enactments. In this field [Congress] makes, and un-makes, the law: the judge's duty is to interpret and to apply the law, not to change it to meet the judge's idea of what justice requires." Duport Steels Ltd. v. Sirs [1980], I.C.R. 161, 189. We find petitioner did not deliver the property in 1983 or 1984 5 and hold for respondent. To reflect the foregoing, Decision will be entered for the respondent. Footnotes1. All Rule references are to the Tax Court Rules of Practice and Procedure. All section references are to the Internal Revenue Code, as amended and in effect for the years in issue. ↩2. The issue concerning the value of the property purportedly donated was severed by Order of the Court dated March 23, 1989. ↩3. Petitioner asserts the contribution of the property occurred in 1983. Taxable year 1984 is involved pursuant to the carryover of excess contributions rules in section 170(d)↩.4. The policy named petitioner as an "additional named insured."↩5. We make no finding whether petitioner is entitled to a deduction for a charitable contribution in 1985 or 1986 because these years are not before us.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623628/	E. S. Iley, Petitioner, et al., 1 v. Commissioner of Internal Revenue, RespondentIley v. CommissionerDocket No. 287271United States Tax Court19 T.C. 631; 1952 U.S. Tax Ct. LEXIS 5; December 31, 1952, Promulgated 5 Decisions will be entered under Rule 50. 1. Held, respondent's determination that deficiencies in the petitioners' income tax were due to fraud with intent to evade tax not sustained where the evidence shows only ignorance and negligence on the part of the taxpayers.2. Held, the respondent's determination that the method of reporting income by a partnership should be changed from the cash to the accrual basis is proper where the method of accounting employed by the partnership does not clearly reflect income.3. Held, in the instant situation inclusion in income of the partnership's opening accounts receivable in the year of change from the cash to the accrual basis is proper. Ben F. Foster, Esq., for the petitioners.D. Louis Bergeron, Esq., and M. C. Maxwell, Esq., for the respondent. Van Fossan, 6 Judge. VAN FOSSAN 632 The respondent determined deficiencies and penalties against the petitioners. The petitioners paid portions of the deficiencies and allege overpayments of income taxes. By amendments to his answers the respondent determined additional deficiencies and penalties. The deficiencies and penalties are as follows:OriginalPetitionerDocketYearNo.Deficiency50% penaltyE. S. Iley287271944$ 1,141.52$ 570.7619454,073.732,036.86E. S. Iley and Cecil Iley2872819425,619.062,809.5319433,460.401,730.2019464,318.702,159.35T. W. Iley, Sr2872919425,903.982,951.9919444,476.062,238.03194512,996.786,498.39T. W. Iley, Sr. and Regina Iley28730194312,278.126,139.0619466,319.493,159.74B. W. Iley2873119422,063.951,031.9719441,443.51721.7519456,022.783,011.39B. W. Iley and Inez Iley2873219435,098.902,549.4519463,907.531,953.76G. R. Iley2873319441,218.45609.2219454,609.652,304.82G. R. Iley and Orline Iley2873419425,418.572,709.2819433,126.341,563.1719464,129.792,064.897 AdditionalPetitionerDeficiency50% penaltyE. S. Iley$ 196.66$ 98.33E. S. Iley and Cecil Iley254.07127.04703.07351.59T. W. Iley, Sr266.62133.31T. W. Iley, Sr. and Regina Iley2,100.571,050.29B. W. Iley87.0443.52220.47110.24B. W. Iley and Inez Iley808.18404.09G. R. Iley196.6698.33G. R. Iley and Orline Iley250.28125.14670.45335.23The issues in these proceedings are (1) whether any part of the deficiencies were due to fraud with intent to evade tax, and (2) whether the respondent erred in changing the method of reporting income of the partnership owned by the taxpayers from the cash to the accrual basis and including accounts receivable in income in the year of change.FINDINGS OF FACT.Petitioner T. W. Iley, Sr., and his sons, B. W. Iley, G. R. Iley, and E. S. Iley, also petitioners, were partners in the firm of T. W. Iley & Sons, engaged in the poultry business in Gonzales, Texas, during the taxable years. The firm bought and sold chickens and other poultry. The petitioners also raised chickens for sale and dealt in chicken feed and supplies. The returns of partnership income were filed with the collector8 of internal revenue for the first collection 633 district of Texas. T. W. Iley, Jr., entered the partnership in 1946. Prior to 1937, when the poultry business was initiated, T. W. Iley, Sr., was a farmer. After the business was organized, petitioners G. R. Iley, E. S. Iley and B. W. Iley each owned a 20 per cent interest in the partnership. T. W. Iley, Sr., owned a 40 per cent interest in the firm which was reduced to 20 per cent when T. W. Iley, Jr., became a partner in 1946 and received a 20 per cent interest. The operations of the partnership were carried on by the partners who devoted all their time to carrying on the various functions of the business.The petitioners had not received business educations nor were they trained in bookkeeping or accounting. The books of the firm were originally kept by B. W. Iley and consisted of simple records of purchases. About 1940, G. R. Iley began keeping the firm's books, and in 1941 he sought outside advice. He consulted J. R. Collins, who instituted a set of books and records for the firm and instructed G. R. Iley, to some extent, in bookkeeping methods. The bookkeeping system set up consisted of a cash journal, an accounts9 receivable ledger and auxiliary records, such as bank statements and sales and purchase invoices. Collins had previously been engaged in bookkeeping work and had performed public accounting services. He was not a certified public accountant but was a registered accountant under the laws of Texas.The partnership returns and individual returns of the partners for the years in question, with the exception of 1945, were prepared by Collins chiefly from data compiled by G. R. Iley. The returns for 1945 were made out by G. R. Iley. Collins did not audit the books of the firm nor did he verify the data he employed in making out the income tax returns.In 1947 a revenue agent examined the records of the partnership and its members for the years 1942, 1943, and 1944. He stated that the firm's records were incomplete and that an adequate bookkeeping system should be installed. An effort was made by G. R. Iley to install a more complete set of books and records to meet Government requirements. At a later date another revenue agent examined the records and, as a result, deficiencies and fraud penalties were determined against the petitioners for the years 1942 through 1946. The revenue10 agent's determination of partnership income was made by means of the net worth method. The petitioners engaged the services of a firm of certified public accountants to audit the books and records of the firm. The independent audit, employing the specific adjustments method of determining partnership income, arrived at substantially the same amount determined by the revenue agent, with a difference of but $ 353.65.The partnership books were kept on the cash basis. Inventories 634 were employed in the determination of cost of goods sold. Its returns were filed on the cash basis. Accounts receivable were not included in the determination of total sales for the taxable years in question. The respondent determined that the partnership income should be reported on the accrual basis, and in determining the gross income for 1942, included accounts receivable on hand January 1, 1942, in the amount of $ 33,231.83. A total of $ 137,801.78 in accounts receivable would be includible in gross income during the years in question if the accrual method of reporting is used.The partnership reported total income of $ 140,715.76 during the five years from 1942 to 1946. As a result of11 the recomputations of partnership income carried out by respondent and petitioners, total income for the years involved was arrived at and the difference of $ 353.65 of unreported income between the two computations is agreed to by the petitioners. An amount of $ 67,900.98 in farm and joint venture income was not reported.The partnership also raised poultry in conjunction with other persons. The firm provided chicks, feed, and medicine to the person raising the poultry. After the chickens were raised and marketed, the operator and the firm shared equally in the profits. The firm recorded such transactions by charging accounts receivable and crediting sales with feed and chickens sold. When the chickens were raised and marketed, accounts receivable were credited and purchases charged, leaving a credit balance in accounts receivable, half of which was paid to the operator who raised the chickens. The other half remained as a credit balance in accounts receivable instead of being reflected as a profit.The partnership owned farms of its own and the method of accounting was similar. The profits derived from the operations were reflected only as a credit balance in accounts receivable12 without regard to the fact that the firm had an interest in these operations. The general books of the firm did not show the net profits from these operations and income was consequently understated.Over the 5-year period other errors were made in keeping partnership records. Errors in determining the total accounts receivable were made in the amount of $ 14,917.47 in favor of the Government. Excess depreciation was taken by the firm in the amount of $ 4,842.59. Errors in recording disbursements, including duplications, totaled $ 19,693.49. Misclassification of entries in the records resulted in $ 18,000 in unreported income. Deposits to the firm's bank account were made from time to time from cash on hand. Due to the failure to write sales invoices and misplacement of sales tickets and invoices, resulting in incomplete sales records, an overdraft in cash on hand of $ 127,585.92 was reflected in the books. This net of unrecorded cash sales was not reported as income.635 The partnership, until 1946, maintained only one bank account which was with the Gonzales State Bank. Late in 1946 an account was opened with the First National Bank of George West, Texas.The books13 and records of the partnership did not clearly reflect its income. The petitioners were not guilty of fraud with intent to evade tax.OPINION.The first issue involves the question of fraud. Fraud is never to be presumed. It must be proved by clear and convincing evidence. Moreover, the burden of proving fraud rests on the Government. Addressing ourselves to the facts established, we find abysmal ignorance on the part of the party charged with keeping petitioners' accounts; the business had grown from small beginnings to large proportions, but the capacity of the member of the firm keeping the books did not grow in proportion. He was a farm boy, with a high school education, who had neither training nor experience in keeping proper books. There is ample proof of inaccuracies in the books, most of them to the benefit of petitioners, some, however, of benefit to the Government. Although the bookkeeping was inadequate by any standard, there is no evidence of intentional concealment or deliberate misrepresentation. The errors were patent to any one versed in accountancy. The petitioners were guilty of poor judgment in not having the books audited but poor judgment and ignorance14 are not tantamount to fraud. There is lacking one essential element, the very heart of the fraud issue, namely, the intent to defraud the Government by calculated tax evasion.Although intent is a state of mind, it is nonetheless a fact to be proven by the evidence. It must appear as a positive factor. In determining the presence or absence of fraud the trier of the facts must consider the native equipment and the training and experience of the party charged. The whole record is to be searched for evidence of the intent to defraud. In this case, we have studied the record with the extra care such a case deserves; we have noted the demeanor of the witnesses on the stand; we have tested petitioners' conduct by approved standards of ascertainment and have come to the conclusion that petitioners were not motivated by an intent to defraud. Our finding of fact to record this conclusion is dispositive of this issue. Respondent has not proved by clear and convincing evidence that petitioners were guilty of fraud.The second issue to be determined is the correctness of the respondent's determination that the accrual rather than the cash basis method of reporting should be used in the15 taxable years in issue. The partnership returned its income and kept its books and records on the cash receipts and disbursements basis. The firm's books and records reflected inventories which were employed to determine gross income. 636 The applicable section of the Internal Revenue Code 2 provides that if the method of accounting employed by the taxpayer does not clearly reflect the income, the computation shall be made in accordance with such a method as in the respondent's opinion clearly reflects income. Where the purchase and sale of merchandise is an income-producing factor, the accrual method is required to reflect the income of the business. Z. W. Koby, 14 T.C. 1103">14 T. C. 1103; Regulations 111, sec. 29.22 (c)-1, 29.41-2.16 The partnership bought and sold poultry and also dealt in chicken feed and supplies. It is evident that the purchase and sale of this merchandise was an income-producing factor and that inventories were required properly to reflect income. It is similarly evident that the cash basis method employed did not clearly reflect the partnership's income. The petitioners' objection that the amount of inventories carried at any one time was small in comparison with total sales, does not preclude the proper exercise of the respondent's discretion. Petitioners have not proven respondent's determination to be erroneous. On this issue respondent is sustained.The third and last issue presented is whether the respondent correctly included $ 33,231.83 in partnership income for the year 1942. That amount constituted the balance of the firm's accounts receivable as of January 1, 1942. The partnership kept its books and records on the cash basis. Accounts receivable and inventories were reflected on its books and inventories were employed in the determination of gross profit. Accounts receivable were not included in sales. This method of accounting did not clearly reflect income for a business17 in which the purchase and sale of merchandise was an income-producing factor. In such a situation, under the principles set forth in Estate of Samuel Mnookin, 12 T.C. 744">12 T. C. 744, affd. 184 F. 2d 89; and Robert G. Frame, 16 T. C. 600, affd. 195 F.2d 166">195 F. 2d 166, the respondent may properly include in gross income the accounts receivable as of January 1, 1942. To accomplish accuracy and consistency, the partnership's method of keeping books and records, as well as its method of reporting its income, must undergo a change to the accrual basis. Inasmuch as the method of accounting employed in the partnership's books did not properly reflect income, the respondent is held to have correctly included the opening inventory of 1942 in the partnership's income for that year. Z. W. Koby, supra;C. L. Carver, 171">10 T. C. 171, affd. 173 F.2d 29">173 F. 2d 29.Decisions will be entered under Rule 50. Footnotes1. Proceedings of the following petitioners are consolidated herewith: E. S. Iley and Cecil Iley, Docket No. 28728; T. W. Iley, Sr., Docket No. 28729; T. W. Iley, Sr., and Regina Iley, Husband and Wife, Docket No. 28730; B. W. Iley, Docket No. 28731; B. W. Iley and Inez Iley, Docket No. 28732; G. R. Iley, Docket No. 28733; and G. R. Iley and Orline Iley, Docket No. 28734.↩1. Proceedings of the following petitioners are consolidated herewith: E. S. Iley and Cecil Iley, Docket No. 28728; T. W. Iley, Sr., Docket No. 28729; T. W. Iley, Sr., and Regina Iley, Husband and Wife, Docket No. 28730; B. W. Iley, Docket No. 28731; B. W. Iley and Inez Iley, Docket No. 28732; G. R. Iley, Docket No. 28733; and G. R. Iley and Orline Iley, Docket No. 28734.↩2. SEC. 41. GENERAL RULE.The net income shall be computed upon the basis of the taxpayer's annual accounting period (fiscal year or calendar year, as the case may be) in accordance with the method of accounting regularly employed in keeping the books of such taxpayer; but if no such method of accounting has been so employed, or if the method employed does not clearly reflect the income, the computation shall be made in accordance with such method as in the opinion of the Commissioner does clearly reflect the income. * * *↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623630/	RICHARD J. MADDEN AND PAMELA A. MADDEN, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, RespondentMadden v. CommissionerDocket Nos. 19679-85; 5790-86.United States Tax CourtT.C. Memo 1989-162; 1989 Tax Ct. Memo LEXIS 162; 57 T.C.M. (CCH) 84; T.C.M. (RIA) 89162; April 13, 1989David A. Schmudde and Martin M. Shenkman,165 for the petitioners. Frank Agostino, C. Ellen Pilsecker, Matthew Magnone and Patrick E. Whelan, for the respondent. CLAPPMEMORANDUM FINDINGS OF FACT AND OPINION CLAPP, Judge: Respondent determined deficiencies in petitioners' Federal income taxes for 1980 and 1981 in the amounts of $ 30,126 and $ 55,339, respectively. The issues for decision are: (1) whether the partnership purchased the motion picture "Flash Gordon"; (2) whether the partnership can include the nonrecourse purchase note in basis; (3) whether petitioners' investment is subject to the limitations of section 465; 1 (4) whether the partnership is entitled to use the double declining balance method of depreciation; (5) whether the partnership is entitled to miscellaneous deductions claimed on its 1980 and 1981 returns for expenses relating to advertising; and (6) whether petitioners are liable for additional interest under section 6621(c). FINDINGS OF FACT Some of the facts have been stipulated166 and are so found. The stipulation of facts and exhibits attached thereto are incorporated herein by this reference. Petitioners, Richard J. and Pamela A. Madden, were residents of Upper Saddle River, New Jersey at the time they filed their petition. Petitioners filed their Federal income tax returns for the taxable years 1980 and 1981 with the Brookhaven Service Center. All references to petitioner will be to Richard Madden. Petitioner became a limited partner in Flash Associates, a New York limited partnership, by subscribing for a one-half unit of a limited partnership interest in December 1980. Flash Associates was formed as of May , 1980, and the general partners of Flash Associates were Ira N. Smith and Stephen R. Greenwald, each of whom were attorneys with limited experience in the motion picture industry at the time of the offering. The partnership units were offered through Plaza Securities, Inc., an entity fully owned by Stephen Greenwald. Plaza Securities, Inc. was to receive a due diligence fee of $ 20,000 plus 10 percent of the offering price of units actually placed by such brokerage dealer. The private placement memorandum (placement memorandum) dated June 4, 1980, stated167 that the limited partners would be investing an aggregate of $ 5,850,000 in the partnership, the amount of which would be divided into 39 units offered at $ 150,000 per unit, and in exchange the partnership would receive a 99-percent interest in the movie subject to the continuing management fees payable to the general partners. Up to 35 one-half units might be accepted at the discretion of the general partners. Flash Associates was formed "to acquire, own and exploit world-wide rights in a feature-length theatrical motion picture" entitled "Flash Gordon" from its producer, Famous Films Productions, N.V. "Flash Gordon" is an English language feature-length science fiction adventure story involving the adventures of Flash Gordon, a fictional space explorer. The cast includes Sam J. Jones, Melody Anderson, Ornella Muti, Max Von Sydow, and Topol. The picture was directed by Mike Hodges, produced by Dino De Laurentiis and based upon a script by Lorenzo Semple, Jr. The producer is a Curacao, Netherlands Antilles corporation, Famous Films Productions N.V. (Famous Films N.V.), which had advised the partnership that it was the owner of 100 percent of the capital stock of the distributor,168 Famous Films B.V., a Netherlands corporation. By agreement dated September 9, 1977, Famous Films, N.V. sold all of its rights in and to "Flash Gordon" to Famous Films B.V., and Famous Films B.V. agreed to pay Famous Films N.V. 91 percent of the monies collected from the exploitation of the movie. The capital contributions of the limited partners were indicated as follows: Per UnitFor 39 UnitsOn the date of executing$ 2,000$ 78,000their subscriptions (togetherwith promissory notes evidencingthe subsequent annual installments)On September 15, 198026,2051,021,995On March 15, 198151,9202,024,880On January 15, 198250,0001,950,000On January 15, 198319,875775,125$ 150,000$ 5,850,000The proceeds from the sales of the partnership units were to be utilized as follows: Percent of GrossProceeds fromAmountSale of UnitsGROSS PROCEEDS FROM SALEOF UNITS2 $ 5,855,000 100.000%Less: Offering Expenses,including sellingcommissions, legalfees and disburse-ments660,000 11.272%NET PROCEEDS FROM SALEOF UNITS5,195,000 88.728%Use of Net ProceedsGeneral Partners' Fee (1)$ 615,000 10.504%Net Interest Expense onAdditional Financing (2)160,000 2.733%Cash Payment for Picture1,800,000 30.743%Marketing Costs2,200,000 37.575%Marketing ConsultantFee (3)400,000 6.832%Working Capital20,000 .341%169 (1) Payable only out of the January 15, 1983 capital contribution of the limited, partners or when such contribution is prepaid out of Gross Receipts. (2) To the extent all or a portion of this amount is not utilized for interest costs, it will be retained as additional working capital. (3) Payable to R. A. Inbows, Ltd., an affiliate of Ira N. Smith, one of the General Partners, in consideration for consultant services to be rendered to the Partnership in connection with the release, distribution and marketing of the Picture, particularly in the exercise of the Partnership's rights of consultation under the Distribution Agreement. The following sets forth the compensation to be paid to the general partners and their affiliates in a more specific manner: Entity ReceivingEstimatedCompensationType of CompensationAmountOperating StageGeneral PartnersManagement Fees$ 615,000Present and continuing 1%Uncertaininterest profits and lossesManagement Fee equal to 5%Uncertainof Cash FlowLiquidation StageGeneral PartnersReturn of Capital Contri-5,000bution after Limited Partnersreceive their aggregate CapitalContributions1% interest in balance ofUncertainproceeds after LimitedPartners receive their aggregateCapital ContributionsCompensation to OthersR. A. Inbows, Ltd.Consultant Fee400,000an affiliate ofIra N. Smith, aGeneral PartnerSmithstone FilmFee from Producer for1% of U.SProductions, Inc.arranging sale to theand Canadianan affiliate of thePartnershipTheatricalGeneral PartnersGross Receiptsbetween$ 25,000,000and$ 85,000,000and .5% ofsuch GrossReceiptsthereafter170 The placement memorandum indicated that an investment in the partnership might not be suitable for investors whose marginal income tax bracket was less than 50 percent. The partnership adopted as a general investor suitability standard the following requirements: (a) He is acquiring the Units for investment and not with a view to resale or distribution; (b) he can bear the economic risk of losing his entire investment; (c) he has a net worth of at least $ 400,000 multiplied by the number of Units to be purchased by him in the Partnership * * * and anticipates he will continue to have in the future, annual taxable income, some portion of which will be subject to a Federal Income Tax rate of at least 50 percent after taking into consideration any losses which may result from this investment; (d) his overall commitment to investments which are not readily marketable is not disproportionate to his net worth, and his investments in the Units will not cause such overall commitment to become excessive; * * * (f) He * * * have [sic] such knowledge and experience in financial and business matters that he is * * * capable of calculating the merits and risks of this investment. 171 Each investor was required to represent in writing the satisfaction of the foregoing requirements. Pursuant to the private placement memorandum, the partnership was expected to acquire "Flash Gordon" from Famous Films N.V. and Famous Films B.V.3 for a purchase price of $ 36 million, of which $ 1,800,000 would be paid in cash at the closing; $ 14,650,000 would be paid by the delivery of a recourse purchase note bearing interest at the rate of 10 percent per annum and maturing on October 31, 1991; and $ 19,550,000 would be paid by delivery of a nonrecourse purchase note bearing interest at the rate of 10 percent per annum and maturing on October 31, 1991. The recourse purchase note would be recourse as against the partnership except with respect to interest. The purchase notes would be payable prior to maturity only from certain gross proceeds from exploitation of the picture. Each limited partner would be personally liable, with respect to each unit purchased, for a maximum of 2.538 percent of the unpaid principal amount of, but not interest on, the recourse purchase note, equalizing a maximum liability of $ 372,000 per unit. Each partner, also in connection with the acquisition, 172 would grant the producer a purchase money security interest in "Flash Gordon" and additionally certain proceeds from its exploitation. This purchase lien in the proceeds would be subordinated by the producer to a prior lien to be granted to a bank in order to secure a $ 2 million marketing loan which would be incurred by Flash Associates to provide a portion of the marketing cost of "Flash Gordon." For the $ 36 million dollars, the partnership would acquire title to and all rights in the purchased pictures in perpetuity throughout the world and in all media including theatrical, nontheatrical and television rights, subject to the distribution agreement, various subdistribution agreements and the reservation by DDL of certain ancillary rights including remake, sequel, made-for-television motion picture and series rights. In addition, the partnership173 would acquire various physical materials, including picture negatives, prints and necessary sound track material. The partnership's share of gross receipts or where applicable net profits derived from the exploitation of "Flash Gordon" were determined as follows: Partnership's Percentage ofPartnership's Share ofGross ReceiptsGross Receipts70%0 - $ 2,857,000 =$ 2,000,00010.%25,000,000 - 45,000,000 =2,000,00079%45,000,000 - 85,000,000 =31,600,00079.5%85,000,000 - 93,900,000 =7,075,5005%over $ 93,900,000 (or 100% of Net Profits,whichever is greater)In addition, the partnership was entitled to up to 100% of gross receipts to the extent necessary to pay interest on the marketing loan and the purchase notes. The offering memorandum acknowledged that only a small percentage of motion pictures generate a profit after recoupment of the motion picture. Under this agreement, the limited partners were not to receive distributions equal to their capital contributions unless and until gross receipts equaled $ 85 million or until television proceeds equalled $ 6 million. The placement174 memorandum also listed a 14-page summary of the risk factors associated with the investment. These included tax risks, operating risks and investment risks. The tax risks included partnership status, risk of audit and disallowance of partnership deductions, status of the partnership as the sole owner of the purchased picture in relationship of DDL with the subdistributors, transactions entered into for profit, limitation on the deductibility of losses to the amount at risk, partnership deductions, depreciation of the purchased pictures, disposition of the purchased pictures and the partnership interest and the availability of investment tax credit and tax law changes among others. Operating risks included competition in the motion picture industry, limited letters of credit and other collateral, the distribution agreement in advertising and advertising services contract, partnership funds and risks of credit of DDL, foreclosure and limited cash flow, as well as the completion of the movie itself. Finally, investment risks included restrictions on transfer, conflicts of interest, no right to manage and liability of limited partners. The placement memorandum also included a multi-page175 section dealing with the Federal, state and local tax consequences. Additionally, the tax opinion was available to the investors and was completed by the law firm of Carro, Spanbock, Londin, Fass & Geller at the request of the general partners. The opinion stated that no opinion would be rendered with respect to various income tax matters where the law was unclear or which turns on issues of fact such as the allocation of partnership profits and losses, whether the transaction had been entered into for profit and the fair market value of the pictures. Finally, the partners of Flash Associates also requested that the accounting firm of Laventhal and Horwath review a set of projected financial statements of the partnership including projected taxable income loss from 1980 to 1991 and projected cash flow for those same years. This accounting review also projected the after tax-benefits for the investor of the limited partnership interest in the 50, 60 and 70-percent tax brackets for the years 1980 to 1991. The review consisted of comparing the estimates and assumptions used for the placement memoranda, draft of the opinion of tax counsel as to the Federal income tax consequences and176 verification that the projections have been accurately compiled on the basis of such estimates and assumptions. By agreement dated as of September 15, 1980, Flash Associates purported to purchase the film "Flash Gordon" from Famous Films N.V. and Famous Films B.V. for $ 36 million. The record contains no evidence that the cash payment was made. At the same time the partnership purchased "Flash Gordon," and pursuant to the purchase and sale agreement, the partnership was obligated to enter into a distribution agreement with Famous Films B.V. Additionally, for and in consideration of all loans made pursuant to the purchase and sale agreement, and as collateral security for the payment of such loans, the partnership granted and assigned to Famous Films B.V. (the distributor) all motion picture, television and ancillary rights in and to "Flash Gordon," as well as all literary property rights and all copyrights in the movie or to be obtained in the movie and all rights to renew and extend such copyrights. The assignment also gave Famous Films B.V. the right to sue in both the name of Flash Associates (the partnership) and Famous Films B.V. for any infringement of copyright, past, 177 present or future. Also in connection with the purchase and sale agreement, Flash Associates agreed to pay Famous Films B.V. $ 4,200,000, which was to be used to market and advertise "Flash Gordon." No provision was made for the return to the partnership of any advertising funds not expended by Famous Films B.V. In this regard, the partnership intended to borrow $ 2 million from N.V. Slavenburg's Bank to advance to Famous Films B.V. the nonrefundable amount for "advertising, promotional and marketing costs anticipated to be incurred." It was anticipated, however, that the $ 2 million marketing loan would be repaid upon the partnership's receipt of its share of the $ 2,857,000 of gross receipts from the film. The marketing loan was to be nonrecourse. Flash Associates, also in connection with the advertising of the movie, would pay R. A. Inbows a consulting fee of $ 400,000. R. A. Inbows, Ltd. is an affiliate of Ira N. Smith, one of the general partners. These funds would be in consideration for consultant's services to be rendered to the partnership in connection with the release, distribution and marketing of the picture and particularly with the exercise of the partnership's right178 of consultation under the distribution agreement. The partnership acquired the film subject to the distribution agreement with Famous Films B.V. and certain subdistribution agreements. The distribution agreement between Flash Associates and Famous Films B.V. was also dated September 15, 1980. Pursuant to the distribution agreement, Famous Films B.V. was to possess: the sole exclusive and irrevocable right throughout the world to advertise, publicize and exploit, and to cause to be advertised, publicized and exploited, the picture in such manner and through such means and media whatsoever as Distributor may determine, including, but not limited to, theatrically and non-theatrically, and by means of television in all forms, whether now known or hereafter to be known, and by means of wire, cartridges, cassettes, and any and all other means of projection, transmission, broadcasting and exhibition together with to the extent acquired by Producer, (a) exclusive publication, performing, synchronization and all other rights in all unpublished music compositions written for or used in connection with the Picture and (b) all right to use and exploit the sound tract of the Picture for179 phonograph records, tapes, transactions or any other form or medium of any nature whatsoever, for the term limited to a period * * of ten years from the date hereof provided however, that Distributor shall have the following options * * * to extend such Initial Term and acquire the rights granted to Distributor hereunder for three additional successive terms. [Emphasis added.] The initial term of the distribution agreement was 15 years, and Famous Films B.V. was given options to extend the term for two additional 15-year periods, then into perpetuity. Unless Famous Films B.V. notified Flash Associates in writing that it did not choose to extend the agreement, Famous Films B.V. would be deemed to exercise its option to extend. The price specified of the options to extend was payable only if Flash Associates notified Famous Films B.V. in writing that the amount was due and owing. Otherwise, Famous Films B.V. was to have no obligation to pay. Under the distribution agreement, Famous Films B.V. was to have complete authority to distribute the picture as well as complete control over the leasing, licensing, exploiting and marketing of the picture. Famous Films B.V. was also entitled180 to edit or modify the picture and its title for any and all purposes whatsoever. The partnership agreed to abide by these modifications whether or not the changes produced the results desired or contemplated. Additionally, Famous Films B.V. had sole discretion to select a subdistributor and had entered into a subdistribution agreement with Universal prior to the execution of the distribution agreement with Flash Associates. Pursuant to the terms of the distribution agreement, the partnership was to receive from the domestic theatrical exploitation of the picture: (1) 0 percent of the first $ 25 million, (2) 10 percent of the next $ 60 million and (3) 5 percent of the excess over $ 85 million. Conversely, Famous Films B.V. was to retain the following percentages of domestic theatrical gross receipts: (1) 100 percent of the first $ 25 million, (2) 90 percent of the next $ 60 million and (3) 95 percent of the excess over $ 85 million. Flash Associates was, however, to receive 10 percent of the first $ 6 million in domestic television proceeds. In addition to the percentages set forth pursuant to the distribution agreement, domestic gross proceeds were to be utilized to make the181 partnership's interest payments to Slavenberg's Bank of Rotterdam, the Netherlands, the bank that forwarded the $ 2 million necessary to finance the marketing and advertising costs of the picture. The proceeds from the film were also to be used to offset the partnership's liability on the purchase notes. Paragraph 8(d) of the distribution agreement between Flash Associates and Famous provides: (d) Additional United States Gross Television Proceeds participation: Distributor further agrees to pay to Producer an additional amount of United States Gross Television Proceeds equal to the lesser of (i) or (ii) as follows: (i) United States Gross Television Proceeds paid to or earned by the Distributor as of December 31, 1987, less any amounts paid or payable to the Producer pursuant to Section 8(b) as of December 31, 1987; or (ii) The excess, if any (but not less than zero), of (A) over (B) following: (A) Six Million Dollars ($ 6,000,000). (B) Ninety and nine tenths percent (90.9%) of the amounts paid or payable to the Producer pursuant to Sections 8(a) and (b) as of December 31, 1987. The amount, if any, payable to Producer pursuant to this Section 8(d) shall be paid to182 the Producer on or before January 31, 1988. The entire amount of the recourse purchase note was to be paid from film proceeds. Percentage participations and deferments were excluded from gross receipts when computing net profits. The amounts of excluded percentage participations and deferments were not specified in the distribution agreement. Certain amounts payable to Flash Associates pursuant to the distribution agreement were to be retained by Famous Films B.V., until as late as February 1991 regardless of when the amounts were actually earned. Famous Films B.V. also had the option to convert the license fee payable to Flash Associates from foreign gross proceeds into a fee payable from foreign net proceeds. The definition of net proceeds provided for the subtraction of gross proceeds of more than three times the negative cost of the picture. The subdistribution agreements included a letter agreement between Famous Films B.V. and Universal which secured Universal the U.S. and Canadian distribution and exploitation rights to the movie in exchange for $ 8 million. It also called for Universal to lend Famous Films B.V. $ 7,750,000 to assist with the financing of the movie.183 The term of this agreement was perpetual. Universal also agreed to lend Famous Films B.V. up to $ 100,000 for publicity expenses. Famous Films B.V. had no obligation to advance funds for advertising. This agreement was entered into on September 17, 1979. As of September 11, 1980, there were 28 contracts in effect for theatrical subdistribution of the picture and a contract with Home Box Office for paid television dated May 31, 1979, when Famous Films B.V. entered into an agreement whereby Home Box Office guaranteed Famous Films B.V. at least $ 2,100,000 for the pay television rights to "Flash Gordon." The total of the minimum guarantees payable by subdistributors with respect to the picture was $ 21,805,678 as of September 11, 1980. The minimum guaranteed amounts payable by third party distributors were sufficient to provide full payment of the principal of the recourse purchase note. Pursuant to paragraph 8(d) of the distribution agreement, moreover, the $ 2,100,000 would be remitted to the partnership irrespective of gross receipts. On or about February 12, 1981, Famous Films B.V. exercised its option to convert the fee payable from foreign gross proceeds into a foreign net184 proceeds participation. Only four films released during or prior to 1980 earned domestic rentals in excess of $ 93 million. On its 1980 Form 1065, U.S. Partnership Return of Income, Flash Associates claimed the following deductions: Guaranteed payments to partners$ 20,000Amortization11,181Other Deductions4,618,879This last entry presumably incorporates the $ 4,200,000 advertising cost and the $ 400,000 consulting fee to R. A. Inbows, although not specifically enumerated on Flash Associates' partnership return. On its 1981 Form 1065, U.S. Partnership Return of Income, Flash Associates claimed the following deductions. Interest$ 523,497Amortization220,841Consulting Fees39,205Banking Charges73Processing Fees57On his 1980 and 1981 tax returns, petitioner reported his distributive share of the partnership losses in the amount of $ 70,441 and $ 114,955, respectively. OPINION We must first determine whether Flash Associates purchased an ownership interest in the motion picture "Flash Gordon." Respondent contends that the partnership does not possess sufficient attributes of ownership to be considered the owner185 of the motion picture. Petitioners argue to the contrary. It is well established that the economic substance of a transaction rather than the form in which it is cast is determinative of its consequences. See Golsen v. Commissioner,54 T.C. 742">54 T.C. 742, 754 (1970), affd. 445 F.2d 985">445 F.2d 985 (10th Cir. 1971), and the cases cited therein. Whether the partnership became the owner of "Flash Gordon" for tax purposes as a result of the transactions involved herein is a question of fact to be determined by reference to the written agreements read in light of the attending facts and circumstances. Tolwinsky v. Commissioner,86 T.C. 1009">86 T.C. 1009, 1041 (1986); Grodt & McKay Realty, Inc. v. Commissioner,77 T.C. 1221">77 T.C. 1221, 1237 (1981). A sale occurs upon the transfer of the benefits and burdens of ownership rather than upon satisfaction of the technical requirement for passage of title under state law. Grodt & McKay Realty, Inc. v. Commissioner, supra.In many cases, the courts have refused to permit the transfer of legal title to shift the incidents of taxation attributable to ownership of the property where the transferor continues186 to retain significant control over the property transferred. See Helvering v. Clifford,309 U.S. 331">309 U.S. 331 (1940); Helvering v. F. & R. Lazarus Co.,308 U.S. 252">308 U.S. 252 (1939); Durkin v. Commissioner,87 T.C. 1329">87 T.C. 1329 (1986); Tolwinsky v. Commissioner, supra at 1009; Hilton v. Commissioner,74 T.C. 305">74 T.C. 305 (1980), affd. 671 F.2d 316">671 F.2d 316 (9th Cir. 1982). "Taxation is not so much concerned with the refinements of title as it is with actual command over the property taxed -- the actual benefit for which the tax is paid." Corliss v. Bowers,281 U.S. 376">281 U.S. 376, 3878 (1930). "It is therefore fundamental that the availability of the depreciation deduction is not predicated on the mere holding of legal title to property but rather upon a capital investment in the property." Gladding Dry Goods v. Commissioner,2 B.T.A. 336">2 B.T.A. 336 (1925). For tax purposes, a sale of a motion picture occurs when there is a transfer of all substantial rights of value in the motion picture copyright. See Bailey v. Commissioner,90 T.C. 558">90 T.C. 558, 607 (1988); Tolwinsky v. Commissioner, supra at 1042-1043.187 A sale has not occurred if the transferor retains proprietary rights in the motion picture. A motion picture copyright includes the exclusive rights to produce copies of the motion picture, prepare derivative works based upon the motion picture, distribute copies of the motion picture to the public by sale or rental, exhibit the motion picture to the public, and display to the public still photographs taken from the motion picture. 17 U.S.C. sec. 1 (1976); 17 U.S.C. sec. 106 (1982) (effective January 1, 1978). A review of the record convinces us that Flash Associates never acquired the benefits and burdens of ownership of "Flash Gordon." Pursuant to the purchase and sale agreement, the partnership acquired all of Famous Films N.V.'s and Famous Films B.V.'s right, title and interest with respect to the ownership and exploitation throughout the world of "Flash Gordon" for $ 36 million. Pursuant to that same purchase and sale agreement, however, the partnership was required to simultaneously execute a distribution agreement with Famous Films B.V., which in fact transferred all the basic rights associated with the copyright to Famous Films B. 188 V., leaving Flash Associates with a mere "bare copyright." 4 The offering materials make clear that the possibility of entering into either the purchase and sale or the distribution agreement alone was not contemplated. Thus, Famous Films B.V. reserved remaking sequel rights, theatrical stage rights, all merchandising revenues, book publishing rights, all television and radio rights for its own accounts. Additionally, Famous Films B.V. obtained complete control over the exploitation of the picture. The distribution agreement exclusively stated that it was the parties' intention that Famous Films B.V. should "have the broadest possible latitude in the distribution of the picture." Famous Films B.V. alone was authorized to edit, retitle, advertise, distribute or sell the picture. By means of the distribution agreement, Famous Films N.V. and Famous Films B.V. regained virtually every right that they allegedly transferred to the partnership under the purchase agreement, including the right to sue for copyright infringement in its own name. Such a combination of rights constitutes virtually the entire bundle of rights that is a copyright. Durkin v. Commissioner,87 T.C. at 1369;189 Tolwinsky v. Commissioner, supra at 1009. There is no evidence, moreover, that the partnership had any control over the exploitation of the motion picture in any way, shape or form. See Durkin v. Commissioner,87 T.C. at 1369-1370. In fact, the agreement made clear that the partnership was not entitled to take any action. The sole contribution to be made by the partnership was financial. 4The distribution agreement also provided for these rights to be in effect "perpetually." Under the distribution agreement, there was an initial distribution period of 15 years, and the option to acquire the rights pursuant to the agreement for two additional successive terms for 15 years each, and thereafter, to renew in perpetuity. Famous Films B.V. was "deemed" to have exercised the option if the partnership did not hear to the contrary at least 30 days prior to the expiration of each such term. Famous Films N.V., purported to convey its ownership interest and Famous Films B.V.'s ownership interest in "Flash Gordon" while, in fact, retaining exclusive control over all of the movie190 effectively for perpetuity by means of the distribution agreement. Finally, while the distribution agreement further provided for the allocation of the domestic gross receipts earned from the exploitation of the film, at best, the partnership was to receive 5 percent of domestic gross theatrical proceeds after break-even and was to have the purchase notes paid from the film proceeds. Additionally, the agreement provided for the distributor to defer substantial portions of amounts due to Flash Associates for substantial periods of time up to approximately 10 years. This, too, indicates that Flash Associates was not the actual owner of the movie. Our conclusion that Famous Films N.V. and Famous Films B.V., rather than Flash Associates, are the true owners of "Flash Gordon" does not require us to view the transaction as one which is wholly lacking in economic substance and which must therefore be disregarded for Federal tax purposes. Rather, we view this transaction as one in which the partnership acquired an intangible contractual right to participate in the distributable gross receipts generated by the film, which is a depreciable interest and recognized for Federal tax purposes. 191 However, because Famous Films N.V. and Famous Films B.V. are the actual owners of the film for Federal tax purposes, Flash Associates cannot claim depreciation on the film. As was stated in Bailey v. Commissioner,90 T.C. at 614, where a movie partnership was also found not to be the true owner of the movie purchased: The only interests acquired by the partnerships were a contingent participation in the distributable gross receipts of Columbia's distribution efforts for each film. The cash investments by the partnerships reduced Columbia's financial risk in the films, but such payments, without more, do not give the partnerships depreciable interests in the film. We must next consider whether the partnership can include the nonrecourse promissory note in basis. The nonrecourse promissory note given by Flash Associates to Famous Films N.V. is payable only out of a portion of the receipts generated by the motion picture. Generally, when debt principal is paid solely out of exploitation proceeds, nonrecourse loans are contingent obligations and are not treated as true debt. Durkin v. Commissioner,87 T.C. at 1376; Estate of Baron v. Commissioner,83 T.C. 542">83 T.C. 542, 550-553 (1984),192 affd. 798 F.2d 65">798 F.2d 65 (2d Cir. 1986). Once we have determined that the partnership only had an income interest of the exploitation receipts from the motion picture, the debt does not reflect an actual investment in property, cannot be included in the taxpayer's depreciable basis and must be disregarded for tax purposes unless and until paid. The next issue for decision is whether petitioner may be considered at risk within the meaning of section 465 with respect to his share of the debt obligation of the "Flash Gordon" transaction. Section 465, among other things, provides that where an individual invests in motion picture films or television video tapes, any loss for the taxable year should be allowed only to the extent the taxpayer is at risk with respect to the obligations of the activity at the close of the taxable year. Sec. 465(a)(1) and (c)(A). Included in the amount considered at risk are amounts of cash contributed by the taxpayer with respect to the activity, sec. 465(b)(1)(A), and amounts borrowed if the taxpayer is personally liable for repayment of the borrowed amounts or has pledged property other than the property used in the activity as security for the193 borrowed amounts. Sec. 465(b)(2). Investors will be regarded as personally liable for such obligations pursuant to section 465(b)(2)(A) if they are economically liable to repay the obligations in the event funds from the investment activity cannot do so. In the instant case, no unrelated property was pledged by petitioner as security for the borrowed amount. Petitioner, therefore, will be considered at risk with respect to the recourse note only if he was genuinely personally liable for the amounts due thereunder. Section 465(b)(3) 5 imposes a limitation with respect to amounts investors will be considered at risk. Under that section, investors will not be considered at risk for debt obligations of the investment activity if the amounts borrowed are borrowed from a person who has a continuing interest in the activity other than as a creditor. 194 Section 465(b)(4) 6 imposes a further limitation. That section provides that investors will not be considered at risk for their cash contributions and/or debt obligations if their ultimate liability is protected against loss through "nonrecourse financing, guarantees, stop loss agreements, or other similar arrangements." Section 465(b)(4), particularly the "similar arrangements" language, evidences concern with situations in which taxpayers are effectively immunized from any realistic possibility of suffering an economic loss even though the underlying transaction was not profitable. See Larsen v. Commissioner,89 T.C. 1229">89 T.C. 1229 (1987); Follender v. Commissioner,89 T.C. 943">89 T.C. 943 (1987); Melvin v. Commissioner,88 T.C. 63">88 T.C. 63, 75 (1987). Respondent argues that the limited partners of Flash Associates are not at risk pursuant to the limitations of section 465(b)(3) and (b)(4). Respondent contends that the promissory note entered into with Flash Associates cannot be treated as an amount at risk because Famous Films N.V. has an interest in the activity other than as a creditor. Respondent contends further that the financial arrangements of the195 transaction ensured that the partnership would be returned its cash investment and guaranteed that the limited partners would never have a genuine liability to pay the nonnegotiable cash promissory note. Respondent further highlights that the financial arrangements were not consistent with the standards of the motion picture industry. Thus, the partners' investments were not subjected to the vagaries of the motion picture market in economic and tax terms. Petitioner, not surprisingly, contends that Famous Films N.V. did not have an interest in the movie other than as a creditor, and the amounts contributed were not protected against loss. The payments of these amounts were subjected to the usual business contingencies such as bankruptcy or default on the payments. Additionally, it is pointed out that repayment was not sufficient to completely pay the notes; thus, it only provided some guarantee that a portion of the notes would be paid. We address each in turn. 196 Respondent argues that Flash Associates cannot treat their pro rata shares of the nonnegotiable promissory note as an amount at risk because it was borrowed from a creditor with an interest in the activity other than as a creditor under section 465(b)(3)(A). Respondent's position is set forth in section 1.465-8(a), Prop. Income Tax Regs., 44 Fed. Reg. 32239 (June 5, 1979). That proposed regulation provides, in part, that "amounts borrowed with respect to an activity will not increase the borrower's amount at risk in the activity if the lender has an interest in the activity other than that of a creditor. This rule applies even if the borrower is personally liable for the repayment of the loan or if the loan is secured by property which is not used in the activity." Subsection (b) provides that "the lender shall be considered a person with an interest in the activity other than that of a creditor only if the lender has either a capital interest in the activity or an interest in the net profits of the activity." (Emphasis added.) Sec. 1.465-8(b)(1), Proposed Income Tax Regs.7 Capital interest is defined as "an interest in the assets of the activity which197 is distributable to the owner of the capital interest upon the liquidation of the activity." Sec. 1.465-8(b)(2), Prop. Income Tax Regs. An interest in the net profits is defined as "any incidents of ownership in the activity in order to have an interest in the net profits of the activity. For example, an employee or independent contractor any part of whose compensation is determined with reference to the net profits of the activity will be considered to have an interest in the net profits of the activity." Sec. 1.465-8(b)(3), Prop. Income Tax Regs.Respondent first argues that if we conclude as we have that Flash Associates acquired at best an intangible contractual right to the future profits of "Flash Gordon" for tax purposes, Famous Films N.V. and Famous Films B.V., and not the partnership, are the true owners of the film. Famous Films N.V. and Famous Films B.V., therefore, stand to receive the bulk of the financial gain from the activity and have an interest in the film other than as a creditor. In light of the small downpayment made by the partnership, respondent continues, 198 and the rapidly depreciating nature of the underlying assets, Famous Films N.V. and Famous Films B.V., and not the partnership, would receive the bulk of the proceeds on the liquidation of the activity. By definition therefore, respondent concludes that Famous Films N.V. and Famous Films B.V. each have a capital interest in the activity. See sec. 1.465-8(b)(2), Prop. Income Tax Regs. Respondent next contends that Famous Films N.V. and Famous Films B.V. also have an interest in the net profits of the activity. Respondent points out that the distribution agreement governing the allocation of gross receipts derived from the exploitation of the film purports to provide the partnership with 100 percent of both United States and foreign net profit proceeds after break-even. However, the form used to compute net proceeds virtually guaranteed that at any level of gross receipts there would be no net proceeds and that the partnership interest in the activity is limited to 5 percent of the United States gross proceeds after break-even and none of the film foreign receipts. Thus, Famous Films N.V. and Famous Films B.V. in reality had an interest in the net proceeds of the activity. Petitioners199 argue that Famous Films N.V. as creditor of the recourse purchase notes did not have an interest other than as a creditor. Petitioners point out that the agreements clearly indicate that Famous Films N.V. had a mere gross profits interest in the outcome in the distribution of the motion picture which is not equivalent to a net profit interest. Additionally, the amounts were not loaned between partners or between joint ventures. Thus, Famous Films N.V., as a mere creditor, would not hold a prohibited interest in the activity. We agree with respondent. We have utilized the capital interest and interest in the net profits tests as guidelines to determine whether any of the creditors in a transaction have prohibited other interests. Levy v. Commissioner,91 T.C. 838">91 T.C. 838, (1988); Larsen v. Commissioner,89 T.C. 1229">89 T.C. 1229, 1270 (1987); Bennion v. Commissioner,88 T.C. 684">88 T.C. 684, 696 (1987); Jackson v. Commissioner,86 T.C. 492">86 T.C. 492, 529 (1986), affd. 864 F.2d 1521">864 F.2d 1521 (10th Cir. 1989). A capital interest is described in the proposed regulations as an interest in the assets of an activity which would make the assets, or a200 portion thereof, distributable to the owner of the interest upon liquidation of the activity. Sec. 1.465-8(b)(2), Prop. Income Tax Regs. Because we had determined that Famous Films N.V. and Famous Films B.V. are the actual owners of the movie to the extent of their rights, title and interest in the movie, it clearly had a capital interest in "Flash Gordon." With regard to the net profits test, an interest in the net profits of an activity may exist even though the lender does not possess any incidents of ownership in the activity. In the instant case, Famous Films N.V. and Famous Films B.V. have been deemed the actual owners in "Flash Gordon," see Bennion v. Commissioner, supra at 698, and in a true sense, have an interest in the net profits of the activity. Section 465(b)(3) contemplates fixed and definite rights or interests that realistically may cause creditors to act contrary to how independent creditors would act with respect to their rights under the debt obligations in question: Creditors who hold recourse obligations, but who also have certain other interests in the activity, might disregard their rights thereunder in favor of protecting or enhancing201 their other interests in the activity. In light of that eventuality and in spite of the otherwise recourse nature of the debt, taxpayers who owe recourse debt obligations to such creditors are not to be regarded as at risk with respect thereto. [Bennion v. Commissioner, supra at 698.] For the reasons stated, we conclude that Famous Films N.V.'s and Famous Films B.V.'s interest in the movie constitutes a continuing interest in this transaction other than as a creditor. Having so found, the provisions of section 465(b)(3) have been violated by this transaction, and petitioners cannot be considered at risk for the amount of the recourse promissory notes. We next consider the additional arguments set forth by respondent pursuant to section 465(b)(4), as pertaining to the cash contributions of the limited partners. Section 465(b)(4) concerns itself with arrangements where taxpayers are not really "at risk" because they are immunized from suffering an economic loss even though the underlying transaction is not profitable. See Porreca v. Commissioner,86 T.C. 821">86 T.C. 821, 838 (1986). The Senate Finance Committee report explains as follows: Also, under202 these rules, a taxpayer's capital is not "at risk" in the business, even as to the equity capital which he has contributed to the extent he is protected against economic loss of all or part of such capital by reason of an agreement or arrangement for compensation or reimbursement to him of any loss which he may suffer. Under this concept, an investor is not "at risk" if he arranges to receive insurance or other compensation for an economic loss after the loss is sustained, or if he is entitled to reimbursement for part or all of any loss by reason of a binding agreement between himself and another person. [S. Rept. 94-938, at 49 (1976), 1976-3 C.B. (Vol. 3) 49, 87; fn. ref. omitted.] The Senate Finance Committee report continues that: for purposes of this rule * * the possibility that the party making the guarantee * * * will fail to carry out the agreement (because of factors such as insolvency or other financial difficulty) is not to be material unless and until the time when the taxpayer becomes unconditionally entitled to payment and, at that time, demonstrates that he cannot recover under the agreement. [S. Rept. 94-938 at 50 n.6 (1976), 1976-3 C.B. (Vol. 3) 49, 88 n.6.]203 Respondent points to several clauses in the various agreements which highlight that Flash Associates was guaranteed the return of its cash investment of $ 1,800,000 in "Flash Gordon," including paragraph 8(d) of the distribution agreement and the Home Box Office agreement. Thus, respondent concludes, on the date Flash Associates "purchased" Flash Gordon" September 15, 1980, there were guaranteed United States television proceeds of $ 2,100,000, which amount, pursuant to paragraph 8(d) of the distribution agreement, would be remitted to the partnership irrespective of gross receipts. Consequently, the limited partners of Flash Associates were protected against the loss of their cash investment. Capek v. Commissioner,86 T.C. 14">86 T.C. 14 (1986); sec. 1.465-6(a), Prop. Income Tax Regs.We find that petitioners were protected against the economic loss of their investment by means of their agreements with Famous Films N.V. and Famous Films B.V. Several cases have found that taxpayers who are protected from economic loss will not, for purposes of section 465(b)(4), be considered at risk. See Porreca v. Commissioner,86 T.C. at 821; Capek v. Commissioner, supra;204 Brand v. Commissioner,81 T.C. 821">81 T.C. 821 (1983). As a general rule, a taxpayer is considered at risk for the amount of money he has contributed to the activity. Sec. 465(b)(1). Section 465(b)(4), however, is applicable to cash contributions as well as amounts borrowed. While most of the cases we have reviewed have dealt with amounts borrowed, we are not limited in our holding because it is clearly in accord with the legislative history of section 465(b)(4). In the instant case, petitioner put up funds which were guaranteed to be repaid within a specific time period. The terms of the agreements were clear on this matter. In fact, petitioner concedes this by arguing: that the existence of pre-exisiting agreements to receive payment are sufficient to create this protection against loss. The prior existence of a contract with a television network would provide substantial economic benefits to the partnership. But, this does not guarantee payment of the notes or operate as a protection against loss. The payment of these amounts was subject to the usual business contingencies. The payor could encounter bankruptcy or could default on the payments. In addition, the prepayment205 was insufficient to completely pay the notes. Thus it only provided some guarantee that a portion of the notes would be paid. The contingencies listed by petitioner are not to be considered "risks" if and until they occur. Capek v. Commissioner,86 T.C. at 52-53; sec. 1.465-6(c), Prop. Income Tax Regs. Moreover, the partial guarantee was adequate to cover the cash portion of the investment, our focus. The cash contributions are not at risk pursuant to section 465(b)(4). We next determine whether Flash Associates is entitled to use the declining balance method of depreciation. On its returns, the partnership used the double declining balance method to compute its depreciation deduction. We have determined that Flash Associates purchased a contractual right in "Flash Gordon" and not the motion picture itself. The contractual right to participate in a motion picture's gross receipts is an intangible asset. See Law v. Commissioner,86 T.C. 1065">86 T.C. 1065, 1098, 1109 (1986); Tolwinsky v. Commissioner,86 T.C. 1009">86 T.C. 1009, 1046, 1053 (1986). The declining balance method may not be used to depreciate intangible property. Sec. 167(c). Generally, 206 a change in the taxpayer's depreciation method constitutes a change in the taxpayer's method of accounting, which normally requires the Commissioner's consent. Sec. 446(e); sec. 1.167(e)-1, Income Tax Regs. However, such consent is not required if the taxpayer's chosen method of depreciation is found to be unacceptable, and then he seeks to adopt the straight-line method. Sec. 167(e)(1); sec. 1.167(b)-l and (e)-1, Income Tax Regs. Flash Associates' depreciation method is unacceptable because it did not purchase a motion picture (a tangible asset), but an intangible contractual right to share in future profits. Respondent argues that the partnership must use the straight-line method. Petitioner offers no alternative. Neither party suggests that the partnership employ the income forecast method. 8 Thus, the straight-line method must be used to calculate the partnership's depreciation deduction. See Durkin v. Commissioner,87 T.C. 1329">87 T.C. 1329 (1986); Law v. Commissioner, supra.The straight-line method is applicable to intangible properties. See sec. 167. 207 We must next consider whether the partnership is entitled to deductions for expenses paid for movie and advertising services in connection with the distribution of "Flash Gordon" as reflected on its 1980 and 1981 return. In his notice of deficiency, respondent disallowed the amounts in question. Petitioners bear the burden of proof as respondent's determination is presumptively correct. Rule 142(a); Welch v. Helvering,290 U.S. 111">290 U.S. 111 (1933). Petitioners offered no testimony at trial to explain or substantiate the amounts deducted on the 1980 and 1981 Form 1065 returns. Furthermore, the documents do not reflect that any of the amounts were actually paid, or if paid, that they were paid during 1980 or 1981. Petitioners failed to offer any proof as to the deductibility of the enumerated expenses and, accordingly, are not entitled to deduct any portion of the claimed expenses. As respondent points out, the partnership purportedly paid $ 4,200,000 to Famous Films B.V. to market "Flash Gordon," but Famous Films B.V. was not the distributor of "Flash Gordon" nor did it have any obligation to expend, market, advertise or distribute "Flash Gordon." Rather, Famous Films208 B.V. had entered into subdistribution agreements with Universal and Twentieth Century-Fox for domestic (including Canada) and foreign theatrical and television distribution. This Court has reviewed similar advertising service agreements. 9 In Isenberg, for example, we concluded that the partnership was financing the advertising and not itself incurring advertising expenses. The same situation would appear to be present in the instant case. The record is devoid of any evidence that Flash Associates actually paid this amount or that the funds were used for such purpose. The partnership did not even attempt to substantiate that it was involved in the distribution strategy of the film. The sole purpose of the advertising services arrangement was to provide the partnership with an immediate up-front deduction, and the deduction must therefore be disallowed. 10Finally, we consider the $ 400,000 consulting service fee to R. A. Inbows, an affiliate of the general partner, Ira Smith. Pursuant to this agreement, R. A. Inbows was209 to exercise the partnership's "non-binding consultation" rights it retained pursuant to the distribution agreement to "protect its ownership interest" as well as render consulting services to the partnership in connection with the release of the film. The expense is explained in the private placement memorandum as follows: The partnership will retain R. A. Inbows, Ltd., an Affiliate of Mr. Smith, to consult with the Partnership concerning the marketing of the Picture and will pay R. A. Inbows, Ltd. a fee of $ 400,000 for such services. The officers and directors of R. A. Inbows, Ltd. have had limited experience in the marketing of motion pictures. The subdistribution agreement between Famous Films B.V. and Universal indicated that the advertising and marketing plan for "Flash Gordon" was in place prior to the partnership's purchase of the picture. Although the agreement gave the right to consult in connection with the distribution of the film, there is virtually no evidence that this transpired. Consequently, the amount paid to the affiliate of the general partner for marketing is not allowable. Finally, we must determine whether petitioner should be subject to additional interest210 under section 6621(c) of the Code. Section 6621(c) provides for an increase in the rate of interest to 120 percent of the otherwise applicable annual rate with respect to a substantial underpayment (an underpayment of at least $ 1,000) attributable to one or more tax-motivated transactions. Sec. 6621(c)(1). Additional interest accrues after December 31, 1984, regardless of the filing date of the returns. DeMartino v. Commissioner,88 T.C. 583">88 T.C. 583, 589 (1987). Section 6621(c)(-3)(A)(ii) defines the term "tax-motivated transaction" to include any loss disallowed by section 465(a). If the loss claimed is disallowed by reason of section 465(a), the resulting deficiency is by definition the consequence of a tax-motivated transaction. For this reason, the underpayments resulting from such disallowed deductions are attributable to tax-motivated transactions. Decisions will be entered under Rule 155.Footnotes1. All section references are to the Internal Revenue Code of 1954, as amended and in effect for the years in issue. All Rule references are to the Tax Court Rules of Practice and Procedure.↩2. Includes $ 5,000 contributed by the general partners.↩3. Pursuant to the Purchase and Sale Agreement dated September 15, 1980, Famous Films N.V. acted for itself to the extent of its right, title and interest in the movie, and as agent for Famous Films B.V. to the extent of its right, title and interest. The seller, therefore, refers to both Famous Films N.V. and Famous Films B.V.↩4. See Isenberg v. Commissioner,T.C. Memo. 1987-269↩.5. Section 465(b)(3) provides as follows: (b) Amounts Considered at Risk. -- * * * (3) Certain borrowed amounts excluded. -- For purposes of paragraph (1)(B), amounts borrowed shall not be considered to be at risk with respect to an activity if such amounts are borrowed from any person who -- (A) has an interest (other than an interest as a creditor) in such activity, or (B) has a relationship to the taxpayer specified within any one of the paragraphs of section 267(b).↩6. Section 465(b)(4) provides as follows: (b) AMOUNTS CONSIDERED AT RISK. -- * * * (4) EXCEPTION. -- Notwithstanding any other provision of this section, a taxpayer shall not be considered at risk with respect to amounts protected against loss through nonrecourse financing, guarantees, stop loss agreements, or other similar arrangements.↩7. These proposed regulations have not yet been finalized and, therefore, are not authority.↩8. Law v. Commissioner,86 T.C. 1065">86 T.C. 1065, 1104 (1986); Tolwinsky v. Commissioner,86 T.C. 1009">86 T.C. 1009, 1053-1054 (1986). In those cases, respondent conceded that the taxpayers be permitted to use the straight-line method. See also Bailey v. Commissioner,90 T.C. 558">90 T.C. 558, 619-621↩ (1988), for a description of how the income forecast method is calculated in the depreciation of motion pictures.9. See Isenberg v. Commissioner,T.C. Memo. 1987-269↩. 10. See Schwartz v. Commissioner,T.C. Memo. 1987-381↩.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623631/	ESTATE OF MARY AUGUSTA SANTRY, EMIL SEBETIC and MARGARET LOUISE EMMET, Executors, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, RespondentEstate of Santry v. CommissionerDocket No. 5018-80.United States Tax CourtT.C. Memo 1982-400; 1982 Tax Ct. Memo LEXIS 343; 44 T.C.M. (CCH) 488; T.C.M. (RIA) 82400; July 19, 1982. Emil Sebetic, for the petitioners. Christopher B. Sterner, for the respondent. TANNENWALDMEMORANDUM OPINION TANNENWALD, Chief Judge: Respondent determined a deficiency of $18,751.70 in petitioner's Federal estate tax. The sole issue for our determination is whether the transfer of $300,000 in cash and securities by decedent was a344 transfer in contemplation of death within the meaning of section 2035. 1This case was submitted fully stipulated pursuant to Rule 122. The stipulation of facts is incorporated by this reference. Emil Sebetic and Margaret Louise Emmet, co-executors of the Estate of Mary Augusta Santry, resided in New York State at the time the petition in this case was filed. Mary Augusta Santry (decedent) died on February 23, 1977, at the age of 77 from congestive heart failure.From 1971 until her death, decedent resided at the Putnam-Weaver Nursing Home (Nursing Home) in Greenwich, Connecticut. Medical records maintained by physicians and nurses at the Nursing Home show that, during December 1975, decedent was diagnosed as suffering from hypertensive heart disease, arteriosclerotic heart disease, congestive heart failure, acute pulmonary edema, general arteriosclerosis, diverticulosis, and arteriosclerotic cerebral vascular disfunction. Her prognosis was fair345 and decedent's attending physician did not anticipate that she would be discharged to return home. At this time, it was determined that decedent was not "medically capable of understanding and signing Patient Bill of Rights." In June 1976 and November 1976, decedent's rehabilitation potential was evaluated as poor. On November 15, 1976, decedent's physician observed that she was suffering from interludes of senility. During the period from September 5, 1976, through January 23, 1977, nurses at the Nursing Home noted that decedent was frequently confused and uncooperative. Decedent's will was executed on June 14, 1967. Pursuant thereto, the major portion of decedent's estate was to "pour-over" into Trust No. 1, an inter vivos trust executed that same day. In 1967, Trust No. 1 was funded with stocks, bonds, and a small amount of cash. Decedent was the principal income beneficiary of, and reserved the right to alter, amend, or revoke, the trust. From 1967 through 1977, decedent's immediate family consisted of her daughter, Margaret Louise Emmet, her daughter's husband, Henri W. Emmet, and her two granddaughters, Claudia Emmet (born December 12, 1963) and Diane Emmet (born346 December 31, 1965). From 1971 through 1976, decedent made cash gifts to family members as follows: Margaret Louise Emmet andClaudiaDianeYearHenri W. EmmetEmmetEmmet1971 $15,47419729,83419738,95319749,50019756,400$4,200$4,200197610,5003,7503,750In addition to these cash gifts, on December 1, 1970, decedent executed an amendment to Trust No. 1. Pursuant thereto, the trust corpus was divided equally into three short-term trusts. Margaret Louis Emmet, Claudia Emmet, and Diane Emmet were each the income beneficiaries of one of these trusts. Each trust was to terminate on the earliest of: December 31, 1980; the death of that trust's income beneficiary; or decedent's death. Decedent's gift tax return for 1970 valued the income interest for each of the three trusts at $37,512. On November 15, 1976, Emil Sebetic, petitioner's lawyer, wrote a letter to decedent describing the effect of the Tax Reform Act of 1976 on gifts made after December 31, 1976. Mr. Sebetic urged decedent to make one large gift before the end of 1976, either outright or in trust, to or347 for the benefit of her daughter and granddaughters. A gift totaling $300,000, Mr. Sebetic explained, would result in Federal estate tax savings to petitioner's estate of $135,000, which, after taking into account the $71,000 of gift taxes payable on such transfer, would result in overall tax savings of $64,000. In the latter part of November 1976, Mr. Sebetic prepared Trust No. 2 and visited decedent at the Nursing Home to describe the provisions of the trust to her. Mr. Sebetic clarified the income, estate, and gift tax consequences of Trust No. 2. Decedent expressed particular concern that the dispositive provisions of Trust No. 2 be similar to those of Trust No. 1. Mr. Sebetic stated in a stipulated affidavit that he found decedent alert and in general good health and spirits. On November 27, 1976, decedent executed Trust No. 2 to which she transferred property valued at $300,000. 2 The principal beneficiaries of Trust No. 2 were decedent's daughter and two granddaughters.The dispositive provisions of Trust No. 2 were identical to those of Trust No. 1 which took effect upon decedent's death. The decedent retained no power to alter, amend, or revoke Trust No. 2. 348 The question before us is whether the transfer by decedent of assets valued at $300,000 was in contemplation of death so that the property is includable in her gross estate under section 2035. 3 Because the transfer occurred within three years of decedent's death, section 2035(b) establishes a rebuttable presumption that it was so made. The purpose of section 2035 is "to reach substitutes for testamentary dispositions and thus to prevent the evasion of the estate tax." United States v. Wells,283 U.S. 102">283 U.S. 102, 117 (1931). The resolution of the issue before us turns on whether, in light of all the facts and circumstances, the decedent's dominant motive in making the transfer was the thought of death or a purpose normally associated with life. United States v. Wells,supra;Estate of Honickman v. Commissioner,58 T.C. 132">58 T.C. 132, 135 (1972), affd. without published opinion, 481 F.2d 1399">481 F.2d 1399 (3d Cir. 1973). Not only has petitioner failed to carry its burden of persuasion in its attempt to prove that decedent acted to effectuate life-associated motives, but there are many factors which lead us affirmatively to conclude that the349 transfer in question was in contemplation of death. 350 The conclusion that the establishment of Trust No. 2 was a substitute for a testamentary disposition seems inescapable. Decedent's will, executed in 1967, provided for the bulk of her estate to be administered under the terms of Trust No. 1. The dispositive provisions of Trust No. 2 are identical to those provisions of Trust No. 1 governing the distribution of principal and income upon decedent's death. According to Mr. Sebetic, decedent "expressed particular concern and approval that the provisions of Trust No. 2 be similar to the provisions of Trust No. 1." This factor strongly supports the statutory presumption and respondent's position. See Estate of Honickman v. Commissioner,supra.Also supportive of respondent's position is the fact that the transfer was implemented in an attempt to reduce decedent's Federal estate tax liability.See Estate of McIntosh v. Commissioner,25 T.C. 794">25 T.C. 794, 804 (1956), affd. 248 F.2d 181">248 F.2d 181 (2d Cir. 1957); Estate of Hill v. Commissioner,23 T.C. 588">23 T.C. 588, 591 (1954), affd. 229 F.2d 237">229 F.2d 237 (2d Cir. 1956). It is uncontroverted that decedent was heavily influenced by her lawyer's351 explanation of the changes made to the gift and estate taxes by the Tax Reform Act of 1976. Mr. Sebetic told decedent she could save $135,000 in estate taxes by making a gift of $300,000, with a net saving of $64,000 after gift taxes were taken into account. Under the circumstances of this case, we believe the estate tax savings were a dominant factor motivating decedent rather than "merely a gratifying incident of the transfer[]." Compare Estate of Rand v. Commissioner,36 B.T.A. 1160">36 B.T.A. 1160, 1167 (1937). "Such expected reduction of estate taxes bears heavily against any possible life-motivated interpretation." Estate of Himmelstein v. Commissioner,73 T.C. 868">73 T.C. 868, 878 (1980). Petitioner argues that the transfer was not made in contemplation of death because it was made before a deadline date to avoid the adverse effects of a massive change in the structure of the gift and estate tax laws occasioned by the Tax Reform Act of 1976. In effect, petitioner takes the position that the transfer in question would not have been made but for such "massive change" in the law and the prospect of higher gift and estate taxes which the new law established. Assuming352 for purposes of argument that petitioner's factual position is correct, it does not follow that the normal standards governing gifts in contemplation of death should not be applied. In Estate of McIntosh v. Commissioner,supra, the decedent, who was in good health, released a power of appointment under the impression based upon advice of counsel (albeit mistaken) that such release would avoid the inclusion of a trust in her gross estate mandated by newly enacted provisions of the estate tax. Both this Court and the Court of Appeals apparently saw no reason not to apply the normal standards for determining whether the gift was made in contemplation of death. See 248 F.2d at 184, 25 T.C. 804-806. See also Oliver v. Bell,103 F.2d 760">103 F.2d 760, 763-764 (3d Cir. 1939). 4 Principal among these standards is that, in the absence of a dominant life-associated motive, a transfer motivated by a desire to avoid estate taxes is in contemplation of death. Estate of McIntosh v. Commissioner,supra.The fact that decedent's transfer was made shortly before the effective date of a major revision of the estate and gift taxes is353 not determinative one way or the other of the issue in this case. See Allen v. Trust Co.,326 U.S. 630">326 U.S. 630 (1946), where the Supreme Court looked to all motives underlying the gift and refused to isolate the avoidance of estate taxes, which would have otherwise resulted from a recent decision of that Court, as the determinative factor.Decedent's age and health are additional factors indicating that the transfer was in contemplation of death. See Estate of Himmelstein v. Commissioner,73 T.C. at 877. In 1976, decedent was in her mid-seventies; both prior to and at the time of the transfer, decedent354 required constant nursing care. Despite petitioner's contention to the contrary, the record supports the conclusion that decedent was in poor health in November of 1976. Petitioner argues that decedent's motives in making the transfer were life-associated, i.e., (1) to continue an established pattern of gift giving, (2) to enable her daughter and granddaughters to become financially independent of Henri Emmet, and (3) to save gift and income taxes. The scant evidence supporting petitioner's contentions is insufficient to persuade us that the transfer was not in contemplation of death. Although decedent had a history of making gifts to her daughter and granddaughters, no previous gift approached the size of the transfer at issue. It seems clear to us that the transfer of $300,000 in 1976 was not part of a previous pattern of giving. 5 See Estate of Lowe v. Commissioner,64 T.C. 663">64 T.C. 663, 676 (1975), affd. 555 F.2d 244">555 F.2d 244 (9th Cir. 1977). 355 Mr. Sebetic's affidavit stated that decedent was concerned that her daughter and granddaughters become reasonably self-supporting apart from Henri Emmet's income. We are unconvinced, however, that this was decedent's dominant motive in making the transfer. Were decedent so concerned that her daughter and granddaughters become self-supporting, we do not believe she would have made joint gifts to Margaret Louise and Henri Emmet from 1972 through 1976 totaling in excess of $45,000. Finally, petitioner argues that the transfer was motivated by decedent's desire to save income and gift taxes. We note that Mr. Sebetic's letter to decedent urging the transfer made no mention of the income tax consequences of the gift. Decedent's annual income was approximately $48,000 in 1975 and $56,000 in 1976; slightly over 25 percent of this income was tax-exempt. Thus, the income tax savings were not substantial in comparison with the projected estate tax savings. See Butterworth v. Usry,177 F. Supp. 197">177 F. Supp. 197, 200 (E.D. La. 1959). Furthermore, over $48,000 of the assets transferred to Trust No. 2 were tax-exempt municipal bonds. If decedent's primary motive was to reduce her income356 tax liability, we do not believe she would have given away securities which were exempt from taxation. Nor are we convinced that decedent made the transfer in 1976 primarily to avoid increased gift tax rates enacted by Tax Reform Act of 1976. As discussed previously, the $300,000 gift was not in accordance with decedent's established giving pattern and we are unpersuaded that decedent would have made such a large gift in 1976, 1977, or in any later year other than as a substitute for a testamentary disposition. See Estate of Rickenberg v. Commissioner,11 T.C. 1">11 T.C. 1, 10 (1948), revd. and remd. on other grounds, 177 F.2d 114">177 F.2d 114 (9th Cir. 1949). In sum, decedent's transfer, a few months prior to her death, of $300,000 to Trust No. 2 was in contemplation of death. Decision will be entered for the respondent.Footnotes1. Unless otherwise indicated, all section references are to the Internal Revenue Code of 1954, as amended and in effect during the year in issue. All rule references are to the Tax Court Rules of Practice and Procedure.↩*. This gift was to Margaret Louise Emmet alone.↩2. Petitioner states that the transfer of assets to Trust No. 2 was completed on December 20, 1976, while respondent asserts that the transfer took place on November 27, 1976. We need not resolve this discrepancy since both parties agree that the transfer took place before January 1, 1977.↩3. SEC. 2035. TRANSACTIONS IN CONTEMPLATION OF DEATH. (a) General Rule -- The value of the gross estate shall include the value of all property to the extent of any interest therein of which the decedent has at any time made a transfer (except in case of a bona fide sale for an adequate and full consideration in money or money's worth), by trust or otherwise, in contemplation of his death.(b) Application of General Rule -- If the decedent within the period of 3 years ending with the date of his death (except in case of a bona fide sale for an adequate and full consideration in money or money's woth) transferred an interest in property, relinquished a power, or exercised or released a general power of appointment, such transfer, relinquishment, exercise, or release shall, unless shown to the contrary, be deemed to have been made in contemplation of death with the meaning of this section and sections 2038 and 2041 (relating to revocable transfers and powers of appointment); but no such transfer, relinquishment, exercise, or release made before such 3-year period shall be treated as having been made in contemplation of death.↩4. We note that Congress, when it enacted the Tax Reform Act of 1976, provided no "safe harbor" period in which taxpayers could make transfers which would be exempt from the section 2035 inquiry as to whether such were made in contemplation of death. In fact, the value of property transferred after January 1, 1977, and within three years of decedent's death is included in decedent's gross estate regardless of whether such transfer was "in contemplation of death." See section 2001(a)(5), (d)(1), Tax Reform Act of 1976, Pub. L. 94-455, 90 Stat. 1848, 1854.↩5. In this connection, we note that respondent has not asserted that the cash gifts made by decedent to her daughter's family in 1974, 1975, and 1976 totaling approximately $42,000 were made in contemplation of death, presumably because these smaller gifts were in keeping with her prior pattern of giving.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623634/	ANNIE TROLL, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Troll v. CommissionerDocket No. 61215.United States Board of Tax Appeals33 B.T.A. 598; 1935 BTA LEXIS 728; November 29, 1935, Promulgated 728 Held, that respondent, having failed to show that at the time of the transfers of certain property to petitioner the transferor was insolvent or that such transfers rendered the transferor insolvent, has failed to meet his burden of providing that petitioner is liable, as transferee, for taxes, penalties or interest of the transferor. W. A. Allen, Esq., for the petitioner. W. W. Kerr, Esq., C. A. Ray, Esq., and Bernard B. Daniels, Esq., for the respondent. MCMAHON 599 OPINION. MCMAHON: This is a proceeding for the redetermination of the petitioner's liability, as transferee, for the deficiencies in tax and penalties asserted by the respondent against Charles Troll, and interest, in the total amount of $9,119.87, as follows: YearTax liabilityTax assessedDeficiencyPenaltyInterest1917$103.34None$103.34$51.67$26.311918365.91None365.9191.4893.161919523.78None523.78130.95133.3519201,480.11None1,480.11370.02376.8419213,125.68None3,125.68781.421,465.85Total5,598.82None5,598.821,425.542,095.51It is alleged by petitioner (1) that729 the respondent erred in determining that she is liable as transferee for the taxes due from Charles Troll; (2) that he erred in assessing taxes after they were barred by the statute of limitations, especially section 311(b)(1) of the Revenue Act of 1928; (3) that, in any event, he erred in determining a liability against petitioner in excess of the fair market value of the property received by her from Charles Troll; (4) that even if petitioner is liable as transferee for the tax liability, he erred in assessing against petitioner the penalties and interest on the tax liablity of Charles Troll; and (5) that he erred in his determination of items of income of Charles Troll for the years 1917 to 1921, inclusive, and failed to give him credit for proper deductions and credit for losses incurred in those years. The amended answer of the respondent contains several affirmative allegations of fact, all to the effect that petitioner is liable as transferee. In her reply to respondent's amended answer the petitioner denied all of the affirmative allegations of the respondent. Petitioner is an individual, with residence at St. Louis, Missouri. In a notice of deficiency dated December 22, 1926, the730 respondent determined against Charles Troll, the taxpayer and transferor, the deficiencies and penalties for failure to file returns for the years 1917 to 1921, inclusive, as set forth hereinabove. On February 10, 1927, Charles Troll filed with this Board, under Docket No. 23962, a petition for redetermination of the deficiences and penalties. On May 16, 1931, the Board entered an order of dismissal in that proceeding on the motion of the respondent to dismiss for lack of prosecution, and therein ordered that the deficiencies and penalties for the years 1917 to 1921, inclusive, are in the amounts determined by the respondent as above set forth. Upon the death of her father in 1901 and her mother in 1906, the petitioner acquired from them stocks and bonds in the aggregate 600 value of about $25,000. This property she placed in the hands of her brother, Charles Troll, as trustee, for management. On January 1, 1929, Charles Troll executed, in favor of petitioner, a demand promissory note for $10,000, in which it was stated that he had pledged with petitioner, as security for payment of the note, a deed of trust of John Duggan and wife dated January 5, 1914, relating to731 Charles Troll's interest in property in East St. Louis, Illinois, as acquired by deed dated February 1913 from Theodore C. Peltzer and wife. On March 1, 1930, the petitioner and Charles Troll entered into an agreement called "Accord and Satisfaction Agreement Trusteeship Account." This instrument established a blance due petitioner from Charles Troll at that date in the amount of $9,570. Therein Charles Troll, in satisfaction of such amount, agreed to convey to the petitioner certain real estate described as follows: (1) Part of a lot in Carondolet Commons being the north portion of block 3240 of the city of St. Louis, fronting 302 feet 6 inches on the south line of Espenschied Street by a depth southwardly of 152 feet; bounded east by Van Buren Street and west by Polk Street; (2) an undivided one-third interest in a part of a lot in Carondolet Commons being the north portion of block 3241 of the city of St. Louis, fronting 220 feet 7 inches on the south line of Espenschied Street by a depth southwardly of 152 feet; bounded west by Van Buren Street and east by property of a railroad company; and (3) a 14/50 interest, as reflected by a declaration of trust executed by William Landwehr, 732 in lot 59 of the Common Fields of Cahokia, situated in the city of East St. Louis, Illinois, consisting of 40-7/100 acres, more or less. The first tract was accepted by petitioner at a valuation of $3,000, the second parcel at $1,000, and the third tract at $4,961.44, a total of $8,961.44 for all this property. The balance of $608.56 due petitioner was to be paid in cash. Therein petitioner agreed to release Charles Troll from all liabilities whatsoever, upon compliance with the terms of the instrument. The real estate described in the accord and satisfaction agreement was duly transferred on March 1, 1930, by Charles Troll to petitioner in accordance therewith for the full and adequate consideration of $8,961.44, as above set forth; and as to each tract or parcel the fair market value thereof did not exceed the valuation at which it was then accepted by petitioner On March 1, 1930, Charles Troll also transferred to petitioner for a recited nominal consideration the remaining undivided two-thirds interest in the portion of the lot representing the north portion of block 3241 of the city of St. Louis, which undivided two-thirds interest had a fair market value at that time of733 $1,650; an undivided one-third interest in a lot in block 3240 having a frontage 601 on Catalan Street, which had a fair market value at that time of $250; and an undivided one-third interest in a lot in block 3241 having a frontage on Catalan Street, which had a fair market value at that time of $600; and each of these fair market values was in excess of any nominal consideration paid therefor by petitioner. Before the deeds were executed by Charles Troll transferring the above property to petitioner, title to the property was examined by a title company at the instance of Harry Troll on behalf of the petitioner. By a declaration of trust executed February 28, 1930, Charles Troll declared that Edward Koeln had paid one half the taxes upon property purchased for $4,500 in 1922 by Troll, being the parts of lots representing the north portions of blocks 3240 and 3241 of St. Louis. Therein Charles Troll stated and agreed that Koeln should have the right, until 1950, to one half of any profit upon the sale of the property, the basis for the calculation of the profit to be the cost of $4,500 to Troll plus 6 percent interest thereon to date of sale. This instrument bears734 the written approval of the petitioner. This instrument neither adds to nor detracts from the values of the properties as we have fixed and found them as heretofore set forth. At March 1, 1930, Charles Troll was without funds and hence did not have cash to pay petitioner the balance of $608.56 which was due her under the accord and satisfaction agreement; but it was subsequently duly paid in cash by Harry Troll, another brother of petitioner, at the direction of Charles Troll, out of an amount collected by Harry Troll for Charles Troll under a deed of trust for $3,000. This deed of trust was held by petitioner to secure payment of the note for $10,000 executed in her favor by Charles Troll on January 1, 1929, as heretofore set forth. This cash payment settled the balance in full. Thereupon, petitioner surrendered the promissory note in the amount of $10,000, and released the deed of trust. On May 24, 1930, the respondent assessed taxes, penalties and interest for the years 1917 to 1921, inclusive, against Charles Troll in the total amount of $9,119.87. On June 23, 1930, the collector of internal revenue issued five warrants for distraint against Charles Troll covering735 the taxes, penalties and interest for the years 1917 to 1921, inclusive. In these warrants for distraint there is provided a blank space for the name of the deputy collector assigned to serve the warrants. This space in each of the warrants is blank. The space for the return of the deputy collector is blank on each warrant. No returns were made upon any of the warrants. There is no statement, certificate, affidavit, report or return that no assets were found or that there 602 were no assets belonging to Charles Troll. Unsuccessful attempts were made to serve the warrants on Charles Troll for two or three weeks. A deputy collector finally served these warrants on Charles Troll in the collector's office after Troll had come to such office in answer to a so-called "10-day letter." On July 2, 1930, the deputy collector filed with the clerk of the United States District Court at St. Louis a notice of tax lien. On July 3, 1930, he filed a similar notice with the recorder of deeds at St. Louis. Each notice showed that the amount of tax assessed against Charles Troll was $15,000. At the time he filed these notices of tax lien the deputy collector made efforts to locate736 some assets, but was unsuccessful. By letter dated November 13, 1931, the respondent proposed to assess against the petitioner, as transferee of the assets of Charles Troll, the deficiencies in tax, penalties, and interest assessed against Charles Troll as hereinabove set forth in the tabulation at the beginning of the opinion. The petitioner filed her petition with this Board on January 8, 1932, for the redetermination of her liability. Upon the foregoing facts, which we find, we are called upon to determine the liability of petitioner as transferee. The burden of proof is upon the respondent to show that petitioner is liable as a transferee. Title IX of the Revenue Act of 1924, as amended by section 602 of the Revenue Act of 1928.1 This burden includes the burden of showing that the transfer of the assets to the transferee rendered the transferor insolvent, or that the transferor was insolvent at the time of the transfer. , petition to review dismissed, ; 737 ; ; ; ; , affd., ; ; and . In , we stated in part: We have held that the statute places a real burden of proof on the respondent and that he must establish the liability of the transferee against whom he proposes to proceed. ; . * * * It has been held that before proceedings may be brought against a transferee it must appear that the remedies against the transferor would be of no avail. ; . * * * [Emphasis supplied.] 738 In , we stated in part, " but these facts do not prove insolvency immediately after the alleged distribution." (Emphasis supplied.) 603 In the instant proceeding the proof does not show that Charles Troll was insolvent at the time of the transfers in question, which was March, 1, 1930, or that he was rendered insolvent by such transfers to the petitioner. The only evidence as to Charles Troll's financial condition at March 1, 1930, is the evidence that he was without funds at that time and hence did not have cash to pay the petitioner the balance of $608.56, which was due her. However, this falls far short of proving that he was insolvent at the time. The word "funds" is defined in Webster's New International Dictionary, 1929 Ed., as "money and negotiable paper immediately or readily convertible into cash." Furthermore, the evidence shows that at the time of the transfers Charles Troll had at least one other assets, namely, the deed of trust for $3,000 which he authorized Harry Troll to collect in order to pay the petitioner the cash balance of $608.56 which was due her. There is no evidence upon which we can make739 a finding that on March 1, 1930, or at any other date, he had no assets aside from this deed of trust and the property transferred on March 1, 1930. It may be further pointed out that we have no evidence to show that Charles Troll had any liabilities at the time of the transfers on March 1, 1930, other than his liability to the petitioner and his liability to the Federal Government for taxes, penalties, and interest. Richard Wunsch, deputy collector, testified that at the time he filed the notice of tax lien on July 2 and 3, 1930, he made efforts to locate some assets of Charles Troll, but that he was unsuccessful. It is to be noted that the testimony of this witness is not directed toward proving what assets or liabilities Charles Troll had at the date in question, the controlling date, March 1, 1930, but to date more than four months later, and therefore, it is not sufficient to prove insolvency on March 1, 1930, the date of the transfers in question here. Even when considered as having some bearing upon the financial condition of Charles Troll at March 1, 1930, it is insufficient to establish that Charles Troll was insolvent at the date in question. He did not testify in740 detail as to the efforts he made to locate assets of the transferor and we can not, in the exercise of our independent judgment, determine from his testimony that Charles Troll did not have other assets or was insolvent. It is significant that he did not return any warrant of distraint nulla bona or make any return whatsoever upon any warrant of distraint in the form provided thereon for the purpose or in any other form. The form of rfeturn and accompanying instructions provided on each such warrant required a thorough search and a full report, in the form of a certificate, of the result over the signature of the deputy collector supported by his affidavit in the event of a "report of no property found liable to distraint." His conduct is open to the inference that he was not in a position as a matter of fact to make 604 such return. For all we know from the evidence adduced, Charles Troll may have had other assets on March 1, 1930, of a value sufficient to cover all of his liabilities. It is also important to note that the space on the reverse side provided for the return of the deputy collector in each of the warrants for distraint against Charles Troll is wholly741 blank, there being no return made as to any of the warrants; and we are therefore not called upon to decide, and do not decide, whether such returns, if they had properly shown that no assets could be found, would have been favored with a presumption of correctness as to the financial condition of the transferor as of the date of the transfers or otherwise. This proceeding is not governed by , petition to review dismissed by the United States Circuit Court of Appeals for the Third Circuit on February 8, 1932; ; affd., ; ; certiorari denied, , or other similar cases wherein the courts or this Board were satisfied from the evidence that the transferor was insolvent and that the Commissioner had met his burden of proof. It may not be amiss to point out that in , the court stated: Ordinarily a creditor must proceed to judgment against his debtor and have an execution returned bona before742 he can pursue third persons on his claim. [Citing cases.] * * But, where the debt is admitted [citing cases], and it is apparent that a judgment and execution against the debtor would be futile [citing authority] the procedural requirement may be dispensed with. * * * Here it is not apparent that Charles Troll was insolvent, and that it would have futile to proceed against him; and we must hold that respondent has not met the burden of proof in this respect. It may be pointed out that no legal lien attached to the property of Charles Troll which he transferred to the petitioner, by virtue of section 3186 of the Revised Statutes (sec. 613, Revenue Act of 1928 2), 605 since the earliest date under such section that such a lien might arise was the date the assessment list was received by the collector. Here the property in question was transferred on March 1, 1930, whereas assessment was not made by the respondent until May 24, 1930, and it was some time thereafter that the collector received notice. It was on July 2 and 3, 1930, that the collector filed notices of tax liens. 743 We have found as a fact that certain real estate transferred by Charles Troll to petitioner in partial satisfaction of the indebtedness under the accord and satisfaction agreement was transferred for a full and adequate consideration of $8,961.44. We have also found the values of the properties transferred by Charles Troll to petitioner, which were not in satisfaction of the indebtedness under the accord and satisfaction agreement, and which, so far as the record shows, were transferred for a nominal consideration. In arriving at all of these values which we have found we have taken into consideration all of the somewhat voluminous evidence bearing on the subject of values. In fixing and finding these values we attribute nothing to the declaration of trust executed February 28, 1930, since the fair market value of all of the property covered by it does not exceed $5,650 ($3,000+$1,000+$1,650), as fixed and found by us, and Edward Koeln, mentioned therein, under its terms, could not share in any profits on sale of the real estate therein described until $4,500 with interest at 6 per cent from some time in 1922 to the date of such sale on or before 1950 was realized, and this744 principal amount of $4,500 with interest totaled at least $6,335 on the date of the transfer, March 1, 1930; and, hence, Koeln then had no claim on petitioner. However, all these values which we have found as to the properties transferred for nominal considerations become of no consequence in view of our holding that respondent has not met the burden of provings. that Charles Troll was insolvent at the time of the transfer, March 1, 1930. In view of our holding upon the questions of insolvency, it becomes unnecessary to consider any of the other issues raised by the pleadings. It may be added, however, that we have found, as heretofore set forth, all the material facts which the whole record justifies. Decision will be entered that there is no liability on the part of the petitioner for taxes, penalties, or interest owing from Charles Troll for the years 1917 to 1921, inclusive.Footnotes1. SEC. 912. In proceedings before the Board the burden of proof shall be upon the Commissioner to show that a petitioner is liable as a transferee of property of a taxpayer, but no to show that the taxpayer was liable for the tax. ↩2. SEC. 613. LIEN FOR TAXES. (a) Section 3186 of the Revised Statutes, as amended, is amended to read as follows: "SEC. 3186. (a) If any person liable to pay any tax neglects or refuses to pay the same after demand, the amount (including any interest, penalty, additional amount, or addition to such tax, together with any costs that may accrue in addition thereto) shall be a lien in favor of the United States upon all property and rights to property, whether real or personal, belonging to such person. Unless another date is specifically fixed by law, the lien shall arise at the time the assessment list was received by the collector and shall continue until the liability for such amount is satisfied or becomes unenforceable by reason of lapse of time. "(b) Such lien shall not be valid as against any mortgagee, purchaser, or judgment creditor until notice thereof has been filed by the collector - * * ↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623635/	Madison Newspapers, Inc., Petitioner, v. Commissioner of Internal Revenue, RespondentMadison Newspapers, Inc. v. CommissionerDocket No. 54790United States Tax Court27 T.C. 618; 1956 U.S. Tax Ct. LEXIS 4; December 26, 1956, Filed 4 Decision will be entered for the respondent. Excess Profits Tax Act of 1950, Sec. 459 (c) -- Consolidation of Newspaper Operations. -- Petitioner was organized in 1948 upon a consolidation of two corporations publishing newspapers in the same city but in different buildings. Petitioner continued the publication of the two newspapers. In 1949 the mechanical, circulation, advertising, and accounting operations of the two newspapers were physically consolidated in one building, although the editorial departments remained separate. Held, the petitioner did not consolidate its mechanical, circulation, advertising, and accounting operations with those of another corporation and is not entitled to compute its average base period net income under section 459 (c), Internal Revenue Code of 1939. James P. Jones, Esq., for the petitioner.John E. Owens, Esq., for the respondent. Tietjens, Judge. TIETJENS618 The respondent determined a deficiency of $ 2,142.41 in income tax for the fiscal year ended September 30, 1950. The petitioner claims an overpayment of $ 3,280.65. Certain of the respondent's adjustments are not contested. The issues for decision relate to the application of section 459 (c) of the Internal Revenue Code of 1939. They are (1) whether the petitioner is entitled to compute its average base period net income under the provisions of section 459 (c), and (2) if so, is its computation of average base period net income correct?The returns of the petitioner and its predecessors were filed with the collector of internal revenue at Milwaukee, Wisconsin.619 FINDINGS OF FACT.Wisconsin State Journal Publishing Company and the Capital Times Publishing Company were Wisconsin corporations, each with its principal place of business in Madison, Wisconsin. They were both in operation from a period prior to January 1, 1946, and until November 15, 1948. Prior to November 15, 1948, 7 these corporations occupied separate buildings and each published a newspaper every evening from Monday through Friday and on Sunday morning. These were known, respectively, as The Wisconsin State Journal and The Capital Times. These corporations filed income tax returns for the calendar years 1946 and 1947.On November 15, 1948, these two corporations consolidated to form a new Wisconsin corporation called Madison Newspapers, Inc., the petitioner herein. The consolidation was effected pursuant to section 181.06 of the Wisconsin Statutes (1947 ed.). The stockholders of the Journal and the Times exchanged all their stock for stock in Madison Newspapers, Inc., which took over all the assets and assumed all the liabilities of the former corporations, and has since had its principal place of business in Madison, Wisconsin.The petitioner, as agent, filed a corporation income tax return for each of its predecessor corporations for the period January 1, 1948, to November 15, 1948, inclusive. For itself it filed a corporation income tax return for the fiscal period November 1, 1948, to September 30, 1949, and a corporation income and excess profits tax return for the fiscal year ending8 September 30, 1950.All the above-described returns were based upon an accrual method of accounting and were filed on or before their respective due dates, or such dates as extended.After November 15, 1948, steps were taken to enlarge the building theretofore occupied by the Journal. When the enlargement of the building was completed the mechanical, circulation, advertising, and accounting operations of the two newspapers were consolidated in this building. This consolidation was completed in August 1949. The editorial departments were kept separate in order to preserve the editorial independence which the two newspapers had always maintained.From November 15, 1948, to February 1, 1949, the petitioner published both an evening and a Sunday edition of each newspaper. After February 1, 1949, and through the taxable year involved, the petitioner published an evening newspaper called The Capital Times and a morning and Sunday newspaper called The Wisconsin State Journal.620 OPINION.The issues for decision relate to the computation of the petitioner's average base period net income for the fiscal year ended September 30, 1950, for purposes of subchapter D of chapter 1, Internal9 Revenue Code of 1939, added by the Excess Profits Tax Act of 1950 (Pub. L. 909, 81st Cong., 2d Sess., approved January 3, 1951). The petitioner's corporation income and excess profits tax return for such year reported an excess profits net income of $ 213,162.32 and claimed an excess profits credit of $ 441,515.84 by computing the average base period net income pursuant to section 459 (c). The respondent determined that the petitioner was not entitled to apply section 459 (c) and determined an excess profits credit of $ 147,178.50.Subchapter D of chapter 1 of the Internal Revenue Code of 1939 imposed an additional tax for each taxable year ending after June 30, 1950, and before July 1, 1953, upon the adjusted excess profits net income, as defined therein, of corporations. Part I of subchapter D, sections 430 to 459, inclusive, deals with the rates and computation of the tax. Part II, sections 461 to 465, inclusive, deals with the computation of the credit based on income in connection with certain exchanges. Parts III and IV are not here involved. In the computation of adjusted excess profits net income, section 434 allows an excess profits credit computed under section 43510 or section 436, whichever results in the lesser tax. The credit under section 435 is based upon average base period net income, the base period being usually the taxable years 1946 through 1949. The credit under section 436 is based upon invested capital. The petitioner elected to use the credit based upon income. Section 435 (c) provides:For the purposes of this section the average base period net income of the taxpayer shall be the amount determined under subsection (d), subject to the exception that if the taxpayer is entitled to the benefits of subsection (e) of this section, or section 442, 443, 444, 445 or 446, or any subsection of section 459, then the average base period net income shall be the amount determined under subsection (d) or (e) or under such section or subsection, whichever results in the lesser tax under this subchapter for the taxable year for which the tax under this subchapter is being computed. [Emphasis supplied.]Section 435 (d) provides for computation of the average base period net income upon the basis of the general average of the excess profits net income for the base period and section 435 (e) provides for an alternative computation based11 upon growth. Sections 442, 443, 444, 445, and 446 provide alternative methods of computing average base period net income in certain circumstances. Section 459 which was 621 added by the Revenue Act of 1951, enacted October 20, 1951, provides further alternative methods available in various other circumstances. A taxpayer is entitled to use the most favorable method applicable in its circumstances.Part II of subchapter D (secs. 461-465) relates to the privilege accorded "acquiring corporations" to use the base period experience of their predecessors, referred to as "component corporations," if such use would give the acquiring corporation a greater excess profits credit than otherwise. The term "acquiring corporation" includes a corporation resulting from a statutory merger or consolidation of two or more corporations. (Sec. 461 (a) (3) and (4).) 1 The petitioner is an "acquiring corporation" within the definition in section 461 (a) (4). Accordingly, under section 462 (a) 213 its average base period net income may be determined by computing its excess profits net income either with or without reference to section 462 (b). The respondent computed the petitioner's average12 base period net income by applying section 462 (b), a method which takes into consideration the base period experience of its component corporations. 3622 Section14 459 (c)4 granted retroactively an alternative method of computing average base period net income to a taxpayer engaged primarily in the newspaper publishing business in its last taxable year ending before July 1, 1950. (The year here involved ended September 30, 1950.) Several conditions must be met if a taxpayer seeks to use this alternative method. As one condition it was necessary that the taxpayer consolidate its mechanical, circulation, advertising, and accounting operations in connection with its newspaper publishing business with such operations of another corporation engaged in the newspaper publishing business in the same area. (Sec. 459 (c) (1).) This provision clearly refers to a physical consolidation of facilities; not a statutory consolidation of corporations.15 The petitioner was primarily engaged in the newspaper publishing business in its last taxable year ending before July 1, 1950. It published two newspapers, at first in separate buildings. Between November 15, 1948, and August 1949 (which is after the first half of its base period and prior to July 1, 1950), it physically consolidated in one of these buildings its mechanical, circulation, advertising, and accounting operations in connection with its newspaper publishing business and thereafter published two newspapers using the same operating departments. The respondent says that the petitioner did 623 not consolidate its operating departments with those of another corporation engaged in the newspaper publishing business in the same area; what it did was to consolidate its own two operating departments, that this does not meet the requirements of section 459 (c) (1), and hence the petitioner is not entitled to apply section 459 (c) in computing its average base period net income.The petitioner contends that since it is an "acquiring corporation" within the definition in section 461 (a) (4), and is entitled to use the base period income experience of its components in 16 the determination of its average base period net income and excess profits credit, it may treat the consolidation of the operating departments acquired from one of its components with the operating departments acquired from the other as a consolidation within the scope of section 459 (c) (1).While section 462 (b) authorizes inclusion of the base period excess profits income of components in determining average base period net income of an acquiring corporation, this authorization does not apply to the situation before us. The component corporations did not consolidate their operations for they had ceased to do business before the physical consolidation of the operating departments was begun. The petitioner, as the respondent points out, did not consolidate its operating departments with those of another corporation. The language of the statute is clear and cannot by implication be extended to a consolidation of two departments of the same corporation such as took place here. The petitioner does not meet the requirements of section 459 (c) (1) and is not entitled to compute its average base period net income in accordance with section 459 (c).The petitioner also refers17 to remarks of the respondent's counsel at the hearing indicating a view that an acquiring corporation resulting from a merger might qualify as a taxpayer entitled to apply section 459 (c) while an acquiring corporation resulting from a consolidation, such as the petitioner, may not, and contends that such a narrow distinction is hypertechnical in the interpretation of so severe a revenue measure as the excess profits tax act. The petitioner argues that since the Wisconsin statutes make no distinction between mergers and consolidations in their effects no such distinction is warranted in the application of the excess profits tax.We do not have a merger situation before us and are not called upon to decide whether a continuing corporation following a merger may apply section 459 (c). The remarks of respondent's counsel in this case concerning such a situation are not controlling and do not bar the respondent from litigating such an issue should it arise in another case.In view of our conclusion it is not necessary to consider whether the petitioner has met the other requirements for qualification or to discuss the computation of the average base period net income 624 authorized18 by section 459 (c), nor do we consider it necessary to make the findings of fact incident to such qualification or computation.In reaching the above conclusion we wish to emphasize that it appears to us that section 459 (c) is not a section of general application. Its provisions are unusually specific and as to its application this Court can neither add to nor subtract from the precise situation to which Congress by the words used meant this special provision to apply.Decision will be entered for the respondent. Footnotes1. SEC. 461. DEFINITIONS.For the purposes of this Part --(a) Acquiring Corporation. -- The term "acquiring corporation" means -- * * * (3) A corporation the result of a statutory merger of two or more corporations; or(4) A corporation the result of a statutory consolidation of two or more corporations.↩2. SEC. 462. AVERAGE BASE PERIOD NET INCOME -- DETERMINATION.(a) In General. -- In the case of a taxpayer which is an acquiring corporation, for the purposes of the determination of its average base period net income under section 435 (c), its average base period net income determined under section 435 (d) may be determined by computing its excess profits net income either with or without reference to section 462 (b), * . The excess profits net income of such acquiring corporation, computed with reference to section 462 (b), shall be the excess profits net income for each month of the acquiring corporation's base period, and for the additional period ending June 30, 1950, increased or decreased, as the case may be, by the addition or reduction resulting from including the excess profits net income for that month of all component corporations in the manner provided in subsection (b).↩3. (b) Method of Recomputation of Excess Profits Net Income of Acquiring Corporation. -- (1) The excess profits net income for each month in the base period of the acquiring corporation and for each month in the additional period ending June 30, 1950, shall be determined in the case of the acquiring corporation, and of any component corporation, as provided in section 435 (d) (1) without regard, however, to that part of such section which provides that in no event shall the excess profits net income of any corporation for any month be less than zero. * * *(3) For every month of the acquiring corporation's base period and for each month thereafter for the period ending June 30, 1950, there shall be added to the excess profits net income of the acquiring corporation for that month, as determined under paragraphs (1) and (2), the excess profits net income of each component corporation for that month so determined. The excess profits net income of the acquiring corporation for any month, recomputed as provided in the previous sentence, shall, in no event, be less than zero.↩4. SEC. 459. MISCELLANEOUS PROVISIONS.(c) Consolidation of Newspaper Operations. -- In the case of a taxpayer engaged primarily in the newspaper publishing business in its last taxable year ending before July 1, 1950, if -- (1) After the close of the first half of the base period of the taxpayer and prior to July 1, 1950, the taxpayer consolidated its mechanical, circulation, advertising, and accounting operations in connection with its newspaper publishing business with such operations of another corporation engaged in the newspaper publishing business in the same area; and(2) The taxpayer establishes to the satisfaction of the Secretary that, during the period beginning with the consolidation and ending with the close of the first taxable year beginning after the consolidation, such consolidation resulted in substantial reductions in the amounts which would otherwise have been paid or incurred as expenses in the conduct of the operations described in paragraph (1); and either(3) The total deductions of the taxpayer under section 23, computed without regard to section 23 (s) and (bb), for the first taxable year beginning after such consolidation were not in excess of 80 per centum of the average of such deductions for the two taxable years of the taxpayer next preceding the taxable year in which such operations were consolidated; or(4) The excess profits net income of the taxpayer, computed as provided in section 433 (b), for the first taxable year of the taxpayer beginning after such consolidation was 125 per centum or more of the amount determined under section 435 (d) (4); the taxpayer's average base period net income determined under this subsection shall be an amount computed under section 435 (d) plus an amount equal to the excess of the average of the amounts paid or incurred as expenses in the conduct of the operations described in paragraph (1) during the two taxable years of the taxpayer next preceding the taxable year in which such operations were consolidated over such amounts paid or incurred during the first taxable year of the taxpayer beginning after such consolidation. In determining such excess amount proper adjustment shall be made for increase in labor costs and newsprint following such consolidation. Proper adjustment shall also be made for any case in which a taxable year referred to in this subsection is a period of less than twelve months. This subsection shall not be applicable to any taxable year of the taxpayer unless the consolidation described in paragraph (1) was continued throughout such taxable year.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623636/	RALPH W. BALES AND RUTH C. BALES, ET AL., 1 Petitioners v. COMMISSIONER OF INTERNAL REVENUE, Respondent Bales v. CommissionerDocket Nos. 12479-82, 28639-84, 18832-82, 28657-84, 4499-83, 28681-84, 12274-83, 28787-84, 13174-83, 28938-84, 13800-83, 29108-84, 14178-83, 29111-84, 14956-83, 29404-84, 16414-83, 29464-84, 18099-83, 29594-84, 24307-83, 29681-84, 21409-84, 29701-84, 28638-84, 1970-85.United States Tax CourtT.C. Memo 1989-568; 1989 Tax Ct. Memo LEXIS 581; 58 T.C.M. (CCH) 431; T.C.M. (RIA) 89568; October 19, 1989. Jim Dismukes,Douglas A. MacDonald,John M. Bekins,Thomas E. Smail, Jr., for the petitioners. Theodore Garelis, for the respondent. SCOTT MEMORANDUM FINDINGS OF FACT AND OPINION SCOTT, Judge: These consolidated cases were assigned to Special Trial Judge Daniel J. Dinan pursuant to section 7456(d) (redesignated as section 7443A(b) by the Tax Reform Act of 1986, Pub. L. 99-514, section 1556, 100 Stat. 2755), and Rules 180, 181, and 183. 2 The Court agrees with and adopts his opinion which is set forth below. OPINION OF THE SPECIAL TRIAL JUDGE DINAN, Special Trial Judge: These cases were consolidated for trial, briefing, and opinion. The 26 dockets which were tried are test cases for petitioners586 in similar partnerships. Some of those other petitioners have stipulated to be bound by the opinion in these consolidated cases. Respondent determined deficiencies in petitioners' Federal income taxes and additions to tax as set forth in appendix B. The deficiencies in tax result from respondent's disallowance of losses and investment tax credits incurred by petitioners in their investments in cattle breeding partnerships. The issues for decision are: (1) whether the purchase price of the cattle was within a reasonable range of their actual value; (2) whether the benefits and burdens of ownership transferred from seller to buyer; (3) whether petitioners had a profit objective when entering into these transactions; (4) whether the expenses incurred by the partnerships were ordinary and necessary; (5) whether petitioners are entitled to deductions for interest; (6) whether petitioners are entitled to depreciation allowances; (7) whether petitioners are entitled to deduct the management fee; (8) whether petitioners are entitled to investment tax credits; (9) whether petitioners are entitled to capital gains treatment on the disposition of the cattle; and (10) whether petitioners587 are liable for an increased rate of interest under section 6621(c) for entering into a tax motivated transaction. Some of the facts have been stipulated. The stipulations of fact and accompanying exhibits are incorporated by this reference. At the time the petitions were filed in these cases all petitioners resided in California, except for two petitioners who resided in the following places: PetitionerDocket No.Place of ResidenceBales12479-82 TexasPugh29681-84 Saudi ArabiaFINDINGS OF FACT These cases concern various transactions between petitioners as investors in cattle breeding partnerships and the Hoyt family as promoters and managers of the breeding partnerships. BackgroundThe Hoyt family first became involved in raising cattle in the early 1950s. Walter J. Hoyt, Jr. began by purchasing cattle for his sons who raised and showed them at 4H and FFA events. Soon thereafter Mr. Hoyt decided to get in the actual business of raising cattle. He began without much direction. He bought registered Shorthorns here and there. This approach caused him to accumulate a conglomerate of cattle from other cattlemen's breeding programs. Sometime588 in the early 1960's, he decided to get serious about developing his own purebred program. He sold off the cattle he had previously purchased and embarked on a plan to raise his own purebred herd. He bought cattle that fit his model. On occasion he purchased entire small herds from other breeders to give some uniformity to his new herd. The cattle Walter J. Hoyt, Jr. purchased in the early 1960's cost him approximately $1,500 a head. The uniform Shorthorns he purchased in the early 1960's became known as the "Hoyt Base Cows." These cows were so named because they formed the genetic base that produced the cows involved in the partnerships and even the cows on the ranch today. The data available on the "Hoyt Base Cows" is less extensive than the data on the cattle raised by the Hoyts because the Hoyts kept better records on the cattle they raised. In order to increase his herd, Walter J. Hoyt, Jr. needed new capital. He raised capital by selling some of his cows to neighbors and friends. After he sold them he would enter into an agreement to manage the cows sold. The management fee would be paid either on a crop share or cash basis. The sale of these cows and the management589 agreement were all done orally. The persons who purchased these cattle often had the cattle registered in their names. However this caused a problem when trying to sell them because those persons did not have the same name recognition as Walter J. Hoyt, Jr. did. In January 1972, Walter J. Hoyt, Jr. died. His sons took over the cattle operation after his death. Generally speaking Walter J. Hoyt III (hereafter Jay Hoyt) took over the business end of the operation and Richard D. Hoyt (hereafter Ric Hoyt) took over the breeding end of the operation. Their brother Steve Hoyt is also involved; he runs the farming operation. Their sister Jana works in the office. In December 1971, the general partnership of Walter J. Hoyt and sons, which consisted of Walter J. Hoyt, Jr. and his five sons, was converted into a California limited partnership. Walter J. Hoyt, Jr., Jay Hoyt, and Ric Hoyt were general partners. Seth Hoyt, Steven A. Hoyt, Jeffrey K. Hoyt, Bruce C. Smith, Mildred Summers, and Lola Hillman were limited partners. This limited partnership was formed shortly before Walter J. Hoyt, Jr.'s death. However, because of his death the limited partnership was never implemented. Its590 only asset is a membership in the American Shorthorn Association. The name, Walter J. Hoyt and Sons, which is the name registered with the American Shorthorn Association, is the herd name for the Hoyt cattle operation. Hoyt & Sons is a partnership consisting of Ric Hoyt, his brother Steve, his sister Jana, and his sister-in-law Betty Jean (Jay Hoyt's wife). Hoyt & Sons was the owner of the cattle (the progeny of the Hoyt Base Cows) sold to the partnerships in the 1970's. Jay Hoyt is not a partner in Hoyt & Sons. 3The PartnershipsIn 1971 the Hoyts decided to expand their cattle operation. They raised the capital to do this by forming limited partnerships and selling interests therein to interested investors. The investors in these limited partnerships are mainly local people who know Jay Hoyt personally or591 know someone who knows Jay Hoyt. The investors are primarily wage earners who were looking for an investment for their retirement. The first limited partnerships formed were Florin Farms #1, #2, #3, #4, and #5, respectively. They were formed in 1971. Certificates and Articles of Limited Partnership were filed in Sacramento County, California. Some of the partners in these partnerships were persons who had previously invested in Hoyt cattle. Those persons contributed their cattle to the partnerships as capital contributions. In 1973 Jay Hoyt formed another limited partnership, Durham Farms #1. In 1979 Jay Hoyt formed Durham Farms #2, #3, and #4, respectively. Certificates and Articles of Limited Partnership were filed in Washoe County, Nevada, for these partnerships. In 1975 Jay Hoyt formed limited partnerships entitled Washoe Ranches #1 and #2, respectively. In 1976 he formed the additional limited partnerships of Washoe Ranches #3, #4, #5, and #6. Certificates and Articles of Limited Partnership were filed in Washoe County, Nevada. Jay Hoyt is the general partner in all these limited partnerships. In later years he formed additional Durham Farms, Florin Farms, and592 Washoe Ranches limited partnerships. The limited partnerships were formed to engage in the business of cattle breeding. The certificates and articles of limited partnership also constitute the partnership agreement. The partnership agreements grant the general partner a power of attorney on behalf of all the limited partners in the partnership. The agreements also set forth the allocation of profits, losses, and assets amongst the partners. In addition, the agreements give the general partner full, exclusive, and complete management and control over the affairs of the partnership. Further, the general partner has the sole authority to make decisions affecting the partnership. The agreements, in the portion applicable to limited partners, state that limited partners shall not take part in the management of the business or transact any business for the partnership. The limited partners may, by majority vote, remove the general partner from the partnership and elect a successor in interest. In order for a limited partner to assign his interest he must have prior written consent from the general partner. The agreements can be amended by an affirmative vote of partners owning a 50-percent593 capital interest but only after the amendment has been proposed by a group of partners having at least a 40 percent capital interest. A partner cannot withdraw or have his interest redeemed unless the partnership dissolves. A partnership can only be dissolved by bankruptcy, receivership, dissolution by the general partner, or by written consent or vote by a group of partners having 66-2/3 percent of partnership capital. The partnerships would dissolve by their own terms in 1990. The agreements go on to state that if a partnership is dissolved, the general partner shall wind up the partnership's affairs, sell the assets after paying off all liabilities including the cost of dissolution, and then distribute the remainder to the limited partners as their interests appear. The general partner is fully liable for partnership debts. The Certificates and Articles of Limited Partnership were signed by Jay Hoyt as general partner and by Jay Hoyt as attorney-in-fact for each limited partner. These documents, along with the other relevant documents in these cases, were drafted by the Hoyts. They were laymen. No attorneys were employed to draft or assist in drafting these documents. 594 Persons interested in buying into one of the partnerships would sign a subscription agreement which stated that they intended to purchase X units of a limited partnership interest. The units are in denominations of $2,500. The units were to be paid off in five equal installments. In many instances, investors paid money to Jay Hoyt for partnership interests in a year prior to the year the subscription agreement was signed. The following example illustrates this. An investor wishes to buy into the Hoyts' cattle operation. He writes a check to Jay Hoyt for X dollars in December 1976. When Jay Hoyt prepared the investor's tax return the following spring, he would have the investor sign a subscription agreement which included the amount already purchased. The investor claimed the tax benefits of investing in the partnership in 1976. The investor would also grant Jay Hoyt a power of attorney orally when that investor purchased the partnership units. Jay Hoyt would use the power of attorney to sign the investor's name on the limited partnership's Certificate and Articles of Limited Partnership. In addition to his job as the promoter and general partner of these partnerships,595 Jay Hoyt served as a tax preparer for the limited partnerships and for the investors personally. Although not required to do so, it appears that virtually all of the investors chose to have Jay Hoyt prepare their returns during the taxable years in issue. The return preparation service was a part of the entire investment package offered to the investors. Jay Hoyt tried to meet with each investor every year to report on the progress of the partnerships. In 1982 many of the limited partners executed instruments which either were to ratify previous oral agreements or modify previous written agreements. These changes were made after the Internal Revenue Service began its investigation of these partnerships in 1981. The new instruments included written powers of attorney authorizing Jay Hoyt to act as the limited partner's attorney-in-fact, declarations of limited partner, a subscription agreement, and a partnership agreement. Each of the partnerships elected the cash basis method of accounting on its partnership return for the years in issue. Sale of CattleThe limited partnerships were formed to raise cattle. Breeding cows (heifers) were purchased from the Hoyt family, 596 i.e., Hoyt & Sons. Hoyt & Sons sold heifers to the partnerships in exchange for promissory notes for the entire purchase price. The sales were evidenced by a bill of sale. The bill of sale listed buyer and seller, the number of cattle sold, and the price per head. The seller on the bill of sale was usually "Hoyt & Sons" by either Steve Hoyt, Ric Hoyt, or Betty Jean Hoyt (Jay's wife). However, some of the bills of sales list the seller as W. J. Hoyt & Sons. Jay Hoyt did not sign any of the bills of sale on behalf of Hoyt & Sons. The buyer on the bills of sale would be one of the limited partnerships, Florin Farms #1, for example. The bills of sale did not identify the cattle individually. However, Ric Hoyt testified, and we have no reason to disbelieve him, that attached to each original bill of sale were the registration certificates to all the cattle sold in that particular transaction. The registration certificates identified the cattle sold. However, those registration papers were not attached to the bills of sale received into evidence as stipulated exhibits in these cases. Received into evidence as stipulated exhibits are inventory sheets which list the cattle purchased, 597 the year of purchase, and replacement cattle. The lists are by cow identification number. The registration number, name, and cow or sire's identification number are listed. Some of the purchases occurred in taxable years prior to the taxable years in issue. However, most purchases occurred during the taxable years in issue. The following table shows the number of cattle sold during the taxable years in issue 4 and the price paid per head: Number of HeadPrice Per Head1977704$3,500 66 2,0001 1,50018 700 1 600 2 500 2 250 5 200 2 100 19785183,5001 2,5001 1,5004 850 1 120 19792584,0004643,5002 1,2501 1,1001 1,0003 750 2 250 Most of the cattle sold to the partnerships were represented on598 the bills of sale to be registered Shorthorn heifers. Others were appendix registered and/or crossbred. Some were "grade" heifers. The seller in all but one of these sales was Hoyt & Sons. The one sale in which Hoyt & Sons was not the seller was a sale between A. Walker Ranches and Washoe Ranches #5. Forty-three head of cattle were sold in that transaction. A. Walker Ranches is owned by Albert C. Walker, Jr., a person unrelated to the Hoyts. In that sale, 32 2-3 year old bred heifers were sold for $2,500 per head, 11 2-3 year old bred heifers were sold for $3,000 per head, 9 one year old open heifers were sold for $1,500 per head, and one catch calf 5 was sold for $100. The terms of sale and the financing were the same as the transactions with Hoyt & Sons. A. Walker Ranches also managed at least some of these cattle. The notes which financed the purchase price called for interest to be paid at 6 percent per annum on the unpaid balance, the first599 payment to begin one year after the note was signed. 6 Principal is to be paid off in equal installments with the first installment due usually five years after the note was signed. The lapse of time between the inception of the loan and principal payment date basically mirrors the interval between cattle generations, which is four to five years. 7The cattle purchase notes are to be paid off with calves raised by the partnerships and with cash contributed to the partnerships. 8 Proceeds from the sale of culled cows are also to be used to pay off principal but not interest on the notes. The partnerships deducted interest paid to Hoyt & Sons on their partnership tax returns. 600 There are no restrictions on the partnership's liability on the notes -- they are completely recourse. There are provisions in the notes which hold the limited partners personally liable on the notes. The limited partners chose to become personally liable on the notes in order to get an increase in their partnership basis. The notes themselves state that a limited partner is personally liable on the loan in the amount he assumes. The partnerships referred to this amount as the "atrisk" account. A limited partner, together with Jay Hoyt, would determine how much in losses he/she needed for that taxable year. The limited partner would then assume enough partnership debt to increase his basis enough to deduct the partnership losses previously determined. Liability allocations were done after the close of the tax year but before the return was filed. The allocations were done pursuant to an oral modification in the partnership agreement. Petitioners concede in their opening brief that these special and retroactive allocations are impermissible. As of trial, very few of the partnership notes had been paid off. Indeed, only interest had been paid on most notes; principal payments601 had been made on very few notes. Nevertheless, it appears that the payment schedules have been followed on the notes. 9The partnerships deducted depreciation allowances on the breeding cattle. They used accelerated methods of depreciation, mainly 200 percent declining balance but also sum of the years digits, converting to straight line depreciation in later years. They used cost as basis and seven-year class life (1.21 asset guide line class per Rev. Proc. 77-10, 1 C.B. 548">1977-1 C.B. 548, 552) as the useful life. The Bank FiascoIn 1982 Hoyt & Sons had a run-in with one of their major creditors, First Interstate Bank. In that part of the country 1981 had been a drought year. Many of the bank's customers had gone broke as a result. The Bank was concerned that it did not have sufficient collateral to secure its line of credit with Hoyt & Sons. The bank did not have a security interest in the partnership notes. They pressured Hoyt & Sons to use some of the partnership cattle as collateral on the notes -- notwithstanding the fact that Hoyt & 602 Sons no longer owned the cattle. They also pressured Hoyt & Sons to amend the terms of the bills of sale. The amendment recognizes a pre-existing security interest in the partnership cattle by the bank. The Hoyts, not the bank, drafted the amending agreements. However, the bank had to "approve" the language in the agreements. The Hoyts claimed they were coerced into making the changes. The bank claimed that no duress was used to get the Hoyts to change the agreements. Anyone who reads those documents can readily tell that the bank's heavy hand was present when the new agreements were drafted. The changes (amended agreements) were never put into use. After all of this occurred, the Hoyts went out and negotiated a new loan from a different lender, Production Credit Association. They used the proceeds from that loan to pay down the loan from First Interstate Bank. The bank released its security interest in the partnership cattle. Hoyt & Sons later sued the bank for its conduct. That litigation was still pending at the time of trial in these consolidated cases. The Management AgreementThe limited partnerships themselves did not manage the cattle. The partnerships'603 cattle were managed by W. J. Hoyt & Sons. W. J. Hoyt & Sons agreed to provide the management for all cattle owned by the partnerships, to pay all expenses 10 in managing the herd, and to provide breeding bulls (stud service). The partnerships paid for these services on a crop share basis, the crop being raised calves and culled cows. The calves paid to the management company were the calves left over after the herd had been increased by 10 percent with new calves (replacement heifers). The agreements were signed by Ric Hoyt on behalf of W. J. Hoyt & Sons and by Jay Hoyt on behalf of the limited partnerships. 11In 1976, Jay Hoyt formed W. J. Hoyt & Sons Management Company. Its purpose was to manage the partnership cattle. W. J. Hoyt & Sons Management Company is a Nevada Limited Partnership. Jay Hoyt is the general partner and the limited partnerships (i.e., Florin Farms #1 through #6, Durham Farms #1 through #4, Woshoe Ranches #1604 through #6) are each limited partners. On May 1, 1976, a new share crop operating agreement was entered into. It was similar to the previous agreement. Jay Hoyt signed the agreement on behalf of W. J. Hoyt & Sons and also on behalf of the limited partnerships. On January 1, 1978, another management agreement was entered into between W. J. Hoyt & Sons and each of the limited partnerships. The 1978 agreement is similar to the previous management agreements, but adds two new provisions. The first addition is that there will be allowed a 5-percent reduction for culled cows before the herd is increased by 10 percent with replacement heifers. This decreases the number of calves retained by the limited partnerships as compared to the prior arrangement. The second new provision is that W. J. Hoyt & Sons agrees to use the raised calves to: Pay when due, interest expense and principal payments on notes for the purchase of cattle owed by [the limited partnership] as they become due to [the limited partnership's] creditors. The amount of interest expense to be paid by the managers each year on behalf of [the limited partnership] will be negotiated each year and the amount will605 reflect current market conditions of the cattle business and the number and value of registered cattle produced by [the limited partnership] herd that year. 12Although the agreements are between the limited partnerships and W. J. Hoyt & Sons, a Nevada partnership, not W. J. Hoyt & Sons Management Company, a Nevada limited partnership, we believe that W. J. Hoyt & Sons is the Nevada Limited Partnership management company. Both the management company's tax returns and the Articles of Limited Partnership refer to the entity as W. J. Hoyt & Sons. The management company incurred many expenses in managing the herd. Among these were labor, repairs and maintenance, interest, pasture rent, feed, supplies, etc. These expenses created large losses for the management company because it had very little revenue. The management company's losses passed through proportionately to its limited partners, which were the limited partnerships. The management company reported income from the sale of culled cows (reported as section 1231606 gains) 13 and from the sale of calves (reported as ordinary income). 14The management company listed a large asset on its return which was a debt due from the limited partnerships. We assume this debt is there to create basis in the limited partnerships so that they could claim the losses which passed through to them from the management company. There is no evidence of this debt in the record. Furthermore, there is no evidence that the limited partnerships contributed any capital to the management company to create basis in their partnership interests. Another expense of the management company was the guaranteed payments made to Jay Hoyt for his services as general partner. 15It is unclear607 as to the total number of calves retained by the management company as payment for its management services under the share crop operation agreement. Nor do we know the price assigned to each calf transferred. Furthermore, it is unclear as to the number of calves transferred from the management company as an agent for the partnerships to Hoyt & Sons as payment on the notes. We do have in evidence an inventory sheet which lists documents given to respondent by attorneys for petitioners. The documents listed on the sheets are records of how many calves were kept as replacements, how many were given to the management company under the sharecrop operating agreement, and how many were given to Hoyt & Sons as payments on the notes (both principal and interest). The records themselves are not in evidence. The lists show the amount of calves transferred to each entity as follows: W. J. Hoyt & SonsManagement CompanyHoyt & SonsYear(Number of Head)(Number of Head)1980633234197954 75 197817273 1977263269Even assuming these amounts to be genuine, we still do not know what the price per calf is. The price was to be negotiated608 at the end of the year based on current market conditions. As for culled cattle used to pay principal on the notes, we do have some indication that the partnerships sold culled cows to Hoyt & Sons. These were cattle which did not fit the program. Many were heifers which did not become pregnant. There are some bills of sale which show the number of cattle sold back to Hoyt & Sons and the price per head. The Purebred Cattle BusinessThe partnerships in these cases raised Shorthorn cattle for which they paid top prices. Respondent determined that the price paid was excessive. Given these two diametrically opposed opinions, we must decide what the actual value was. However, before we can decide value we must ascertain what it is that petitioners purchased and what makes what they purchased valuable. Most cattle operations are commercial operations (96-97 percent). A commercial operator raises cattle to sell as beef. Those cattle derive their value then from the marketability of their beef. Accordingly, a commercial cattleman wants cattle that have marketable beef and that can be raised at the lowest cost possible. This means that commercial cattle must gain weight609 rapidly but efficiently. For the most part commercial cattle are not purebred. The other type of cattle operation is a purebred operation (approximately 4 percent). Purebred operators, also known as seedstock producers, work with registered cattle. A seedstock producer reaps his profit, not from selling beef value like the commercial cattleman, but rather from selling breeding value to a buyer. A seedstock producer, in order to stay competitive, must react to changes in the marketplace by changing and improving the quality of his registered cattle herd. He accomplishes this by selective breeding and culling poorly performing cows. One important goal of any purebred breeding program is the consistency of desired traits. Consistency of traits enables a breeder to predict with some accuracy which traits will be passed from one generation to the next. Not all traits can be predicted with the same accuracy. The predictability of a trait is referred to as heritability. A trait which has a low heritability is one whose passage from one generation to the next cannot be predicted with much accuracy. Conversely, a trait with a high heritability is a trait whose passage from one generation610 to the next can be predicted with some accuracy. Changes in traits from one generation to the next are caused by gene action. Predictability of important traits is vital because if a superior trait from a purebred animal is not passed on to its offspring, that purebred animal's superior genetics are of no value. This is so quite simply because the thing that gives the animal value is superior genetics but if those superior genetics cannot be predicted with some accuracy that animal has lost its breeding value. Another important goal of a purebred program is continued genetic improvement through selective breeding. In order to stay competitive, a seedstock producer must continually improve his product. Cattle which were considered top of the breed in 1950 would be considered "old-fashioned" and out of step with today's demands. For example, as beef consumers become increasingly aware of the health risks associated with fatty, high cholesterol foods the need to raise cattle with lean beef has become very important. Producing cattle that have leaner beef is done through selective breeding. In order for a breeder to make breeding decisions which result in calves with the desired611 traits, a breeder must be experienced and have extensive records on his breeding stock. Without these records a breeder must guess. As previously stated, a purebred producer sells breeding value. Breeding value is determined by the relative quality of the genetics of the purebred animal. A purebred operator sells breeding value or superior genetics by selling bulls. Genetic progress is made primarily through bulls because one bull can have many offspring 16 in a single breeding season while a cow normally only has one offspring per breeding season. Accordingly, if a cattleman wants to improve the quality of his calves, the quickest way is through a good bull. The persons who purchase these bulls are generally commercial cattlemen. They use these bulls, known as range bulls, to impregnate their herd of cows. These cows then give birth to calves which are raised for beef. A good range bull can quickly improve the quality of the commercial cattleman's calf crop. For example, assume a commercial cattleman's calves are averaging612 1,000 pounds yearling weight. The cattleman purchases a range bull whose yearling weight is 1,200 pounds. The calves sired by that bull, from the same cows as before, will weigh more than the calves who averaged 1,000 pound yearling weight but less than the bull's 1,200 lbs. yearling weight. If all this works, or in other words if the bull's genetics perform as predicted, the commercial cattleman should have heavier calves than before and therefore a more profitable operation. Therefore, what gives these range bulls their value is their ability, through superior genetics, to raise the average quality of a commercial cattleman's calf crop. There are exceptions to the aforementioned generalities regarding the productivity of bulls and cows. The exceptions are artificial insemination (AI) and embryo transplanting. AI is a procedure whereby semen is drawn off a bull and implanted in a cow's uterus. One bull's semen can be implanted in literally hundreds of cows. This procedure allows one bull to impregnate many more cows than he could by naturally servicing them. Because this procedure is very expensive it is only done on top of the line bulls. Embryo transplanting is a procedure613 whereby a fertilized egg is removed from a cow and transplanted into another cow, referred to as the host cow. The host cow then carries the fertilized egg to term and gives birth to a calf with the donor cow's genetics. The genetics of the host cow are of no consequence. The main requirement is for the host cow to be healthy. What makes this procedure effective is that the donor cow can be injected with fertility hormones which cause that cow to superovulate. Superovulation occurs when many eggs become available for fertilization instead of the normal one egg per estrous cycle. After the cow super ovulates, the eggs are fertilized by AI, flushed from the donor cow and then implanted in host cows. This allows a single superior cow to produce many offspring in a single breeding season. Again, like AI it is very expensive and only done with top of the line cows. These new technologies notwithstanding, for the average commercial cattleman, the most economical way to increase the quality of a calf crop is by using a good range bull. AI and embryo transplanting are mainly used on purebred cattle for the purpose of genetic improvement. The Shorthorn BreedThe cattle sold in614 these cases are of the Shorthorn breed. Shorthorn is one of three basic breeds raised in North America, the other two being Angus and Herefords. All three of these breeds originated from the United Kingdom. The Shorthorn breed is known primarily for its maternal traits. The Shorthorn breed, like many breeds, has a trade association which oversees it. The association is called the American Shorthorn Association (ASA). The ASA maintains a herdbook which is a record of all the Shorthorns registered with it. The ASA issues a registration certificate for a Shorthorn once the animal is recorded in the herdbook. A registration certificate contains the following information: birthdate, sex, tattoo, sire, dam, color, whether horned or polled, the breed's name, and the owner of the pedigree. It is a common industry practice to register cattle under a herd name even though the cattle are owned by someone else. In 1985 there were 18,201 Shorthorn registrations. Of these, 20-25 percent were on the appendix registry. On average, registrations are 1/3 male and 2/3 female. There is no way to determine how many Shorthorns there are and how many registered Shorthorns there are. This is615 because not all Shorthorns are registered and the ASA does not know how many registered Shorthorns are still living. If the animal has 15/16th or more Shorthorn blood, then it can be registered as a purebred Shorthorn. If the animal's blood is between 1/2 and 15/16th Shorthorn, then it can be registered on the appendix registry as a percentage Shorthorn. Both the purebreed registry card and the appendix registry are part of the ASA herdbook. For example, if a purebred Shorthorn bull impregnates a Hereford cow, that calf will be 1/2 Shorthorn, 1/2 Hereford. The Calf can be registered on the appendix registry as 1/2 Shorthorn. If an animal looks Shorthorn, the ASA will register it on the appendix registry as 1/2 Shorthorn. Prior to 1983, if a calf's sire was from a multi-sire group, 17 the ASA would not recognize any Shorthorn blood from the paternal side even if all the bulls in the multi-sire group were purebred Shorthorn. However, as of January 1, 1983, the offspring from a multi-sire group are credited as being 1/4 Shorthorn on the paternal side. For example, if a purebred cow is impregnated by a multi-sire group all the bulls of which are pure Shorthorn, then the offspring616 can be registered as 3/4 Shorthorn on the appendix registry. Prior to 1983 that same calf only would be eligible to be registered as 1/2 Shorthorn. The appendix registry is important because it allows a breeder to introduce new blood into his herd without losing the right to register the crossbred offspring as a Shorthorn. The introduction of new genetics into a herd through foreign blood is an important part of any purebred program. If the introduction of foreign blood were prohibited by the ASA, the gene pool of the Shorthorn breed would be fixed forever. If this were the case, it would be difficult for the breed to ever improve. However, allowing a breeder to introduce new genetics into his herd gives him the ability to617 improve desirable traits and to change his product to conform to changes in the marketplace. As a matter of fact, few registered Shorthorns are "pure" or 100 percent Shorthorn. Most have some foreign blood, albeit a very small percentage, in their pedigree. When foreign blood is introduced by crossbreeding, it takes three generations to bring that crossbred back to full blood. 18The appendix program is an important tool for the seedstock producer. However, appendix cattle normally are not as valuable as purebred cattle. Although this is not always true it is true in most instances. What Factors Make Purebred Cattle Valuable?As previously discussed, a seedstock producer makes money selling cattle with superior genetics. Therefore, the value of those purebred618 cattle depends on the relative quality of the genetics they possess. Genetics themselves cannot be seen. However, they manifest themselves in the physical traits of the cattle. So we determine value by ascertaining which traits are important and then comparing those traits amongst cattle. The cattle with superior traits are the most valuable. The experts in these consolidated cases all had their own opinions as to what factors are most important in determining the value of purebred cattle. From those experts' opinions, we have determined that the following factors are most important: performance records, production records, ancestry, phenotype, and reputation of the breeder. Performance records are records of the animal being evaluated. Those records include: birth weight, weaning weight (205 days), yearling weight (365 days), feed lot performance, carcass data (mainly on slaughtered steers), testicle size (bulls), and milking ability (cows). Birth weight is important because it helps determine calving ease. Difficult calving can cause calf death. Too many calving deaths can put a cattleman out of business. Weaning weight is important because it shows how fast that calf619 gains on milk. Yearling weight is of similar importance because it shows how fast a calf gains weight. Feed lot performance shows how efficiently a calf gains weight. Carcass data shows the quality and marketability of the beef. Testicle size (scrotal circumference) helps determine how fertile a bull is. A bull which cannot service many cows is much less valuable. Milking ability is an important trait in cows because it determines how fast that cow's calf will gain weight. Production records are records of the evaluated animal's offspring. Those records, which are basically performance records of the calf, show how that animal has performed as a parent. Both production and performance records are important in evaluating the quality of a particular animal's genetics. These records are difficult and expensive to keep. However, they need to be there and in an organized and usable fashion. Ancestry is the lineal heritage, also known as the bloodline, of the evaluated animal. If the animal has superior ancestors, it is more likely to be superior itself. Ancestry also shows if there are deficiencies in the animal's bloodline. A Shorthorn registration paper shows ancestry620 four generations back. Many breeders keep more extensive records of ancestry. Phenotype refers to the physical characteristics of the animal. By looking at an animal the trained eye can determine, to a degree, structural soundness, feet and legs, design, the environment in which the animal was raised, testicles, and maternal performance. Physical appearance cannot determine how a heifer will perform as a parent. The experts put different emphasis on the importance of physical appearance. One thought it was of paramount importance while others thought it was a consideration, but only one of many. The latter group of experts put more emphasis on record keeping and what the records show. And finally, reputation of the breeder is an important factor in determining the value of purebred cattle. If the breeder does not enjoy a good reputation, then the records he keeps are not worth the paper they are written on. And, without reliable records the only factor left to determine value is physical appearance. Records are easy to manipulate. They can be actual fraudulent entries or mere "fudged" entries. A breeder's reputation is usually spread by word of mouth. There are a finite621 number of people who are in the registered cattle business. If one of those persons develops a bad reputation, it spreads quickly to others. Outside persons interested in purchasing cattle from a breeder can easily find out if a breeder has a bad reputation. The Cattle MarketsRegistered cattle are sold in two types of markets. One is public, i.e., at auction, and the other is private, i.e. a private treaty sale. A wide variety of cattle are sold at auctions. Cattle sold at auctions range from top quality cattle to culled cattle, cripples, and old worn-out cows. Auction sales account for approximately 25 percent of all sales. Most auction sales, 97-98 percent, are reported in the ASA publication, The Shorthorn Country.The remaining 75 percent of sales are private treaty sales. These are sales of cattle done privately between buyer and seller. Cattle which bring top dollar are usually sold at private treaty sales. It is not uncommon for the prices at these sales to be two to three times auction prices. Most of these sales are done orally. These sales are not reported in The Shorthorn Country.The Hoyt OperationRic Hoyt is principally in charge of622 the operational end of the cattle ranch. The Hoyt cattle ranch includes the partnership cattle, Hoyt & Son's cattle, and W. J. Hoyt Sons Management Company's cattle. The cattle are commingled and spread throughout the ranch. The ranch is located in Burns, Oregon, a very rural, arrid and rugged area of southeast Oregon. Many areas of the ranch are so remote that they can only be reached on horseback. The Hoyts have a remuda of 90 horses which they use to reach those areas of the ranch and work the cattle. The Hoyts moved their operation to Burns from Northern California in 1975 because land prices became too expensive in northern California. Ric Hoyt is eminently experienced in the Shorthorn breed. In 1985 he received the Beef Improvement Federation's award of Seedstock Producer of the Year for 1984. The award is given in recognition of the accomplishments of a successful cattle breeder. The award is for all cattle breeds. Each breed association nominates one breeder out of thousands of breeders in that breed. A winner is then selected from those persons. Receipt of the award is very prestigious within the industry. In addition to his BIF award, Ric Hoyt has distinguished himself623 as a knowledgeable cattleman by sitting on the Board of Directors of the National Cattlemen's Association, the American Shorthorn Association, the Oregon Cattlemen's Association and the Pacific International Livestock Exposition. He is past president of the American Shorthorn Association and of the Harney County Stock Growers. He has served as an advisor to various agricultural subcommittees of the Congress and has judged in many livestock shows. The Hoyt operation keeps extensive written records on all of their cattle breeding activities. They keep records of birth weight, 19 weaning weight, and yearling weight. They keep records of carcass evaluations and feed lot performance. The production and performance records are kept in a large airplane hanger on 29 tables, organized by partnership. Not only are the Hoyt records one of the most extensive sets of records maintained in the Shorthorn breed, they are in fact one of the most extensive sets of records of any breed in the United States. The Hoyts also have extended624 pedigrees on many of their animals. The extended pedigree lists six generations of ancestors as opposed to the normal four listed on an ASA registration certificate. Not all Hoyt Shorthorn cattle are registered with the ASA. Some of their cattle have Hoyt certificates instead. A Hoyt certificate contains the same information as an ASA registration certificate, but also includes ancestors which are non-Shorthorn. Most of the cattle which only have Hoyt certificates could be registered with the ASA on the appendix registry. The Hoyts use their own certificates on calves sired from multi-sire groups because those bulls at one time were not recognized by the ASA. Another reason the Hoyts use their own certificates is cost. A single registration is not expensive but when done on a large scale it becomes quite expensive. Still, the Hoyts register more Shorthorn cattle than any other Shorthorn breeder. The Hoyts use an extensive carcass evaluation system and are also involved in a young sire testing program which evaluates young bulls. The Hoyts are known as the bull factory salespeople of the Shorthorn breed. Their bulls consistently bring top dollar. At sales, range bulls625 sell, on average, for $1,300-$1,800 per bull. Hoyt & Sons' bulls sell for an average of 20-40 percent higher than that. The Hoyts sell over 500 range bulls per year. The cattle owned by the partnerships are registered with the ASA under the name W. J. Hoyt & Sons, not under the limited partnership's name. This is a common industry practice. The explanation for this, offered by Ric Hoyt, is that the Hoyt name adds value to the animal. If, for example, a bull calf is for sale and the owner is listed as Florin Farms #1, a prospective buyer is going to be wary of paying top dollar because that buyer knows nothing about the breeder. If, however, that same animal is listed as being owned by W. J. Hoyt & Sons, a prospective buyer who knows of the Hoyt reputation is more likely to pay top dollar for that bull. As previously explained, reputation of the breeder is a very important consideration in determining the value of registered cattle. The Hoyts actively cultivate their good reputation as Shorthorn breeders by aggressively marketing their product. 20626 Hoyt & Sons has a 10-year fertility warranty on all heifers it sells. If a cow does not conceive during any given breeding season, the Hoyts will replace her. The warranty does not guarantee a live calf, only that the cow will conceive. The standard ASA fertility warranty is for six months. The Hoyts employ both AI and embryo transplanting in their operations. These procedures are done only on very high quality cattle. These procedures help them make maximum use of their finest cattle. At a November 1984, production sale (detailed infra) Hoyt embryos sold for $3,550 and $3,150, respectively. It is unclear whether the host cows were included. Another embryo sold for $6,250 at the same sale. The host cow was included in that sale. The embryo transplanting procedure used in the operation explains the existence of some of the low quality cows on the ranch. It should be remembered that the host cow can be of any description. Its genetics does not matter. The use of AI is also important because it allows the Hoyts to impregnate the partnership cattle with the finest bulls. It is important to keep in mind that part of the management agreement called for the management company627 to provide stud service for the partnership cattle. Cattle Prices and the Value of the Partnership CattleThe cattle sold to the partnerships were mainly 2-3 year old heifers. The heifers were either bred or open (not yet bred). Most of the heifers were registered; some were appendix registered. If not actually registered, most of these heifers could be registered. The partnerships' cattle were evaluated by six experts, all of whom testified in these cases. Not all six gave a dollar value of the cattle. The experts who did value the cattle all had the same problem when it came to appraising the value of cattle during 1977-1979 in 1985. In other words, the experts inspected the cattle in 1985 but were trying to determine what they would have been worth during 1977-1979. Not only had prices changed during that time but the cattle themselves had changed because the herd itself was constantly being replenished with new heifers. Fortunately, many of the cattle on the ranch in 1985 were the progeny of the cattle on the ranch during 1977-1979. These cattle should be similar, which helps, but nevertheless the herd had changed in the intervening years. The experts overcame628 the price change obstacle in one of two ways. One way was to value the cattle as of 1985 and then adjust that price back to 1977-1979 using some type of factor. The other way was to determine what prices were during 1977-1979 and comparing them to the partnerships' cattle. The first method assumes that the appraiser knows what the cattle are worth today and what the proper discount factor is. The second assumes that the appraiser knows what cattle were selling for during 1977-1979 and how the partnerships' cattle compared with those sold during 1977-1979. Experts for petitioners, John Coote (who did not testify at trial) and Joe Garrett, along with Ric Hoyt and Jay Hoyt and expert for respondent, Dr. C. K. Allen, inspected a portion of the cattle herd at the ranch on July 14, 1985. They intended to see a random sample 21 of the herd as determined by a statistician at the Internal Revenue Service. However, when they arrived at the ranch they abandoned that plan and looked at only a few ranges and pastures of cattle. 629 In addition to Joe Garrett and Dr. Allen, Dr. William Hunsley, Don Cagwin, and Bill Lefty all gave expert opinions as to the value of the cattle sold to the breeding partnerships in question. All of petitioners' experts have dealt with the Hoyts for years. They have observed the Hoyt cattle on many occasions. Expert for respondent, Dr. Allen, had never seen the partnerships' cattle prior to his inspection on July 14. William Lefty, an expert for petitioners, is an auctioneer who has bought and sold many cattle over the years. He is very knowledgeable of prices received at Shorthorn sales. He testified that the Hoyt bulls were the finest Shorthorn range bulls available. He testified, based on the assumption that a Hoyt bull calf could be sold at $100-$150 profit and that a suitable replacement heifer could be produced, that the cow that produced those would be worth $3,800. Another expert for petitioners, Mike Dugdale, similarly testified that a cow was worth $4,000 based on the present value of the profits she would reap from the sale of her calves. Mike Dugdale manages the Hoyt cattle at their new Blair, Nebraska, ranch. Dr. Roger Hunsley, another expert for petitioners, 630 is the Executive Director of the ASA. He assumed that position on May 1, 1983. He testified that the cattle were in the top 20 percent of the breed or maybe in the top 10 percent of the breed. He valued the herd at $4,000/head in 1985. To arrive at a value for 1977-1979 he deducted 25 percent to arrive at a value of $3,000/head ($4,000 - (25%) X (4,000)). Petitioners' next expert was Dr. Joe Garrett. Dr. Joe Garrett valued 304 2-3 year old heifers. He selected the 304 head out of a larger group. He determined their value to be $4,000/head as of 1985. He then determined that those heifers would be worth $2,800/head during 1977-1979. He used an inflation rate of 4.5 percent annually working backwards to arrive at the 1977-1979 figure. Don Cagwin, also an expert for petitioner, is president and owner of his own sales management company. He valued the cattle at $4,075/head as of 1981. He determined that price by arriving at a replacement cost and then adding a value for the Hoyts' reputation as cattle breeders. He determined that the replacement cost would be $2,750 and that the Hoyt reputation was worth $1,325. Respondent's expert, Dr. C. K. Allen, used market quotes during631 1977-1979 as a gauge to determine his value. He determined the value of the cows as of 1977-1979 using prices during those years quoted in The Shorthorn Country.22 Using those prices he determined that, on average, the partnership cattle were worth $652 in 1977, $891 in 1978 and $1,249 in 1979 for registered Shorthorns and $430 for 1977, $600 for 1978 and $850 for 1979 for appendix registered Shorthorns. In determining value, Dr. Allen split up the cattle by partnerships. He then graded the cattle sold to each partnership on the following scale: substantially below average, below average, average, above average, substantially above average, and top of the breed. He placed the bulk of the cattle in the average and above average categories. The other categories each had a few animals in them. Dr. Allen used the following prices for the category "top of the breed:" $3,325 for 1977, $3,540 for632 1978 and $3,755 for 1979, respectively. Dr. Allen testified that the partnership cattle were in the top 30 percent of the breed, i.e., superior to 70 percent of Shorthorn cattle. Unlike petitioners' experts, Dr. Allen based his appraisal on physical appearance alone. He did not examine any production records or performance records. 23 He did see a few pedigree and carcass evaluations. In addition to the experts' opinion as to value, we have records of actual cattle sales in evidence. In November 1984, the Hoyts had a production sale. At that sale they sold a number of cattle including a complete dispersion of Florin Farms #3 cattle. The Hoyts received an average price of $3,232 per head for heifers. The heifers were either open or bred. The bred heifers brought more on average than the633 open heifers did. There were 56 heifers sold at that sale. At that sale the Hoyts sold a very valuable cow, Mill Brook Tulip 78 X, for $31,000. She had been used as a donor embryo transplant cow. She had not been bred by the Hoyts. The Hoyts also sold five cows for an average of $5,070 per head. Also in evidence is a list of Shorthorn sales reported to the ASA. Included in that list is an entry which reports that the Hoyts sold 60.9 lots 24 in 1984 for an average price of $4,796 per lot. All the lots were female. It is unclear whether the sales from the November 1984 sale are included in these sales reported to the ASA. In December 1985, the Hoyts had another sale which included a dispersal of all Florin Farms #4 cattle. The cows sold for an average of $3,631 per head. However, if we remove two sales which brought much higher prices than the others ($19,000 and $10,000 respectively), the average was $2,423 per head. Also included in the December 1985 sale is the sale of634 22 heifers. The sale catalog does not indicate whether the heifers were open or bred. The average price for the 22 heifers was $3,528 per head. Again, if we remove three high sales from the average ($21,000, $8,750 and $10,000, respectively), we get an average of $1,981 per head. OPINION We must decide whether petitioners are entitled to claim certain credits and to deduct various expenses incurred as a result of their investments in Hoyt Farms breeding limited partnerships. Respondent, in his statutory notices of deficiency issued to petitioners in these cases, disallowed the losses claimed by petitioners on the grounds that the transactions were not bona fide arm's length transactions at fair market value, that there was not a bona fide transfer of the benefits and burdens of ownership of cattle, or that the transactions had any economic substance other than the avoidance of taxes. Respondent also disallowed the claimed losses on the ground that the transactions were not entered into for profit. Respondent further contends in his statutory notices that, if he is not sustained on the abovementioned theories: (1) petitioners failed to prove that the partnership expenses were635 paid or incurred, or if paid or incurred were ordinary and necessary; (2) the portion of the losses attributed to interest expenses is not allowed because petitioners failed to establish that said expenses were paid or incurred for the claimed purposes or that a bona fide debtor-creditor relationship existed; 25 (3) the portion of the losses attributed to depreciation is not allowed because petitioners failed to prove that there was a bona fide sale, that petitioners have not established a proper cost basis, a proper method of depreciation, or a proper useful life, that petitioners were guaranteed or insured against any loss from depreciation of cattle; 26 (4) the portion of the loss, if any, attributed to the management fee is not allowed in full because it has not been established that such expense was incurred, or if incurred was expended for an ordinary and necessary business expense, or that said expense is anything other than a capital expenditure. 27636 As for the investment tax credit, respondent disallowed the credit claiming that petitioners failed to prove that the property qualified for the credit, or the cost basis or useful life of the property, or in what year the property was placed in service. 28Respondent's last determination in his statutory notices of deficiency is that any gains from the disposition of the cattle do not qualify for capital gain treatment and that said gains are ordinary income. 29In addition, respondent claimed an increased rate of interest under section 6621(c) in these cases. This issue was not raised in the statutory notices of deficiency; it was raised by respondent in an amendment to his answer. Petitioners bear the burden of proof in these cases on all issues except as to the increased rate of interest under section 6621. Welch v. Helvering,290 U.S. 111">290 U.S. 111 (1933); Rule 142(a). It is well settled that the economic substance of a637 transaction, rather than its form, controls for Federal tax purposes. Gregory v. Helvering,293 U.S. 465">293 U.S. 465 (1935). Although a taxpayer is entitled to reduce his taxes by any means that the law allows, "the question for determination is whether what was done, apart from tax motive, was the thing which the statute intended." Gregory v. Helvering,supra at 469. The labels, semantic technicalities, and formal written documents do not necessarily control the tax consequences of a given transaction. Rather, we are concerned with economic realities and not the form employed by the parties. Frank Lyon Co. v. United States,435 U.S. 561">435 U.S. 561 (1978); Estate of Franklin v. Commissioner,64 T.C. 752">64 T.C. 752 (1975), affd. on other grounds, 544 F.2d 1045">544 F.2d 1045 (9th Cir. 1976). In Frank Lyon Co., the Supreme Court summarized these principles as follows: This Court, almost 50 years ago, observed that "taxation is not so much concerned with the refinements of title as it is with actual command over the property taxed -- the actual benefit for which the tax is paid." Corliss v. Bowers,281 U.S. 376">281 U.S. 376, 378 (1930).638 In a number of cases, the Court has refused to permit the transfer of formal legal title to shift the incidence of taxation attributable to ownership of property where the transferor continues to retain significant control over the property transferred. E.g., Commissioner v. Sunnen,333 U.S. 591">333 U.S. 591 (1948); Helvering v. Clifford,309 U.S. 331">309 U.S. 331 (1940). In applying this doctrine of substance over form, the Court has looked to the objective economic realities of a transaction rather than to the particular form the parties employed. The Court has never regarded "the simple expedient of drawing up papers," Commissioner v. Tower,327 U.S. 280">327 U.S. 280, 291 (1946), as controlling for tax purposes when the objective economic realities are to the contrary. "In the field of taxation, administrators of the laws, and the courts, are concerned with substance and realities, and formal written documents are not rigidly binding." Helvering v. Lazarus & Co., 308 U.S., at 255. See also Commissioner v. P.G. Lake, Inc.,356 U.S. 260">356 U.S. 260, 266-267 (1958); Commissioner v. Court Holding Co.,324 U.S. 331">324 U.S. 331, 334 (1945). Nor639 is the parties' desire to achieve a particular tax result necessarily relevant. Commissioner v. Duberstein,363 U.S. 278">363 U.S. 278, 286 (1960). [435 U.S. at 572-573.] Our first inquiry is whether these transactions are so lacking in economic substance as to be considered economic shams. 30 A transaction which is devoid of economic substance is not recognized for tax purposes. Frank Lyon Co. v. United States,supra at 573. Furthermore, the mere presence of an individual's subjective profit objective will not require us to recognize, for tax purposes, a transaction which lacks economic substance. Cherin v. Commissioner,89 T.C. 986">89 T.C. 986, 993 (1987). Before we decide petitioners' motives for entering into a transaction, we must decide if that transaction had economic substance. Cherin v. Commissioner,supra at 993. In deciding whether a transaction has economic640 substance, we place greater weight on objective facts such as: the relationship between sales price and fair market value, the financing structure, whether the benefits and burdens of ownership shifted, and whether the parties adhered to the contractual terms. Cherin v. Commissioner,supra.We will first decide whether the sales price of the cattle was within a reasonable range of their value since a normal attribute of a true arm's length sale is a purchase price at least approximately equal to FMV. Grodt & McKay Realty, Inc., v. Commissioner,77 T.C. 1221">77 T.C. 1221, 1240-1241 (1981). The exact prices paid for the cattle in these cases are set out in our findings of fact, supra. To summarize, the top price paid for the cattle in 1977 and 1978 was $3,500 per head and $4,000 per head in 1979. Most of the cattle were sold for $3,500 per head. Most of the cattle sold were 2-3 year old heifers. Some were bred, some were not. Most of the heifers were registered Shorthorn, especially those which were sold at the highest prices. Others were appendix registered. A few were not registered. In order to decide the dollar value of these cattle we must641 find two things. Number one is the relative quality of these cattle compared to the Shorthorn breed in general. Number two is the price which cattle of that relative quality brought on average during 1977-1979. Needless to say these cattle are above average Shorthorns. Even respondent's expert, Dr. Allen, opined that these cattle were in the top 30 percent of the breed. Petitioners' experts were more generous. They put the cattle, on average, at or near the top of the breed. The Hoyt cattle operation, which encompasses the partnerships' cattle, is surely one of the top Shorthorn seedstock operations in the United States. Ric Hoyt is a leader within the industry. This is apparent from his long list of accomplishments which is topped off by his BIF award for top seedstock producer of the year for 1984. His operation is both well managed and innovative. For example, he used the multi-sire stud group to utilize large pastures without sacrificing selective breeding before that procedure was sanctioned by the ASA. The Hoyt operation utilizes all of the generally recognized tools for registered cattle breeding. They keep extensive production records, performance records, and642 pedigrees. They also use carcass evaluations and feedlot performance data to make breeding decisions. Breeding cattle derive their value from their ability to pass on superior genetic traits. This is done primarily through the sale of range bulls. Consequently how the "markets" rate breeding value can be determined by how the "markets" price Hoyt range bulls as compared to other range bulls. Hoyt range bulls consistently bring top dollar at sales. The Hoyts are known as the "bull factory salesperson" of the breed. This is very persuasive evidence of the fact that the "markets" have valued the genetic potential of the Hoyt breeding cows at the top of the breed. Not only is this a quality operation, it is also a large operation. The Hoyts register more Shorthorns per year than any other Shorthorn producer. They sell approximately five hundred range bulls per year. In our mind there is not much doubt as to the quality of this herd. The remaining and harder question is, what were cattle of this quality worth during 1977-1979. Respondent's expert, Dr. Allen, determined that the cattle purchased were worth $652 in 1977, $891 in 1978 and $1,249 in 1979. He placed each animal643 in a category from substantially below value to top of the breed and then compared each category to average prices at auction sales quoted in The Shorthorn Country.Dr. Allen placed a majority of the cattle in the average and above average categories. Yet he testified at trial that the herd was in the top 30 percent of the breed. This is inconsistent. If the herd is in the top 30 percent of the breed, then we would assume that they should be in the substantially above average and above average categories. How can cattle which are average be in the top 30 percent of the breed? We do not question Dr. Allen's credibility. He was a fine witness, thoroughly knowledgeable of the subject matter of his testimony. His inconsistency can be explained by the fact that his original opinion, which placed a majority of the cattle in the average to above average categories, is contained in his expert's report. That report was done after he physically inspected a portion of the herd. In compiling his report he was deprived of the opportunity to view the breeding records of the cattle because respondent lost or misplaced the copies given to him. His report was based on phenotype alone, 644 which is not as good an indicator of value as production records, performance records, and pedigrees. When Dr. Allen testified at trial he had the benefit of sitting in the courtroom listening to other experts discuss the extensive breeding records of the operation and other factors which make breeding cattle more or less valuable. After hearing this information he testified that the herd was in the top 30 percent of the breed. We have no doubt that had Dr. Allen had the benefit of this information when compiling his expert report he would have placed the cattle in categories which would be consistent with his opinion that the cattle were in the top 30 percent of the breed. In his expert's report, after having decided the relative quality of the cattle, Dr. Allen arrived at a dollar value using auction prices reported to the ASA and published in The Shorthorn Country. The auction prices are averages. They include sales of heifers and cows. The quality ranges from first rate to culled cattle, crippled and old cows headed for the "Golden Arches." Furthermore, auction sales only comprise 25 percent of all Shorthorn cattle sales. The remaining 75 percent of Shorthorn sales are645 private treaty sales. These are not reported to the ASA. These sales are often of higher quality cattle. It is not uncommon for cattle sold at these sales to bring prices 2-3 times prices paid at auction. Dr. Allen did not take these sales into account when valuing the cattle. Using auction prices exclusively in this case is just simply not adequate because those prices do not accurately reflect prices paid for Shorthorn heifers. Therefore, because of that error in Dr. Allen's pricing method, we attach little weight to his opinion as to prices these cattle would have brought at a sale during 1977-1979. Fortunately, in these cases we have the benefit of a few actual sales to help us in our inquiry as to the value of the cattle. In the 1984 production sale the Hoyts sold 56 heifers including a complete dispersal of all Florin Farms #3 cattle. Those heifers brought an average of $3,232 per head. The heifers comprising this average range quite a bit in quality. The Hoyts sold one cow for $31,000. This price is obviously on the high end of the price scale. In addition, the Hoyts sold five cows for an average of $5,070 per head. In the 1985 sale the average price, excluding two646 high sales of $19,000 and $10,000 respectively, was $2,423 per head for cows. The average price for 22 heifers was $1,981 per head excluding three high sales of $21,000, $8,750 and $10,000 respectively. And finally there is an ASA auction sales list which shows that the Hoyts sold 60.9 female lots in 1984 for an average of $4,796 per lot. Unfortunately it is difficult to compare the cattle sold at these sales to the partnerships' cattle because we do not know the relative quality of the two. We do know that the partnerships retained the best heifers in their herds as replacement cattle. We therefore can infer that the cattle sold off were of lower quality, especially those which brought the lower prices. We think it is safe to assume that the cattle sold at these sales were not of higher quality on average than the partnerships' cattle. Furthermore, the high-priced cattle sold show us that the herd contained some very valuable cattle and that it is not uncommon for a single breeding cow to bring a price of $10,000 or even $20,000. A second more troublesome problem is that the sales described above are for sales that occurred in 1984 and 1985. The experts also valued the cattle647 as of 1985. We must decide the value of the cattle as of 1977 through 1979. For this Task we turn to petitioners' experts. 31Dr. Roger Hunsley, Executive Secretary for the ASA, used a discount factor of 25 percent to arrive at a price for 1977-1979. Dr. Joe Garrett, Executive Vice President of the American International Charolais Association, used a discount factor of 4.5 percent per year. If we compound this over seven years, we come up with a discount factor of 31 percent. Dr. Hunsley is a leading expert in the Shorthorn breed and is very knowledgeable of the market for Shorthorn cattle over the years. We place more emphasis on Dr. Hunsley's opinion because he is more knowledgeable of the market for registered Shorthorns than Dr. 648 Garrett, whose expertise is primarily in the Charolais market. If we apply Dr. Hunsley's 25 percent discount factor to the actual sales previously described, we come up with the following values: As for the prices reported to the ASA, 75 percent of $4,796 is $3,597. As for the prices listed on the 1985 sale, 75 percent of $1,981 is $1,485.75 and 75 percent of $2,423 is $1,817.25. As for the 1984 production sale, 75 percent of $3,232 is $2,424 for the heifers and 75 percent of $5,070 is $3,802.25. After sifting through all of this information it is our considered opinion that the stated sales price for these cattle is within a reasonable range of their actual or fair market value. Petitioners put on a vast quantity of evidence showing that they priced the cattle accurately. Respondent has not offered sufficient evidence to show that this was anything but a first class purebred Shorthorn operation. Even respondent's expert testified that the herd was in the top 30 percent of the breed. Furthermore, the fact that the cattle were fairly priced also tends to show that these sales were negotiated at arm's length. The same is true of the sale to Washoe Ranch #5 by A. Walker Ranches.649 The seller in that transaction was an independent third party who negotiated the same terms as Hoyt & Sons did. The fact that an independent third party negotiated the same deal shows that the sales were negotiated at arm's length. The next factor relevant in deciding whether these transactions lacked economic substance is the structure of the financing. In Cherin v. Commissioner,supra, the purported purchases of the cattle were financed with nonrecourse indebtedness. That fact, along with the fact that the purchase price was greatly inflated, caused us to inquire whether the indebtedness itself had any economic substance. We went on to decide that since the indebtedness greatly exceeded the value of the assets and that the investors would never pay off the purchase price, nor would they receive any proceeds from the sale of the cattle, that the transaction lacked economic substance. That simply is not the case here. In these cases the financing was recourse but more importantly the outstanding debt balance did not exceed the FMV of the cattle. Because of that it is possible for petitioners to build up equity over time. If they walked away from the deal650 they might lose more than their investment; they could lose any built-up equity in the herd. Simply put, the structure of the financing does not help persuade us that these transactions lacked economic substance as the structure of the financing did in Cherin.The next factor we need to address to help us determine whether these transactions lacked economic substance is whether the benefits and burdens of ownership transferred from seller to buyer. This is a question of fact. Grodt & McKay Realty, Inc. v. Commissioner,77 T.C. 1221">77 T.C. 1221, 1237 (1981). We will use the following items to help us in deciding the issue: (1) Whether legal title passes; (2) how the parties treat the transaction; (3) whether the purported purchaser acquires any equity in the property; (4) whether the contract creates a present obligation on the purchaser to make payments; (5) whether the right of possession is vested in the purchaser; (6) which party bears the risk of loss or damage to the property; and (7) which party receives the profits from the sale of the property. Grodt & McKay Realty, Inc. v. Commissioner,supra at 1237-1238. (1) Whether651 Legal Title PassesIn these cases the cattle were sold to the partnerships by Hoyt & Sons via bills of sale. These bills of sale list the number of cattle purchased and the price. The cattle were not individually identified. However, attached to the original bills of sale were the registration papers for the cattle sold. There were no restrictions, reservations, conditions precedent, etc. involving the sales. Accordingly, legal title passed at the time of contracting. U.C.C. section 2-401. 32(2) How The Parties Treat The TransactionsIn these cases the parties to the transactions treated the transactions as sales. The only evidence to the contrary is the bank fiasco. In 1982 the Hoyts used some of the partnership cattle as collateral on a loan to Hoyt & Sons from First Interstate Bank. There is every indication652 that the Hoyts were forced into this situation. At the first opportunity they negotiated a new loan with another lender and got the liens released. This is a single episode, not a continuing course of conduct. This simply does not persuade us that the Hoyts disregarded the sale of the cattle to the partnerships. In fact they did everything in their power to preserve the partnerships' rights in the cattle. Respondent contends that since Hoyt & Sons did not register the cattle in the partnerships' names at the time of sale or thereafter that the failure to do so shows that Hoyt & Sons did not respect the sale. At first blush this seems like a very convincing argument. Yet, if we probe beneath the surface, we find that it is a common industry practice to register cattle under a herd name even though the herd name is not the same as the true owner. Ric Hoyt testified that the name "Hoyt & Sons" adds value to the herd. The experts agreed with that assessment. Common sense tells us that a buyer would pay more for a bull registered under the name of Hoyt & Sons than a bull registered under the name of Washoe Ranches #3, since very few buyers would have heard of the latter while many653 are familiar with the former. And, since reputation of the breeder is such an important factor in bringing top prices, using a name without any reputation would be self-destructive. Accordingly, the mere fact that the cattle were registered under the name Hoyt & Sons or some derivation thereof does not persuade us that the Hoyts disregarded the partnerships' rights in the cattle. 33(3) Whether The Purported Purchaser Acquires Any Equity In The Property.Petitioners did not acquire any equity in the cattle at the time of purchase. The sale was 100 percent654 leveraged. However, because the amounts of the loans were within a reasonable range of the cattle's FMV, it was possible for petitioners to build up equity over time as the principal payments were made. In addition, the replacement cattle retained by the partnerships in excess of the culled cattle may be viewed as increases in equity in the herd. So, over time, not only can the partnerships build up equity by paying off the loans, they can also build up equity by increasing the herd. (4) Whether The Contract Creates A Present Obligation On The Purchaser To Make Payments.The notes accompanying the bills of sale require that interest be paid beginning one year after the sale and that principal be paid beginning five years after the sale. The financing was set up that way because it takes approximately that long for a calf to become a cow whose offspring can be sold. It appears that the notes were being timely paid in these cases. Clearly, there is a present obligation to make payments. But more importantly, there is every indication that the payments were actually being made. (5) Whether The Right Of Possession Is Vested In The Purchaser.The Purchasers655 in these cases are the partnerships. The entity which controlled the cattle and the day to day business decisions of the operation was the management company. Both the limited partnerships and the management company were controlled by Jay Hoyt. He made all the decisions concerning which cows were retained and which were culled. He decided which raised calves were used as replacements and which were used as payments on the notes and payment for management services. Given this structure, it would have been quite possible for Jay Hoyt to manipulate things to his own advantage. Yet there is no indication that he did so. In fact, the evidence in the record shows that he ran the operation for the investors' benefit. It is important to keep in mind that the seller is not the same person as the manager of the herd. Hoyt & Sons was the seller; Jay Hoyt was not a partner in that partnership. While it is true that he was related by blood or marriage to all the partners in Hoyt & Sons, there is no indication that he ran the operation for their benefit at the expense of his investors. It appears that the cattle were never physically moved at the time of or after the sales. Furthermore, 656 all the cattle were commingled throughout the ranch. However, the partnership cattle were easily identifiable by matching their ear tag number to the partnership inventory list. Ric Hoyt never claimed an ownership interest. The investors, petitioners in these cases, were limited partners. By the very nature of their investment they were not entitled to participate in the day to day operations of the partnerships. Only Jay Hoyt had that right. It is clear that he ran the operation and was in possession of the purchased cattle. The right of possession did not remain with the seller partnership, Hoyt & Sons. (6) Which Party Bears The Risk Of Loss Or Damage To The Property.The sales in these cases included a ten-year fertility warranty. If the cow does not conceive at any time during the ten-year period, the seller will replace her. This does not keep the risk of loss with the seller. In the event a cow is stolen or dies from lightning, disease, or some other calamity, the risk of loss is on the limited partnerships. 34 There are no stop loss agreements. The risk of loss is on the purchasers. 657 (7) Which Party Receives The Profits From The Sale Of The Property.In the event of a liquidation, the seller (who is the obligee on the note) would receive an amount which would pay off the outstanding balance on the notes. If there were any proceeds left over, that amount would be distributed to the limited partners. It is possible for petitioners to receive something at liquidation because of their equity in the cattle. If an animal is sold during the continuing existence of the partnership, the proceeds would go toward paying off the note. To say, however, that the proceeds are retained by Hoyt & Sons is misleading. The proceeds which go to Hoyt & Sons reduces the debt which builds equity in the cattle. After reviewing the seven factors noted in Grodt & McKay Realty, Inc. v. Commissioner,supra, we have decided that a true sale occurred with regard to the transfer of cattle from Hoyt & Sons to the limited partnerships. The last factor we will look at is whether the parties followed the contractual terms of the agreements. The bills of sale, notes, management agreements, certificates, and articles of limited partnership (which are the partnership658 agreements) were all written by laymen. Although not perfect, the documents do convey the intentions of the parties. There is every indication that the terms were followed. The seller sold the cattle listed in the bills of sale. The partnerships paid on the notes according to their terms. Jay Hoyt managed the herd as he promised. Although deviations from the terms of the documents may have occurred, no deviations were brought to our attention which would bring into question the validity of these transactions as true sales. After reviewing the facts in these cases and based on the foregoing analysis, it is our opinion that these transactions clearly had economic substance. Accordingly, the transactions will not be disregarded as shams. Respondent also disallowed the deductions in these cases under section 183, determining that petitioners were not engaged in an activity for profit. An "activity not engaged in for profit" is defined in section 183(c) as an activity other than one with respect to which deductions are allowable under section 162 or under paragraphs (1) or (2) of section 212. We decide whether the activity was engaged in for profit at the partnership level. 659 Finoli v. Commissioner,86 T.C. 697">86 T.C. 697, 721-722 (1986). Deductions are allowable under section 162 for expenses of carrying on an activity which constitutes the taxpayer's trade or business if those expenses are ordinary and necessary to the conduct of the trade or business. Section 212 allows the taxpayer to deduct ordinary and necessary expenses incurred in connection with an activity engaged in for the production or collection of income, or for the management, conservation, or maintenance of property held for the production of income. In order to deduct expenses of an activity, the taxpayer must show that he engaged in the activity with an actual and honest objective of making a profit. Sec. 1.183-2(a), Income Tax Regs.; Beck v. Commissioner,85 T.C. 557">85 T.C. 557, 569 (1985); Flowers v. Commissioner,80 T.C. 914">80 T.C. 914, 931 (1983); Dreicer v. Commissioner,78 T.C. 642">78 T.C. 642, 644-645 (1982), affd. without opinion 702 F.2d 1205">702 F.2d 1205 (D.C. Cir. 1983); Golanty v. Commissioner,72 T.C. 411">72 T.C. 411, 425-426 (1979), affd. without published opinion 647 F.2d 170">647 F.2d 170 (9th Cir. 1981). In this context, "profit" means660 economic profit, independent of tax savings. Landry v. Commissioner,86 T.C. 1284">86 T.C. 1284, 1303 (1986); Herrick v. Commissioner,85 T.C. 237">85 T.C. 237, 255 (1985); Beck v. Commissioner,supra at 570; Estate of Baron v. Commissioner,83 T.C. 542">83 T.C. 542, 557-559 (1984), affd. 798 F.2d 65">798 F.2d 65 (2d Cir. 1986); Surloff v. Commissioner,81 T.C. 210">81 T.C. 210, 233 (1983). While the expectation of economic profit need not be reasonable, the facts and circumstances must indicate that the taxpayer entered into the activity, or continued it, with the objective of making a profit. Beck v. Commissioner,supra;Fox v. Commissioner,80 T.C. 972">80 T.C. 972, 1006 (1983); Dreicer v. Commissioner,supra.In making this determination, all relevant facts and circumstances are to be taken into account.35Finoli v. Commissioner,86 T.C. 697">86 T.C. 697, 722 (1986); Golanty v. Commissioner,supra;Jasionowski v. Commissioner,66 T.C. 312">66 T.C. 312, 321 (1976). Greater weight must be given to objective facts than to petitioners' mere statements of intent. Sec. 661 1.183-2(a), Income Tax Regs.; Beck v. Commissioner,supra;Flowers v. Commissioner,supra;Siegel v. Commissioner,78 T.C. 659">78 T.C. 659, 699 (1982); Engdahl v. Commissioner,72 T.C. 659">72 T.C. 659, 666 (1979). 662 The term "profit" encompasses appreciation in assets. Sec. 1.183-2(b)(4), Income Tax Regs.; Lemmen v. Commissioner,77 T.C. 1326">77 T.C. 1326 (1981). 36There is no doubt that this activity is not merely a hobby. It is one of the largest operations within the industry. It is run by people knowledgeable in this area. They keep extensive records. Petitioners are mere passive investors; they receive no personal enjoyment or recreation from this activity. At first glance it appears that this is a package of tax benefits. With a minimum investment, petitioners were able to claim large deductions from the activity. They did this by purportedly personally assuming partnership debt. Petitioners had no expertise in the area. The assets were very high priced. And, the promoter of the investments also prepared the investors' personal tax returns. After trial, petitioners conceded that the assumption of debt and loss allocations was impermissible. The663 deductions petitioners are still claiming are limited to the extent of their investments. 37 We have found that it is possible for petitioners to build up equity in their cattle over time. There is no doubt that tax savings play an important role in these investments. Yet there are profits to be made independent of tax savings. There is a real chance that petitioners will profit from capital appreciation. For this reason we find that petitioners' objective was not merely to purchase tax benefits. A profit objective is there. Accordingly this is an activity engaged in for profit and the associated expenses are deductible, unless they fail to satisfy some other requirement of the law. The next issue we must decide is whether the partnerships incurred expenses and if they did, whether those expenses are deductible for Federal income tax purposes. We have previously held in this opinion that the partnerships were engaged in a business for profit. Accordingly, under section 162(a), all ordinary and necessary664 business expenses are deductible. This includes all ordinary and necessary expenses incurred in carrying on the business of farming. Section 1.162-12, Income Tax Regs.Clearly, in these cases the expenses incurred in maintaining and caring for the breeding cattle are deductible. The problem that arises is that the expenses were incurred by the Management Company, not the limited partnerships themselves. Accordingly these expenses are deductible by the management company. And, to the extent these expenses exceed revenues, they create losses. In order for these losses to pass through to the limited partnerships as partners of the Management Company, section 701, the limited partnerships must have adequate basis in the Management Company (outside basis) to absorb the losses. Section 704(c). 38 Accordingly the limited partnerships may claim their proportionate share of the losses incurred by the Management Company, to the extent of their respective basis in the Management Company.665 The next issue for decision is whether the debt itself is bona fide. The Ninth Circuit in Estate of Franklin set out the following test to determine if the debt is bona fide: To justify the [interest] deduction the debt must exist; potential existence will not do. For debt to exist, the purchaser, in the absence of personal liability, must confront a situation in which it is presently reasonable from an economic point of view for him [the debtor] to make a capital investment in the amount of the unpaid purchase price. [Estate of Franklin v. Commissioner,544 F.2d 1045">544 F.2d 1045, 1049 (9th Cir. 1976).] In this case the partnerships, and therefore the partners, did have personal liability -- the indebtedness was recourse. Furthermore, the amount of the debt did not exceed the value of the cattle. Because this analysis is detailed supra, we will not repeat it here. Suffice it to say that the debt was bona fide. We must next decide whether interest expenses were incurred and, if incurred, whether there was a bona fide debtor-creditor relationship. We are convinced that the interest expenses claimed on the cattle purchase debt were in fact paid. Records666 indicate that some of the contribution money was used to pay interest and that raised calves were also used to pay interest. Respondent offered no proof that the interest expenses were not paid. The next issue we must decide is whether the partnership may deduct an allowance for depreciation. Respondent disallowed the depreciation deductions claiming that petitioners failed to prove that there was a bona fide sale, and that they failed to prove a proper cost basis, a proper method of depreciation, or a proper useful life. Respondent further determined that petitioners were protected against any actual loss from depreciation on the cattle. We have previously held that there was a bona fide sale. Accordingly, the partnerships' bases are the costs of the cattle. 39 Sections 167(g), 1011, and 1012. The partnerships used the double declining balance and sum of the years digits methods of depreciation, both of which are proper methods of depreciation. Section 167(b). Respondent also claimed that the partnerships failed to use a proper useful life when computing depreciation. The partnerships used a seven-year class life which is the useful life prescribed in Rev. Proc. 77-10, 1 C.B. 548">1977-1 C.B. 548, 552.667 Given the fact that petitioners used a useful life prescribed by respondent, the disallowance of depreciation on that ground seems to be moot. Respondent's last determination as to depreciation is that the partnerships are protected against actual economic loss on the cattle. We have previously held that there is no evidence that petitioners were protected against loss. Accordingly we find for petitioners on this issue. The next issue we must decide is whether petitioners may deduct the loss attributed to the management fee paid by the partnerships to the Management Company. The fee was paid on a crop share 40 basis. The gain from disposing of the calves was offset by the management fee (a deductible expense). 41 In so far as respondent disallowed the management fee, he is not sustained because the fee is an ordinary and necessary business expense. However, the value of the calves should have been included in the income of the Management Company. 668 The next issue we must decide is whether the purchases of the breeding cattle are eligible for the investment tax credit. Cattle are section 38 property and are therefor eligible for the credit. Section 48(a)(6). The next issue we must decide is whether the disposition of the cattle qualifies for preferential capital gains treatment. Breeding cattle are section 1231 property after they have been held for 24 months. Section 1231(b)(3)(A). Accordingly, the disposition of breeding cattle, including culled cows (section 1.1231-2(b)(1), Income Tax Regs.), is taxed pursuant to section 1231(a) subject to the recapture provisions of section 1245. Calves which are used for payment of management fees or payment on the notes are not held for breeding purposes and are not accorded section 1231(a) treatment. Section 1.1231-2(b)(1), Income Tax Regs.The next issue raised for our consideration is whether an increased rate of interest applies under section 6621. Section 6621(d), redesignated as 6621(c), provides for an increased rate of interest if the underpayment is attributable to one or more tax motivated transactions and the underpayment exceeds $1,000. Sec. 6621(c)(2). A tax669 motivated transaction includes a valuation overstatement within the meaning of 6659(c). Sec. 6621(c)(3)(A)(i). A valuation overstatement occurs if the value of any property or the adjusted basis of property claimed on a return is 150 percent or more of the amount determined to be the correct value or adjusted basis. Sec. 6659(c). Respondent has the burden of proof as to this issue. Rule 142(a). We have previously held that the purchase price of the cattle was within a reasonable range of actual value. We did not determine a percentage or dollar value. Respondent has not persuaded us that the overstatement is 150 percent or more. Since respondent has not met his burden of proof, we find that section 6621(c) is not applicable. In summary, we have decided that the transaction in issue should be respected for Federal income tax purposes. The expenses incurred by the partnerships are allowed to the extent set forth herein. In addition, petitioners are permitted their allowable share of partnership items (as previously discussed). Any losses claimed by the petitioners from the partnerships are allowed to the extent of the partner's individual basis. To reflect the foregoing, 670 Decisions will be entered under Rule 155.APPENDIX ADocket No.Petitioners12479-82Ralph W. Bales andRuth C. Bales18832-82Perry D. McBroom andJacie S. McBroom4499-83Donald M. Mundt12274-83Robert E. Roush andSharol D. Roush13174-83Chuck E. Carruth andDiane Carruth13800-83Carol A. Callahan andThe Estate of Hon Callahan14178-83Robert J. Ricks14956-83Duane A. Berndt16414-83Donald G. Yount andNeome Yount18099-83Carol S. Beatty24307-83Richard E. Turner andCarolyn L. Turner21409-84Perry D. McBroom andJackie S. McBroom28638-84Charles Bradshaw andAloma G. bradshaw28639-84Gerald L. Curry28657-84Thelma Osborn28681-84John W. McDowell andMartha H. McDowell28787-84Russell D. Buchmiller28938-84Eugene L. Albertson andBeverly Albertson29108-84James L. Smith andEdna E. Smith29111-84Kenneth L. Romig andColene L. Romig29404-84Rodney A. Moore andBetty M. Moore29464-84John M. Newey29594-84Richard E. Turner andCarolyn L. Turner29681-84James E. Pugh andDonna M. Pugh29701-84John D. Gaskins, Jr. andKathren L. Gaskins1970-85Fred L. Payne andEleanor R. Payne671 Appendix BDocket No.Year DeficiencyAdditions to tax12479-82197714,136.50197820,475.00Section 6651(a)(1)18832-8319784,403.00263.004499-8319773,335.0019785,416.0012274-8319763,353.0019774,352.0019784,189.0019799,352.0013174-8319761,256.0019772,774.0019784,165.0019796,081.0019805,377.0013800-8319763,300.0019774,373.0019785,271.0019797,394.0014178-8319744,694.7219753,135.5819764,000.00197710,203.20197832,555.5019797,490.0014956-8319763,886.0019775,415.0019787,949.0019797,911.0016414-8319775,728.0019785,716.0019794,839.0018099-8319812,231.2224307-8319793,040.00SectionSection6651(a)6653(a)21409-8419804,497.00385.4587.40 28638-8419745,085.0019755,681.0019765,968.0019775,741.0019785,399.0028639-8419742,875.0019753,255.0019763,693.0019773,611.0019786,300.0028657-8419775,941.0019787,112.0019799,412.0028681-8419742,915.0019753,753.0019764,931.0019774,672.0019786,145.0019796,206.0028787-8419746,291.0019756,821.0019766,884.0019777,905.0019788,675.00197910,149.0028938-8419779,142.00197810,597.0029108-8419743,090.0019753,044.0019765,001.0019773,773.0019783,774.0019794,591.0029111-8419777,203.0019787,844.0019798.898.0029404-8419745,834.0019757,856.0019768,894.00197711,581.00197815,961.00197916,755.0029464-8419743,536.0019754,101.0019764,869.0019774,869.0019787,836.0019797,575.0029594-8419744,020.0019754,223.0019763,647.0019773,367.0019783,153.0029681-8419773,723.0019783,424.0019793,302.0029701-8419757,267.0019767,881.0019776,993.00197811,873.00197915,035.001970-8519745,485.0019755,845.0019765,790.0019779,745.0019789,191.00197911,268.00*672 Footnotes1. Appendix A sets forth petitioners in these consolidated cases by docket number and name.↩2. All section references are to the Internal Revenue Code of 1954, as amended and in effect for the years in issue. All Rule references are to the Tax Court Rules of Practice and Procedure.↩3. Unexplained in this record is how ownership of the cattle passed from Walter J. Hoyt, Jr. to his children at his death and why Jay Hoyt did not own any of those cattle. We suspect he did not claim an ownership interest in the cattle sold to the partnerships to give credence to his claim that Hoyt & Sons sold the cattle to his partnerships at arm's length.↩4. Some of these cases consolidated for trial involve the years 1974, 1975, and 1976. Those years pertain to investment tax carrybacks from the years 1977, 1978, and 1979. We will continue to refer to the years in issue as the years 1977, 1978, and 1979.↩5. A catch calf is a calf which a breeder would sell off for a minimum price. The catch calf, in effect, is of minimum quality -- something like a performer on the "Gong Show" as compared to one at the Metropolitan Opera.↩6. The interest rate varied somewhat on the notes depending on which year the note was made. The rates did not deviate materially from the 6 percent figure, however. ↩7. In other words it takes 4-5 years before a young heifer calf becomes an income-producing breeding cow. The principal repayments are accordingly delayed until such time as there is income from the animal to pay off the purchase price.↩8. The partnerships reported as section 1231 gains, the exchange of breeding cattle to Hoyt & Sons as payment on the notes. The partnership returns do not indicate whether these breeding cattle had been previously depreciated.↩9. The payment schedules on a few of the notes were changed pursuant to extension agreements signed by the parties.↩10. One of the expenses paid for by the management company was insurance on the cattle.↩11. Each partnership entered into its own share crop operating agreement. However, it appears that all the agreements contain the same language.↩12. The management company indicated on its capital account that it had made large payments of interest to Hoyt & Sons which we assume to be raised calves.↩13. There is no indication whether these cattle had been depreciated. ↩14. These calves may have been the calves received as crop shares.↩15. Curiously, in 1979 Jay Hoyt allocated losses to himself from the management company in an amount which matched his guaranteed payments thereby making receipt of his guaranteed payments tax free. He did not allocate any losses to himself for taxable years 1977 and 1978 although he received guaranteed payments in those years as well.↩16. A bull can sire 25-35 calves a season on average. This number can change depending on the age of the bull and on the harshness of the terrain.↩17. A multi-sire group is a group of bulls that service the same cow herd. This is done in areas of arid terrain where the cows are very spread out. The multi-sire group is used because a single bull could not service all the cows himself because there would be too much ground to cover. The most preferred group in a multi-sire group is one in which all the bulls are full siblings. The next best group is if all the bulls are paternal half siblings.↩18. The progression is as follows: Breed a full blood to a non-Shorthorn, get a 1/2 blood. Breed that 1/2 blood to a full blood, get a 3/4 blood. Breed the 3/4 blood to a full blood, get a 7/8 blood. Breed that 7/8 blood to a full blood get a 15/16th blood. That 15/16 blood can be registered as a pure blood Shorthorn. All the cattle prior to the 15/16 blood can be registered as appendix registry Shorthorns.↩19. It appears that the Hoyts have not always kept birth weight records. However, they began recording birth weights at some point in their operation.↩20. One expert testified that the Hoyt name was worth $1,300 per animal. Although this figure is more boasting than reality it is indicative of the fact that the Hoyt name adds value.↩21. Respondent's counsel continually tried to point out that only his expert saw an actual random sample of the herd. No one did on July 14 because that plan was abandoned. Furthermore, respondent failed to prove what a random sample of the herd would have been. That fact was not stipulated to nor did respondent introduce any evidence on that point.↩22. Dr. Allen attached to his expert report, as exhibit B, a list of average prices for Shorthorn cattle (females only) per year reported to the ASA. The average price for 1979 was $1061. The average price for 1984 was $1,189. This is an increase of 12 percent from 1979 to 1984.↩23. Attorneys for petitioners had boxes filled with cattle records. An agent of the IRS came to the attorneys' office to pick up the boxes of records. The agent signed and initialled every page of an inventory list of the boxes he picked up. The boxes contained approximately 17,000 documents. Dr. Allen never saw these records. We assume respondent lost them somewhere along the way.↩24. A "lot" consists of any of the following: (1) one bred female, (2) one cow and calf, (3) one cow and her transferred embryos, (4) one open female, (5) one bull, or (6) embryos out of one female.↩25. This issue was not raised in docket no. 13800-83. ↩26. The issues of whether a bona fide sale took place for depreciation purposes and whether petitioners were insured against any economic loss were only raised in the following cases: docket Nos. 28638-84, 28639-84, 28657-84, 28681-84, 28787-84, 28938-84, 29108-84, 29111-84, 29404-84, 2946-84, 29594-84, 29681-84, 29701-84, and 1970-85. ↩27. The issue of the management fee was only raised in the following cases, docket Nos. 18832-82, 04499-83, 12274-83, 13174-83, 14178-83, 14956-83, 16414-83 and 24307-83.↩28. This issue was separately stated in the following cases, docket Nos. 28638-84, 28639-84, 28681-84, 28787-84, 29108-84, 29404-84, 29464-84, 29594-84, 29701-84 and 1970-85.↩29. This issue was not raised in docket No. 13800-83.↩30. Transactions which are fictitious or a mere paper chase are also considered shams. Falsetti v. Commissioner,85 T.C. 332">85 T.C. 332↩ (1985). However these cases do not deal with a phantom herd or other indices of fictitiousness.31. We have shied away from placing too much emphasis on the values placed on the cattle by petitioners' experts for the simple reason that they are closely associated with the Hoyts. However, when it comes to determining changes in prices over time, petitioners' experts are more independent because their opinions do not concern the Hoyts in particular. Consequently, we think that the experts' testimony on this point is most persuasive.↩32. This section has been adopted in all jurisdictions relevant to these cases. See Cal. Com. Code section 2401 (West 1964) (California); Nev. Rev. Stat. Ann. section 104.2401 (Miche 1986) (Nevada); Or. Rev. Stat. section 72.4010↩ (1987) (Oregon).33. The California Food and Agricultural Code states as follows: Evidence of ownership of an animal or hide may include any of the following: (a) A recorded brand registered in the name of the person in possession of the animal or hide. (b) A brand inspection certificate. (c) A bill of sale from the owner of the brand on the animal or hide. (d) In the case of an unbranded animal or hide, a bill of sale which gives a description of the breed, sex, color, and natural markings, if any. (e) A dairy exemption number. [Cal. Food and Agric. Code section 16522↩ (West 1986).]34. The management company paid for insurance on the cattle as part of its service. This is a service petitioners are paying for. This does not mean that the seller has insured the herd for the seller's benefit.↩35. Sec. 1.183-2(b), Income Tax Regs., provides a nonexclusive list of factors which should normally be considered in determining whether an activity is engaged in with the requisite profit objective. The nine factors are: (1) The manner in which the taxpayer carries on the activity; (2) the expertise of the taxpayer or his advisors; (3) the time and effort expended by the taxpayer in carrying on the activity; (4) the expectation that assets used in the activity may appreciate in value; (5) the success of the taxpayer in carrying on other similar or dissimilar activities; (6) the taxpayer's history of income or losses with respect to the activity; (7) the amount of occasional profits, if any, which are earned; (8) the financial status of the taxpayer; and (9) whether elements of personal pleasure or recreation are involved. No single factor, nor the existence of even a majority of the factors, is controlling, but rather it is the totality of the facts and circumstances taken as a whole which is determinative. Sec. 1.183-2(b), Income Tax Regs.↩36. In Metcalf v. Commissioner,T.C. Memo. 1963-277↩, we recognized that the development of a breeding herd constitutes a profit seeking activity even though profits may only be expected in the long run.37. Because of petitioners' concession, petitioners' bases in their partnerships are limited to their cash investments; the parties have stipulated to those amounts.↩38. In Allen v. Commissioner,T.C. Memo. 1988-166↩, we held that in order for a shareholder to deduct losses which passed through his S corporation from a partnership interest held by the S corporation, the S corporation must have adequate basis to absorb the losses from the partnership. That reasoning can be applied in this case because of the comparable tiered structure (especially considering that the entity creating the losses was a partnership in both cases.)39. Cattle used for breeding purposes are property subject to depreciation. Section 1.167(a)-6(b), Income Tax Regs.↩40. We attach no significance to the term "crop share" for Federal income tax purposes. These payments more closely resemble expenses paid "in kind." 4 N. Harl, Agricultural Law, sections 27.03[1] and [2] (1988). ↩41. The amount realized from the disposition is equal to the management fee (the expenses). The basis is zero. Accordingly the gain realized equals the expenses.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623637/	Meyer Beberman v. Commissioner.Beberman v. CommissionerDocket No. 42576.United States Tax Court1954 Tax Ct. Memo LEXIS 293; 13 T.C.M. (CCH) 168; T.C.M. (RIA) 54058; February 19, 1954293 James T. Lodge, Esq., for the respondent. MURDOCK Memorandum Findings of Fact and Opinion The Commissioner determined deficiencies in income tax and 50 per cent additions to the tax for fraud as follows: YearDeficiencyFraud 50%1946$ 404.30$ 202.151947884.51442.251948556.86278.4319492,570.721,285.361950608.26304.13 There was no appearance for the petitioner when the case was called for trial after due notice. The Commissioner's motion for judgment as to the deficiencies because of the failure of the petitioner to appear and offer evidence to show error on the part of the Commissioner was granted. The Commissioner then introduced evidence to support his burden of proof on the fraud issue. Findings of Fact The petitioner filed returns for the taxable years with the collector of internal revenue for the District of Massachusetts. A part of the deficiency for 1949 is due to fraud with intent to evade tax. Opinion MURDOCK, Judge: The evidence shows that the petitioner was engaged during the taxable years in various illegal activities such as bookmaking and selling numbers tickets. He had an interest in a winning294 number in 1949 and as a result of that win received income of $7,700 in that year. He reported only $2,650 of gross income on his return for that year. The evidence as a whole is convincing that the petitioner filed a fraudulent return for 1949 and that the deficiency for that year is due, at least in part, to fraud with intent to evade tax. Decision will be entered for the respondent as to the deficiency for each year and as to the addition for fraud for 1949, and holding that there are no additions for fraud for the other years.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623638/	GUARANTY TRUST COMPANY OF NEW YORK, EXECUTOR, ESTATE OF LAMAR L. FLEMING, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Guaranty Trust Co. v. CommissionerDocket No. 78362.United States Board of Tax Appeals34 B.T.A. 384; 1936 BTA LEXIS 707; April 21, 1936, Promulgated 707 1. Decedent, until his death on December 16, 1933, was a member of a New York partnership. Both decedent and the partnership were on the cash receipts and disbursements basis. Decedent reported his income on a calendar year basis and the partnership, on that of a fiscal year ending July 31, 1933. The partnership contract provided for only one accounting period, which was at the close of its fiscal year. Decedent died December 16, 1933. Under a provision of the partnership contract, the surviving partners continued the firm for the purposes of liquidation, which was completed during 1934. Held, only the distributive share of the profits of the partnership for its fiscal year ended July 31, 1933, is includable in decedent's taxable income for the period January 1 to December 16, 1933. Abe De Roy et al., Executors,19 B.T.A. 452">19 B.T.A. 452; R. W. Archbald, Jr., et al., Executors,4 B.T.A. 483">4 B.T.A. 483, followed. 2. Id. - Commissions earned by such partnership between the end of its fiscal year and decedent's death, but not collected by the partnership nor received by or available to decedent prior to his death, are not includable as income of decedent708 for the period prior to his death. 3. Id. - Interest on decedent's contributed partnership capital, as well as interest on his credit balance with the partnership for the period between the end of the partnership's fiscal year and his death, is merely partnership profits (Billwiller's Estate, 31 Fed.(2d) 286; certiorari denied, 279 U.S. 866">279 U.S. 866; John A. L. Blake,9 B.T.A. 651">9 B.T.A. 651), and, as such, is likewise here not taxable as income to decedent for the period prior to his death. Weston Vernon, Jr., Esq., for the petitioner. Harold Allen, Esq., for the respondent. LEECH384 The petitioner, as executor of the estate of Lamar L. Fleming, deceased, seeks redetermination of a deficiency in income tax of $39,874.31 for the taxable period from January 1 to December 16, 1933. The petitioner alleges that the respondent erred in including in the decedent's income for that period, his distributive share of the profits of a partnership, of which he was a member, from July 31 to December 16, 1933, when he died. He makes the same contention as to certain commissions earned by the partnership, and certain709 interest due decedent from the partnership. The facts have been stipulated and from them we make the following findings of fact. FINDINGS OF FACT. The decedent, Lamar L. Fleming, died December 16, 1933. For a number of years prior to his death he was a member of the partnership 385 of Anderson, Clayton & Fleming, engaged in the cotton business, with its principal place of business in New York City and branches in other cities of the United States and Europe. The business of the partnership was operated on the cash receipts and disbursements basis with a fiscal year ending July 31 of each year. The decedent likewise kept his accounts on the cash receipts and disbursements basis, but kept his accounts and made his tax returns on a calendar year basis. On August 1, 1933, a new partner was admitted to the firm and a new partnership agreement was made, which was identical with the previous one, except as to the division of the profits. This new agreement provided that its fiscal year should begin August 1, 1933, and end July 31, 1934. In accordance with the contract of partnership an account was taken at the end of the fiscal year July 31, 1933, and decedent was710 notified of his share of the profits for the preceding 12 months. A large portion of his share was allowed to remain to his credit with the partnership. No part of the earnings of the partnership for the period between the end of the fiscal year July 31, 1933, and his death was paid to or received by the decedent. The partnership agreements provided for but one yearly accounting and settlement, which was at the end of the fiscal year. After the death of Lamar L. Fleming the business of the partnership was continued by the surviving partners under the same name. In May 1934, they entered into a new contract of partnership taking over the business as of December 18, 1933, and providing for a fiscal year ending July 31, 1934, and from year to year thereafter. Shortly after the death of decedent an account was taken covering the period from August 1 to December 16, 1933, and on or about January 9, 1934, decedent's executors received in partial distribution and liquidation of the partnership $298,730.19, which consisted of the $100,000 capital invested by the decedent, the credit balance on deposit due decedent of $162,795.67, and decedent's share of the profits of the partnership711 between the end of its fiscal year July 31, 1933, and decedent's death, December 16, 1933, in the sum of $35,150.88, and interest of $783.64. In February 1934, decedent's executors received a final distribution of $15,067.39 and interest of $82.56. This latter sum included $13,894.74 as decedent's share of commissions earned by the partnership between the end of its fiscal year and the death of decedent, but not collected until 1934 in accordance with a trade custom. Decedent's executors duly filed his income tax return for the period January 1 to December 16, 1933, date of his death, and included therein his distributive share of the profits of the partnership for the fiscal year ending July 31, 1933, but did not include 386 therein his share of the profits of the partnership earned between July 31, 1933, the end of its fiscal year and the date of his death, December 16, 1933. Likewise the decedent's share of the open commissions earned during that period and interest on his capital investment and credit balance with the partnership were omitted. In determining the deficiency the respondent included in decedent's income the sum of $63,494.46 representing partnership712 profits for the period between July 31 and December 16, 1933, and $5,559.19 unreported interest. The item of $63,494.46 included the cash earnings of the partnership during the period and also the uncollected commissions earned during that period in the sum of $13,894.74. The unreported interest of $5,559.19 consisted of $3,209.19 interest on decedent's credit balance for that period, $2,300 interest on his capital investment, and $50 from some other source. The executors of the estate of the decedent duly filed an estate tax return, which included decedent's credit balance with the partnership, his capital interest therein and his share of the profits earned during the period August 1 to December 16, 1933, and paid the estate tax thereon. On February 28, 1934, the survivors of the partnership filed a return for it in liquidation for the fiscal year beginning August 1, 1933, and ended December 16, 1933, and on October 28, 1934, they filed a return for the fiscal year December 17, 1933, to July 31, 1934. Both of these were made without permission or direction of the respondent. On or about March 5, 1935, the executors of the estate of the decedent waived the restrictions713 upon the assessment of $37,917.39, out of a total deficiency in tax determined by the Commissioner in his letter of October 25, 1934, amounting to $39,874.31. Such waiver was made after the petition to the Board of Tax Appeals had been filed herein, and was made without prejudice to the right of the executors to prosecute the pending appeal and to recover any amount refundable under the final decision of the Board herein. Following the waiver of the restrictions upon the assessment of $37,917.39, the Commissioner assessed such amount against the executors of the decedent, together with interest thereon in the amount of $2,318.67, making a total of $40,236.06. The Commissioner applied as a credit against such taxes and interest the amount of an overassessment in the decedent's income tax for the calendar year 1932, amounting to $1,956.92, together with interest thereon amounting to $149.02, and issued a notice and demand upon the decedent's estate for a total of $38,130.12, consisting of $35,811.45 in tax and interest of $2,318.67, which was paid by the decedent's executors on April 15, 1935. 387 OPINION. LEECH: The dominant issue is whether decedent's return for the714 period from January 1 to December 16, 1933, the date of his death, should include decedent's share of the partnership profits for the interval between July 31, 1933, the end of the partnership's fiscal year, and December 16, 1933, when decedent died. Both decedent and the partnership were on a cash receipts and disbursements basis. The Revenue Act of 1932 is controlling. Section 182(a) provides: SEC. 182. TAX OF PARTNERS. (a) GENERAL RULE. - There shall be included in computing the net income of each partner his distributive share, whether distributed or not, of the net income of the partnership for the taxable year. If the taxable year of a partner is different from that of the partnership, the amount so included shall be based upon the income of the partnership, for any taxable year of the partnership ending within his taxable year. The "taxable year" of the partnership differed here from the "taxable year" of the decedent, since such year of the partnership was its fiscal year ended July 31, 1933, and that of the decedent was the calendar year. Sec. 48(a). 1 Thus the determination of decedent's taxable income for the period from January 1 to December 16, 1933, when715 he died, "shall be based upon the income of the partnership for any taxable year of the partnership ending within his taxable year." Sec. 182(a), supra. A taxable year of the partnership ended on July 31, 1933. No other such year ended before decedent's death, unless decedent's death, ipso facto, terminated a second "taxable year" of the partnership. The partnership contract provided for only one accounting period, which was at the close of the fiscal year. A provision for any other termination of the taxable year, except by mutual716 agreement, was not included in the contract. Article nine of the agreement reads in part as follows: In the event of any dissolution of the co-partnership under any provision of this agreement or in any manner or for any cause whatsoever, the assets thereof shall be applied first, to the payment of the debts thereof; second, to the return of the capital invested therein by any partner hereto; and third, to the distribution of the profits or surplus in accordance with the provisions hereinabove set forth for the distribution of net gains and profits. 388 The surviving partners, after decedent's death, carried on the partnership for the purpose of its liquidation, which was not completed until 1934. None of the proceeds of that liquidation were received by or available to decedent, and were not available to or received by petitioner, his representative, until 1934. This partnership was a New York firm. Under the law of that state, not only the addition of a partner does not effect the dissolution of a partnership, (717 Helvering v. Archbald, 70 Fed.(2d) 720), but the death of the decedent partner, though it may cause dissolution, certainly does not terminate the "taxable year" of the partnership where, as here, the surviving partners continue it for purposes of liquidation. Partnership Law of New York, secs. 60, 61, and 62. 2As this Board held in Abe De Roy et al., Executors,19 B.T.A. 452">19 B.T.A. 452, upon identical facts arising under section 218(a) of the Revenue Act of 1924, which is substantially the same as section 182(a) of the Revenue Act of 1932, supra, here applicable: * * * The death of the partner did not terminate or shorten the accounting period of the partnership718 and there was only one accounting period of the partnership ending in the decedent's taxable year before us. * * See R. W. Archbald, Jr., et al., Executors,4 B.T.A. 483">4 B.T.A. 483, where we said: "It seems clear to us that the death of a partner does not shorten the partnership's fiscal or calendar year to an accounting period terminating at the death of the partner and that only a complete liquidation during the calendar or fiscal year terminates the accounting period. This partnership has but one accounting period ending in 1920. The statutory net income of the partnership could not in this instance be computed before the close of its fiscal year. This being our view, we must hold that there should be included in the deceased's return of income for 1920 only his distributive share of the partnership net income for its fiscal year ending January 31, 1920." To sustain respondent and include in decedent's taxable income, for the period prior to his death, the partnership income earned between July 31, 1933, the end of the partnership's fiscal year, and December 16, 1933, the date of decedent's death, would require our violation of the basic tenet of income tax law that719 such tax is assessed on the basis of a period of 12 months. See Helvering v. Morgan's, Inc.,293 U.S. 121">293 U.S. 121; General Machinery Corporation,33 B.T.A. 1215">33 B.T.A. 1215. The Revenue Act of 1932, section 47, specifically provides for "Returns for a period of less than twelve months." See also section 48(a), supra.The statute does not include a provision permitting 389 returns for a period of more than twelve months. This Board refused to increase such period in the De Roy case, supra, and in R. W. Archbald, Jr., et al., Executors,4 B.T.A. 483">4 B.T.A. 483. Both of those cases are directly in point. The De Roy case involved facts identical with those here, and it was decided after the appeal of Maurice L. Goldman et al., Executors,15 B.T.A. 1341">15 B.T.A. 1341, which qualified the rule adopted in the Archbald case. See United States v. Wood, 79 Fed.(2d) 286; G.C.M. 2308, vol. VI-2 C.B. 229, 1927. Respondent cites Maurice L. Goldman et al., Executors, supra;720 Clarence B. Davison, Executor,20 B.T.A. 856">20 B.T.A. 856; affd., 54 Fed.(2d) 1077; J. L. Hall et al., Executors,25 B.T.A. 1">25 B.T.A. 1; Beverly W. Smith, Administrator,26 B.T.A. 778">26 B.T.A. 778; affd., 67 Fed.(2d) 167; First Trust Co. of Omaha v. United States,1 Fed.Supp. 900; Peoples-Pittsburgh Trust Co. v. United States,10 Fed.Supp. 139. None of these cases, nor any other to which our attention has been directed, disturbs the rule followed in the Archbald, and De Roy cases in its application to the facts presented here. The argument that the disputed income thus escapes income tax should be addressed to Congress, not to this Board. See Commissioner v. City Bank Farmers Trust Co.,296 U.S. 85">296 U.S. 85; Sawtell v. Commissioner, 82 Fed.(2d) 221. Respondent's contention, that the returns filed by the surviving partners estop petitioner from taking his present position, is untenable. Those returns were filed without the consent of the Commissioner. In our view of the law just stated, which, of course, the surviving partners could not alter, these returns721 were neither authorized nor required. Revenue Act of 1932, sec. 189; 3 Regulations 77, art. 941. 4 But, aside from other frailties, the argument falls because it is not established that respondent relied upon any act of the decedent or petitioner to respondent's detriment. When petitioner took the position upon which he now stands, on instituting these proceedings, respondent could have then availed himself of any steps possible to him which were so prior to the filing of these returns. No statute of limitations prevented such steps. Revenue Act of 1932, 390 sec. 275(a). 5 The absence of that detriment here, alone, defeats the plea of estoppel. Helvering v. Brooklyn City R. Co., 75 Fed.(2d) 274. The petitioner is sustained on the first and controlling issue. 722 The second issue relates to the propriety of respondent's action in including in decedent's prior-to-death return the open or uncollected commissions on sales by the partnership which were earned subsequent to the end of the partnership's fiscal year, and not collected until 1934, after the death of the decedent. Since the partnership was on a cash basis and the practice of the trade, in which the partnership was engaged, was that such commissions were not payable to the firm until 1924, after delivery in the execution of the sale, it is at least doubtful whether these commissions could be held to have been constructively received, even by the partnership before that year. Revenue Act of 1932, sec. 42. 6Avery v. Commissioner,291 U.S. 657">291 U.S. 657. In any event, these commissions, even if constructively received by the partnership between July 31, 1933, and decedent's death, were earnings of the partnership. Thus, respondent's inclusion of them in decedent's income for the questioned period is precluded by the same rule applied above. 723 R. W. Archbald, Jr., et al., Executors, supra;Abe De Roy et al., Executors, supra.The suggestion of respondent, that this item was not mentioned in the pleadings and therefore should not be considered now, is without merit. These commissions were merely a part of the partnership profits for the disputed period, all of which are in controversy. They were included in the stipulated facts upon which the case was submitted for determination. Respondent refers to section 42 of the Revenue Act of 1934 7 as a "clarification of existing law." We disagree with that construction. That provision, in our judgment, changed the law. Nichols v. United States,64 Ct.Cls. 241; Report of the Ways and Means Committee, p. 24, H.R. No. 704, 73d Cong., 2d sess. Neither the provision itself, 391 724 nor the cited report, indicates its operation was intended to be retroactive. Thus it can not be so construed. Shwab v. Doyle,258 U.S. 529">258 U.S. 529. Cf. Goldfield Consolidated Mines Co. v. Scott,247 U.S. 126">247 U.S. 126. The third issue involves the correctness of respondent's inclusion of two items of interest in decedent's taxable income for the period immediately prior to his death. These items consist of interest in the amount of $2,300 on his capital investment in the firm, and interest in the amount of $3,209.19 on the credit balance which decedent725 had left with the partnership. The fourth article of the contract of the partnership is that: All capital shall bear interest at the rate of six percent (6%) per annum, or at such other rate as mutually may be agreed upon between the partners, which interest shall be credited or paid at the end of each fiscal year during the continuance of the co-partnership and shall be charged to the expenses of the business. But despite this proviso concerning the first item, we think both items, denominated interest, were merely partnership profits and taxable to decedent just as any other such profits. Billwiller's Estate v. Commissioner, 31 Fed.(2d) 286; certiorari denied, 279 U.S. 866">279 U.S. 866; John A. L. Blake,9 B.T.A. 651">9 B.T.A. 651. These items were, therefore, also improperly included by respondent in decedent's taxable income here. R. W. Archbald, Jr., et al., Executors, supra;Abe De Roy et al., Executors, supra.Decision will be entered under Rule 50.Footnotes1. SEC. 48. DEFINITIONS. When used in this title - (a) TAXABLE YEAR. - "Taxable year" means the calendar year, or the fiscal year ending during such calendar year, upon the basis of which the net income is computed under this Part. "Taxable year" includes, in the case of a return made for a fractional part of a year under the provisions of this title or under regulations prescribed by the Commissioner with the approval of the Secretary, the period for which such return is made. The first taxable year, to be called the taxable year 1932, shall be the calendar year 1932 or any fiscal year ending during the calendar year 1932. ↩2. § 60. Dissolution defined. The dissolution of a partnership is the change in the relation of the partners caused by any partner ceasing to be associated in the carrying on as distinguished from the winding up of the business. § 61. Partnership not terminated by dissolution. On dissolution the partnership is not terminated, but continues until the winding up of partnership affairs is completed. § 62. Dissolution is caused: * * * (4) By the death of any partner; ↩3. SEC. 189. PARTNERSHIP RETURNS. Every partnership shall make a return for each taxable year, stating specifically the items of its gross income and the deductions allowed by this title, and shall include in the return the names and addresses of the individuals who would be entitled to share in the net income if distributed and the amount of the distributive share of each individual. The return shall be sworn to by any one of the partners. ↩4. ART. 941. Partnership returns.↩ - Every partnership must make a return of income, regardless of the amount of its net income. The return shall be on Form 1065 and shall be sworn to by one of the partners. Such return shall be made for the taxable year of the partnership, that is, for its annual accounting period (fiscal year or calendar year, as the case may be), irrespective of the taxable years of the partners. (See sections 182 and 183 and articles 901-903.) If the partnership makes any change in its accounting period, it shall make its return in accordance with the provisions of section 47 and article 371. (See also article 744.) 5. SEC. 275. PERIOD OF LIMITATION UPON ASSESSMENT AND COLLECTION. Except as provided in section 276 - (a) GENERAL RULE. - The amount of income taxes imposed by this title shall be assessed within two years after the return was filed, and no proceeding in court without assessment for the collection of such taxes shall be begun after the expiration of such period. ↩6. SEC. 42. PERIOD IN WHICH ITEMS OF GROSS INCOME INCLUDED. The amount of all items of gross income shall be included in the gross income for the taxable year in which received by the taxpayer, unless, under methods of accounting permitted under section 41, any such amounts are to be properly accounted for as of a different period. ↩7. SEC. 42. PERIOD IN WHICH ITEMS OF GROSS INCOME INCLUDED. The amount of all items of gross income shall be included in the gross income for the taxable year in which received by the taxpayer, unless, under methods of accounting permitted under section 41, any such amounts are to be properly accounted for as of a different period. In the case of the death of a taxpayer there shall be included in computing net income for the taxable period in which falls the date of his death, amounts accrued up to the date of his death if not otherwise properly includible in respect of such period or a prior period. ↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623639/	SAMUEL G. AND HAZEL P. EUBANKS, ET AL., 1 Petitioners v. COMMISSIONER OF INTERNAL REVENUE, Respondent Eubanks v. CommissionerDocket Nos. 22470-88, 22471-88, 22472-88United States Tax CourtT.C. Memo 1990-227; 1990 Tax Ct. Memo LEXIS 261; 59 T.C.M. (CCH) 529; T.C.M. (RIA) 90227; May 7, 1990, Filed 261 Decisions will be entered under Rule 155. Scott R. Cox, for the petitioners. Jennifer Troutman, for the respondent. KORNER, Judge. KORNER756 MEMORANDUM FINDINGS OF FACT AND OPINION Respondent determined deficiencies in and additions to petitioners' Federal income tax as follows: Samuel G. and Hazel P. Eubanks - Docket No. 22470-88: Additions to Tax - Section 2YearDeficiency6653(a)(1)6653(a)(2)66611982$ 12,694 $ 634.7050% of the$ 4,289.25interest due on$ 17,157262 Ernest W. Marshall - Docket No. 22471-88: Additions to Tax - SectionYearDeficiency6653(a)(1)6653(a)(2)66611982$ 12,694 $ 634.7050% of the$ 3,776.75interest due on$ 15,1071983-- --50% of the --interest due on$ 2,177Walter M. and Thelma Wolfe - Docket No. 22472-88: Additions to Tax - SectionYearDeficiency6653(a)(1)6653(a)(2)66611982$ 12,693 $ 634.6550% of the$ 3,173.25interest due on$ 12,693The issues for decision are: (1) whether petitioners erroneously claimed investment tax credits arising from expenditures made by their real estate partnership in 1982; (2) whether petitioners are liable for additions to tax pursuant to sections263 6653(a)(1) and (2) and 6661 for 1982; and (3) whether petitioner Ernest W. Marshall is liable for an addition to tax pursuant to section 6653(a)(2) for 1983. 3FINDINGS OF FACT Some of the facts have been stipulated and are so found. The stipulations of fact and exhibits attached thereto are incorporated herein by this reference. Samuel G. and Hazel P. Eubanks (hereinafter Dr. and Mrs. Eubanks or petitioners Eubanks), Ernest W. Marshall (Dr. Marshall or petitioner Marshall), and Walter M. and Thelma Wolfe (Dr. and Mrs. Wolfe or petitioners Wolfe) resided in Louisville, Kentucky, when they filed their petitions in these cases. Both Dr. and Mrs. Eubanks and Dr. and Mrs. Wolfe filed joint Federal income tax returns for 1982; Dr. Marshall filed as an unmarried individual in 1982 and 1983. Drs. Eubanks, Marshall, and Wolfe264 are physicians. During 1982 they owned and operated a medical clinic, E.M.W. Health Services, P.S.C. (E.M.W.). E.M.W. was an outpatient surgical care facility. 757 In an agreement dated June 10, 1982, amended effective December 1, 1982, E.M.W. agreed to lease the ninth floor and part of the eighth floor of the Lincoln Federal Building in Louisville, Kentucky. At that time, the Lincoln Federal Building was over 40 years old, and had a total leasable area of 132,000 square feet on 11 floors. E.M.W. leased a total of 5,055 square feet. The lease had a five-year term, commencing December 1, 1982. E.M.W. had an option to renew the lease for one additional five-year period. By an agreement dated January 15, 1983, E.M.W. assigned its rights under the lease to VIP Development Company (VIP), a real estate partnership. Drs. Eubanks, Marshall, and Wolfe were sole, equal partners in VIP. VIP subleased the premises back to E.M.W. It also renegotiated the renewal option of the lease to three five-year periods. During 1982 VIP expended $ 190,404 to renovate the leased space to accommodate E.M.W.'s medical practice. 4 On its Form 1065, partnership information return, VIP claimed qualified265 rehabilitation expenditures totaling $ 190,406. On their 1982 Federal income tax returns petitioners each claimed an investment tax credit arising from their proportionate share of VIP's claimed qualified rehabilitation expenditures: petitioners Eubanks, $ 12,694; petitioner Marshall, $ 12,694; and petitioners Wolfe, $ 12,693. Petitioners are not expert in the Federal income tax. They employed professional tax preparers to complete their individual and VIP partnership returns during the years at issue. Petitioners testified266 at trial that they supplied the return preparers with all the information they had regarding their returns. They could not, however, specifically state that this information included a copy of VIP's lease on the Lincoln Federal Building. Prior to the issuance of the notices of deficiency in these cases, petitioners Eubanks and Marshall agreed to the assessment of certain amounts regarding their 1982 returns; petitioner Marshall also settled an amount regarding his 1983 return. 5 In his notices of deficiency respondent disallowed petitioners' claimed investment tax credits. He also determined additions to tax against petitioners Wolfe based on the investment tax credit item, and against petitioners Marshall and Eubanks based both on the investment tax credit and the previously settled items. 267 OPINION Issue (1): Investment Tax CreditPetitioners contend that their claimed investment tax credits arising from VIP's 1982 renovation expenditures should be upheld. Respondent disagrees, arguing that VIP did not satisfy the statutory prerequisites to qualification for the credit. Petitioners bear the burden of proof. Rule 142(a). We agree with respondent. As in effect for 1982, section 38 allowed taxpayers an investment tax credit comprised, inter alia, of the rehabilitation tax credit. Secs. 38(a), 46(a). The rehabilitation tax credit equaled a percentage of taxpayers' "qualified rehabilitation expenditures" on "qualified rehabilitated buildings." Secs. 46(a)(2)(A)(iv), 48(g). Among the rules restricting allowance of the rehabilitation tax credit was one directed at lessees: SEC. 48(g)(2). Qualified Rehabilitation Expenditure Defined. -- * * (B) Certain Expenditures Not Included. -- The term "qualified rehabilitation expenditure" does not include -- * * * (v) Expenditures of lessee. -- Any expenditure of a lessee of a building if, on the date the rehabilitation268 is completed, the remaining term of the lease (determined without regard to any renewal periods) is less than 15 years. [Emphasis added.] VIP's interest in the Lincoln Federal Building clearly fell within this exception: determined without regard to any renewal periods, VIP's lease was less than 15 years. As a result, VIP's 1982 expenditure was not a qualified rehabilitation 758 expenditure, and petitioners were not entitled to the rehabilitation tax credit. This issue decided, we need not address the other statutory prerequisites to the credit. We also reject petitioners' argument that VIP's investment in the Lincoln Federal Building satisfied the intent and purpose of the rehabilitation tax credit. Congress clearly stated a temporal leasehold prerequisite to a lessee's qualification for the credit. That was its intent and purpose. Accordingly, we hold for respondent on this issue. Issues (2), (3): Additions to Tax1. Additions to Tax for NegligenceRespondent determined section 6653(a)(1) and (2) additions to each petitioner's tax with regard to their claimed rehabilitation tax credits. In addition, respondent determined a section 6653(a)(2)269 addition to petitioners Eubanks' and Marshall's tax with regard to their previously settled underpayments for 1982, and a section 6653(a)(2) addition to petitioner Marshall's tax with regard to his previously settled underpayment for 1983. We note that respondent's determination of additions to tax based on underpayments, parts or all of which were settled prior to issuance of the notice of deficiency, is neither beyond respondent's authority, nor beyond the jurisdiction of this Court to review. See Bianchi v. Commissioner, 66 T.C. 324">66 T.C. 324, 335 (1976), affd. without published opinion 553 F.2d 93">553 F.2d 93 (2d Cir. 1977); Stewart v. Commissioner, 66 T.C. 54">66 T.C. 54 (1976). With regard to the claimed investment tax credit, we find that petitioners neither were negligent, nor intentionally disregarded rules and regulations. They reasonably relied on the advice of professional tax preparers concerning a matter which was not self-evident. See United States v. Boyle, 469 U.S. 241">469 U.S. 241, 251-252 (1985). In contrast, respondent contends that petitioners must be found negligent because they cannot prove that they provided their tax preparers a copy270 of VIP's lease on the Lincoln Federal Building. He argues that, under existing authority, taxpayers are held liable for additions when they cannot prove that they provided their tax preparers complete information. See, e.g., Johnson v. Commissioner, 74 T.C. 89">74 T.C. 89, 97 (1980), affd. 673 F.2d 262">673 F.2d 262 (9th Cir. 1982); Yale Avenue Corp. v. Commissioner, 58 T.C. 1062">58 T.C. 1062, 1076-1077 (1972). We find the present circumstances distinguishable from this line of authority. The cases cited by respondent address situations where taxpayers neglected to inform their return preparers of information facially relevant to tax preparation: For example, in Johnson, taxpayers did not provide their return preparer copies of tax information forms they had in their possession; similarly, in Yale Avenue Corp., taxpayers did not inform their return preparer of the occurrence of an entire transaction. Such conduct is clearly negligent. In contrast, petitioners' failure to provide their return preparers copies of VIP's lease was not negligent: VIP's lease was not facially relevant to petitioners' 1982 returns. To require petitioners to have had the level of271 expertise necessary for them to have understood the relevance of the lease to their tax returns would be tantamount to holding them to a standard of conduct in excess of the negligence standard. See Neely v. Commissioner, 85 T.C. 934">85 T.C. 934, 947 (1985). Accordingly, we find that petitioners were not negligent with regard to their claimed investment tax credits. With regard to petitioners Eubanks' and Marshall's previously settled items, we uphold respondent's determination of negligence. Petitioners Eubanks and Marshall simply failed to introduce sufficient specific information about these items to carry their burdens of proof. General testimony that they provided all information to and cooperated with their return preparers, without more, does not convince us that these petitioners exercised due care concerning particular items on their returns. See Neely v. Commissioner, supra.Section 6653(a)(2) imposes an addition to tax of 50 percent of the interest payable on the portion of an underpayment attributable to negligence. Based on our above conclusions, 272 only petitioners Eubanks and Marshall are liable for section 6653(a)(2) additions to tax, and only with regard to their previously settled items. We remind the parties that the computation of this addition to tax ended upon the earlier of the assessment or payment of the tax on the previously settled items. See sec. 6653(a)(2)(B). Section 6653(a)(1) imposes an addition to tax of 5 percent of an underpayment if any part of the underpayment is due to negligence. Since petitioners Wolfe have not been found negligent as to any part of their underpayment, they are not liable for this addition to tax. Petitioners Eubanks and Marshall were found negligent as to part of their underpayments. As a result, they are liable for the determined additions to tax under this subparagraph. This result is dictated by the plain language of section 6653(a)(1), and occurs despite the fact that petitioners Eubanks and Marshall were not negligent concerning the investment tax credits. See Commissioner v. Asphalt Products Co., 482 U.S. 117">482 U.S. 117 (1987). 2. Additions to Tax for Substantial 273 UnderstatementFinally, we must review respondent's determined additions to petitioners' tax under section 6661. Section 6661 imposes an addition to tax equal to 25 percent of any substantial understatement 759 of income tax. Sec. 6661(a); Pallottini v. Commissioner, 90 T.C. 498">90 T.C. 498 (1988). An understatement is substantial if it exceeds the greater of 10 percent of the tax required to be shown on the return or $ 5,000. Sec. 6661(b)(1). Based on our above conclusions, petitioners' understatements are substantial. Petitioners have not shown that they satisfy any of the exceptions limiting this addition. Sec. 6661(b)(2)(B). Neither do we agree with their argument that this addition to tax should not be sustained because respondent failed to waive its imposition under section 6661(c). Respondent's discretion to waive this addition may only be reviewed for abuse of discretion. Mailman v. Commissioner, 91 T.C. 1079">91 T.C. 1079, 1083-1084 (1988). Notwithstanding our holding that petitioners were not negligent concerning the claimed rehabilitation tax credits, we find*274 that respondent did not abuse his discretion on this matter. His actions were neither arbitrary, capricious, nor without sound basis. See Mailman v. Commissioner, supra at 1084. Accordingly, we sustain respondent on this issue. Decisions will be entered under Rule 155.Footnotes1. Cases of the following petitioners were consolidated for trial, briefing, and opinion: Ernest W. Marshall, docket No. 22471-88; and Walter M. and Thelma Wolfe, docket No. 22472-88.↩2. All statutory references are to the Internal Revenue Code, as in effect for the years in issue, and all rule references are to the Tax Court Rules of Practice and Procedure, except as otherwise noted.↩3. Certain amounts of tax and sec. 6653(a)(1) additions to tax were previously settled by petitioners Eubanks for 1982 and by petitioner Marshall for 1982 and 1983. See note 5, infra↩.4. The seeming inconsistency of VIP's expenditure of funds to renovate the leased space in 1982 prior to its receipt of the assignment of the lease in 1983 results from the combination of the parties' stipulated facts and documentary evidence. The definitive nature of the stipulation process, as well as the possibility that the existence of the stipulations discouraged the parties from explaining this inconsistency, preclude us from questioning these facts' veracity. See Rule 91(c).↩5. The following amounts were previously settled: Addition to Tax Petitioner(s)YearAmount of TaxSec. 6653(a)(1)Eubanks1982$ 5,905$ 295.25Marshall19822,673133.65Marshall19832,177108.85The amount of tax settled by petitioners Eubanks for 1982 related to the following items: rental expense, auto expense, auto depreciation, constructive dividends, and dividend exclusion. The amount of tax settled by petitioner Marshall for 1982 related to the following items: constructive dividends, travel reimbursement, auto expense and depreciation, and dividend exclusion. The amount of tax settled by petitioner Marshall for 1983 related to travel reimbursement and auto expense and depreciation.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623642/	Charles L. Vaughn and Dorothy B. Vaughn, Petitioners v. Commissioner of Internal Revenue, RespondentVaughn v. CommissionerDocket No. 916-78United States Tax Court87 T.C. 164; 1986 U.S. Tax Ct. LEXIS 79; 87 T.C. No. 10; July 21, 1986, Filed 79 An appropriate order will be entered granting petitioners' motion; decision will be entered under Rule 155. In Vaughn v. Commissioner, 81 T.C. 893">81 T.C. 893 (1983), we held that certain installment sales by petitioners to petitioner-wife's son were bona fide and should be given tax effect in accordance with the forms of the transactions. However, we also held that petitioner-husband constructively received the proceeds of petitioner-wife's son's subsequent sale of the assets of a corporation that petitioner-husband had sold to the son. Petitioner-husband had sold the corporation under a contract that required the son to place into escrow the proceeds from any sale by him of the assets of the corporation. Petitioners filed a motion for reconsideration of our opinion. We grant petitioners' motion for reconsideration. Held, the son did not place in escrow the proceeds of his sale of the corporate assets; petitioner-husband did not constructively receive these proceeds. Vaughn v. Commissioner, supra, is modified. James M. Morgan, Jr., Rex M. Lamb III, and Thomas B. Wells, for the petitioners.Charles B. Hanfman80 , for the respondent. Chabot, Judge. CHABOT165 SUPPLEMENTAL OPINIONThis case is before us on petitioners' motion for reconsideration of our opinion in the above-entitled case set forth at 81 T.C. 893">81 T.C. 893 (1983) (hereinafter sometimes referred to as Vaughn I). See Rule 161, Tax Court Rules of Practice and Procedure. In Vaughn I, we made findings of fact which we adopt for purposes of this supplemental opinion. However, for clarity, we begin with a brief recital of the facts pertinent to this supplemental opinion.For some time before 1973, petitioner Charles L. Vaughn (hereinafter sometimes referred to as Charles) owned all of the stock of Perry-Vaughn, Inc. (hereinafter sometimes referred to as Perry). Perry owned several tracts of land, on which it built apartment complexes. On part of one of these tracts, Perry built the Netherlands I and II Apartments. Perry leased another part of the latter tract to petitioners. Petitioners built the Netherlands III Apartments on the leased land. Petitioners formed a two-person partnership to operate the Netherlands III Apartments. On December 22, 1972, Charles transferred his partnership interest81 to Steven W. Vaughn (hereinafter sometimes referred to as Steven), the son of petitioner Dorothy B. Vaughn (hereinafter sometimes referred to as Dorothy). On January 29, 1973, Dorothy transferred her partnership interest to Steven.On or about February 2, 1973, Charles transferred all of the outstanding stock in Perry to Steven, pursuant to a contract styled "Installment Sales Contract" (hereinafter sometimes referred to as contract III). To pay for the stock, Steven gave Charles a promissory note (hereinafter sometimes referred to as note III) in the principal amount of $ 660,000, requiring 240 monthly payments of $ 4,355.70, beginning April 1, 1973. Note III provides that it is nonrecourse; i.e., Steven is not personally liable on the debt and Charles is to look only to the collateral for payment. Contract III provides that, if Steven were to liquidate Perry and resell the assets he received in the liquidation, then Steven would have to place the net proceeds of the sale in escrow. 1 Under contract III, the proceeds of the assets sale 166 would be held in escrow under the terms set forth in a document styled "Escrow Agreement" (hereinafter sometimes referred to as the82 escrow agreement). Under the escrow agreement, payments under note III were to be made directly from the escrow funds.Perry was subsequently liquidated and its assets were transferred to Steven. On May 31, 1973, Steven sold the Netherlands I, II, and III Apartments and the land on which they are located to an unrelated person. Notwithstanding the provisions of contract III, Steven did not place in escrow any of the proceeds of this sale.Petitioners contended that the form of the three transfers to Steven reflected the substance of the transactions. On their tax returns, petitioners treated each of the transfers to Steven as a sale and reported the gain therefrom on the installment method. Respondent contended that each of the transfers to Steven should be disregarded, that Charles should be taxed on the liquidation of Perry, and that petitioners should83 be treated as having made the May 31, 1973, sale to the unrelated person. Respondent contended that petitioners were not eligible to use the installment method to report their gains.We agreed in Vaughn I with petitioners that the form of the three transfers to Steven reflected the substance of the transactions. Accordingly, (1) Charles is not to be taxed on the liquidation of Perry, (2) petitioners are not to be treated as having made the May 31, 1973, sale to the unrelated person, and (3) with one exception, petitioners are permitted to report on the installment basis their gains from the three transfers to Steven. The one point as to which we partially agreed with respondent is our holding in Vaughn I that Charles is to be treated as having received in 1973 the amount of the proceeds of the May 31, 1973, sale, that were to have been placed in escrow as provided for in contract III.The Vaughn I holding which petitioners seek reconsideration of is the one point on which we partially agreed with respondent.The granting of a motion for reconsideration rests within the discretion of the Court. See, e.g., Louisville & N. R. Co. v. Commissioner, 641 F.2d 435">641 F.2d 435, 443-444 (6th Cir. 1981),84 affg. 167 on this issue 66 T.C. 962">66 T.C. 962 (1976). The Court generally denies such a motion unless unusual circumstances or substantial error is shown. Estate of Bailly v. Commissioner, 81 T.C. 949">81 T.C. 949, 951 (1983); Haft Trust v. Commissioner, 62 T.C. 145">62 T.C. 145 (1974), affd. on this issue 510 F.2d 43">510 F.2d 43, 45 n. 1 (1st Cir. 1975). In the instant case, we grant petitioners' motion because our careful reexamination of our opinion in Vaughn I leads us to conclude that (1) we erred therein and (2) that error is material to the decision of the instant case.We reaffirm those parts of Vaughn I which we described as follows ( Vaughn I, 81 T.C. at 913):We conclude that the form of the three transfers to Steven reflect the substance of the transactions, and that these transfers constituted bona fide sales to Steven. We also conclude that Steven (and not Charles as respondent contends) received the liquidating distribution from Perry. However, we must still consider what effect the escrow agreement has on these transactions.However, we now conclude 85 that we erred in our Vaughn I analysis of "what effect the escrow agreement has on these transactions."Although the escrow agreement is an integral part of contract III and we conclude that Charles could have enforced it, the fact remains that the agreement was never carried out. We have found that "Steven did not place the proceeds attributable to the sale of the property received as a liquidating distribution from Perry in escrow as provided for in contract III" ( Vaughn I, 81 T.C. at 905). Steven still had the proceeds (except, of course, to the extent that he may have used some parts of the proceeds to make his installment sale payments to Charles and Dorothy), he invested these proceeds, and he earned significant amounts from these investments. Vaughn I, 81 T.C. at 905. We may assume that the proceeds, or the assets in which they were invested, would have been available to Steven's general creditors.In those cases where an escrow account has led to a holding that the seller is to be treated as having constructively received the escrowed amounts, the buyer has in fact parted with the escrowed amounts. See, e.g., 86 the cases cited in Vaughn I, 893">81 T.C. at 913. In the instant case, Steven did 168 not part with any such amounts; Charles merely had a contractual right to require him to do so.We conclude that Charles did not constructively receive any of the proceeds of Steven's sale. 2*87 We hold for petitioners on this issue. Since the instant case is not an escrow case, it is not appropriate in this opinion to consider the position of this Court with regard to Reed v. Commissioner, 723 F.2d 138">723 F.2d 138 (CA1 1983), revg. T.C. Memo 1982-734">T.C. Memo. 1982-734.To take account of the parties' concessions,An appropriate order will be entered granting petitioners' motion; decision will be entered under Rule 155. Footnotes1. The sales of the partnership interests also were on the installment basis. The contracts of sale of the partnership interests do not include escrow provisions.↩2. It is clear that the part of our opinion in Vaughn I, 81 T.C. 893">81 T.C. 893 (1983), that begins with the second full paragraph on page 913, and continues through the first full paragraph ending on page 917, no longer plays a part in our analysis. If we were silent with regard to this material, then some might argue that this material remains as dictum, or at least is a clue as to what we would have held if Steven had placed the funds into escrow; others might say that our analysis in the instant opinion amounts to a rejection of this material. So that unwarranted inferences are not drawn from the two opinions in the instant case, we state that this material in 81 T.C. at 913-917 is to be disregarded. See, e.g., Zuanich v. Commissioner, 77 T.C. 428">77 T.C. 428, 457↩ (1981). See also the Congress' action in a somewhat similar situation, sec.1307(a)(3), Tax Reform Act of 1976, Pub. L. 94-455, 90 Stat. 1520, 1722; H. Rept. 94-1210 (to accompany H.R. 13500), 16-17 (1976), 1976-3 C.B. (Vol. 3) 46-47; S. Rept. 94-938 (Part 2), 84 (1976), 1976-3 C.B. (Vol. 3) 726; S. Rept. 94-1236 (H. Rept. 94-1515 (Conf.), 532-534 (1976), 1976-3 C.B. (Vol. 3) 936-938; Staff of Joint Comm. on Taxation, General Explanation of the Tax Reform Act of 1976, at 415-416 (J. Comm. Print 1976).	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623643/	B. R. and Helen W. DeWitt, Petitioners, v. Commissioner of Internal Revenue, RespondentDe Witt v. CommissionerDocket No. 65240United States Tax Court31 T.C. 554; 1958 U.S. Tax Ct. LEXIS 12; December 19, 1958, Filed 12 Decision will be entered under Rule 50. Held, that payments of alimony by petitioner B. R. DeWitt, which were received by his divorced wife, after the decree, but were related to periods prior to the decree, were deductible under section 23 (u) as periodic payments, includible in the divorced wife's gross income under section 22 (k), I .R. C. 1939. Frank J. Maguire, Esq., for the petitioners.Clarence P. Brazill, Esq., for the respondent. Mulroney, Judge. MULRONEY 554 The respondent determined a deficiency in the income tax of petitioners for the year 1953 in the amount of $ 10,590.02. 555 The sole issue presented here is the deductibility of a certain sum paid by petitioner Byron R. DeWitt to his former wife, Elinor P. DeWitt, after their divorce, pursuant to a written agreement between them, which agreement had been incorporated in the divorce decree.FINDINGS OF FACT.Some of the facts were stipulated and they are found accordingly.Byron R. DeWitt and Helen W. DeWitt are husband and wife. They live at Pavilion, New York, and they filed their joint income tax return for the year 1953 with the district director of internal revenue at Buffalo, New13 York. Helen W. DeWitt is a party by virtue of the joint return, so hereinafter the term "petitioner" will refer to Byron.On May 14, 1953, a divorce action was pending between petitioner and his former wife, Elinor, in the Supreme Court of Genesee County, New York. On said date the parties to the divorce action entered into a memorandum of agreement, which contained the following clause:The party of the first part, the husband, agrees to pay to the party of the second part, the wife, for her maintenance and support and for the maintenance and support of the two infant daughters, Judith M. DeWitt and Deborah G. DeWitt, the sum of Thirty Thousand ($ 30,000.00) Dollars annually, payable in equal monthly installments of Two Thousand Five Hundred ($ 2,500.00) Dollars in advance beginning as of the 1st day of February, 1953.It was further provided in said agreement "that the provisions of this agreement shall be fully incorporated into and made a part of the interlocutory and final decree of divorce which may be granted to the party of the second part in the action pending as aforesaid and shall become effective only if and when incorporated into such decrees."An interlocutory decree14 of divorce was entered in the action on June 4, 1953. Thereafter, on September 8, 1953, the interlocutory judgment of divorce became final and the final decree entered on said date incorporated the May 14, 1953, agreement.Thereafter, on September 8, 1953, petitioner paid Elinor $ 16,422.59 representing:Installments February to September, inclusive, under alimonyprovision (8 months at $ 2,500)$ 20,000.00Offsetting items, representing salaries received by Elinor P.DeWitt from corporations controlled by Byron R. DeWitt, andtaxes withheld on same3,577.4116,422.59After said payment, petitioner made four additional payments to Elinor in the year 1953 totaling $ 10,000. Petitioner took a deduction in his income tax return for the year 1953 in the total amount of $ 26,422.59 paid to Elinor in the year 1953 and Elinor included in her individual income tax return for the year 1953 the said amount paid 556 by petitioner and she paid the income tax thereupon shown to be due.Respondent allowed the four payments totaling $ 10,000 which were paid in 1953 subsequent to the divorce and $ 2,500 of the September 8, 1953, payment of $ 16,422.59 and disallowed the15 balance, or $ 13,922.59, stating in the notice of deficiency that said sum "is not an allowable deduction under the provisions of section 23 (u) of the Internal Revenue Code of 1939."In 1956 Elinor filed a claim for refund in the amount of $ 7,171.72 due to the overstatement of the alimony income in her 1953 income tax return in the amount of $ 13,922.59.OPINION.The agreement between the petitioner and Elinor provided for payments of $ 2,500 a month beginning with February 1953 but further provided nothing was to be paid thereunder unless the agreement was incorporated in a divorce decree in a divorce action then pending between the parties. It was incorporated in the decree entered the following September and thereafter in September and the remaining months of 1953 petitioner paid Elinor the full amount due under the agreement and Elinor included the payments in her 1953 income and petitioner took deduction therefor under section 23 (u) of the Internal Revenue Code of 1939. 1 Respondent disallowed the deduction of the portion of the payment made after the entry of the decree, allocable under the agreement to the months prior to September 1953, the month when the decree was 16 entered.Section 23 (u) gives the divorced husband a deduction for the amount he pays his divorced wife that is includible in her gross income under section 22 (k). Section 22 (k) provides as follows: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 marital 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 17 of such husband. * This is a case where it is peculiarly necessary to place the exact issue in proper perspective. Respondent states the issue to be: "Whether a payment made subsequent to a divorce for periods prior to the divorce are deductible under Section 23 (u) of the Internal Revenue Code of 1939." The few lines of argument in respondent's 557 brief are devoted to a charge that petitioner "is attempting to circumvent the decided cases [where it was held payments made prior to a decree of divorce are not deductible] and the intent of Sections 22 (k) and 23 (u)." There is really no issue of intent or interpretation under section 23 (u). Every one admits that the statute gives the husband the deduction for "payment * * * made within the husband's taxable year" of the "amounts includible under section 22 (k) in the gross income of his wife." And it adds nothing to the solution of the problem here to charge the petitioner with trying to get around the statutes, or the intent thereof, by, as respondent states, "arranging in an agreement between the parties that payment for periods prior to the divorce would be paid after the divorce decree."While the inquiry here is as18 to the amount of petitioner's deduction, the design of the two sections makes whatever he pays, that is includible in the wife's gross income, deductible in his. The payments here were periodic. Gale v. Commissioner, 191 F. 2d 79, affirming Elsie B. Gale, 13 T. C. 661. Respondent does not argue otherwise. Therefore, the precise question comes down to whether the divorced wife may, under section 22 (k), omit a portion of the payment she receives after the entry of the divorce decree, from inclusion in her gross income. If she can do this, then the husband's deduction is decreased by the amount the wife can lawfully omit from her gross income.The statute (sec. 22 (k)) furnishes an objective test for the divorced wife to employ with respect to including the payments she receives in her gross income. It is based on the time of receipt, tied to an easily determined event -- a familiar test in the field of income taxation. If she receives periodic payments after the entry of the divorce decree, the plain command of the statute is that they are to be included in her gross income.Respondent, in order to prevail, has19 to read into the statute a new test which would authorize her to relate the periodic payments she receives after the divorce to periods before and after the entry of decree and omit from her gross income the portion of the periodic payments which are properly related to or, in respondent's words, "payment for" periods prior to the divorce. While the instant case, due to the wording of the agreement, would create no great problem in allocating portions of payments to periods before and after the entry of the divorce decree, it requires no great foresight to see the problems that would arise in the majority of cases if the test of relating the payments to periods is to be added to the statute. In every case the divorced wife who receives periodic payments either under the mandate of the decree or under a written instrument "incident" to the divorce would have an interest in allocating as much of the payment as possible that she receives after the decree, to a period before the decree. The divorced husband would 558 be just as interested under the corollary statute (sec. 23 (u)) in having as much of such payment as possible allocated to the period after the decree. Thus if 20 the test of relating payments made after the decree to periods before and after the decree is deemed to be present in the statute, all the uncertain questions of the interpretation to be placed on the decree or written instrument that is incident to the divorce, and questions of the contemplation and intent of the parties, would, in most cases, be present. The direct, simple, objective test of time of receipt, as being the determinative factor for inclusion of payments in the divorced wife's gross income, would, in the ordinary divorce action, vanish. Though as stated, the allocation could easily be made here, the issue is not decided by that fact. The question is whether the statute authorizes the divorced wife to make such an allocation of part of the payment she receives after the divorce to a period prior to the divorce. It would seem that there should be compelling reasons advanced for the inclusion of such a test in the statute.We have previously quoted all that is contained in respondent's brief by way of argument to support his position. He merely adds thereto the citation of and a quotation from Warley v. McMahon, 148 F. Supp 388. That21 case, upon almost identical facts, held the respondent rightly disallowed the portion of the payment made after the entry of the divorce decree that could be said to be payment for periods prior to the decree. The court there construed section 22 (k) as follows: "Thus, when Section 22 (k) speaks of 'periodic payments * * received subsequent to such decree' it means to cover only periodic payments for periods subsequent to the decree."We think this is putting into the statute something that is plainly not there and was never intended to be there. Section 22 (k) is a taxing statute which follows the pattern of many statutes by imposing the tax in a definition of what is to be included in gross income. It provides a simple objective test of easy application and well it should for it is to be used by all divorced wives who receive periodic payments, in computing their gross income. It tells the divorced wife to include in her gross income all of the periodic payments she receives after the decree. It certainly is more desirable that the conflicting interests of the divorced parties be settled by recourse to the time of a certain event, such as the entry of a decree, rather than22 such factors as proper interpretation of decrees and written instruments and the intention of the parties. We can see how it would lead to endless confusion if the divorced wife who is to report her income and include periodic payments received after the decree, is left with the problem of allocating a portion thereof to a period before the decree. That question would 559 exist in nearly every case in the ordinary divorce unless the decree was entered on the first day of a month or the first day of a year where the periodic payments were fixed on a monthly or yearly basis. It is significant in this case that respondent allowed the full deduction for September, which means he would charge the wife with receiving income for part of the payment that was for 8 days prior to the decree since the decree was entered on September 8, 1953.We find no language in the statute indicating such an intent and nothing in the legislative history of sections 22 (k) and 23 (u) which would indicate a legislative intent that the divorced wife is to include in her gross income anything less than all of the periodic payments she receives in any taxable year after the divorce. Gale v. Commissioner, supra.23 In MacFadden v. Commissioner, 250 F.2d 545">250 F. 2d 545, 547, affirming a Memorandum Opinion of this Court, it is stated, with respect to section 22 (k) and section 23 (u): "[The] legislative purpose here was to put, in the stated situations, the tax burden upon the one who receives and enjoys the income."We see no reason for attaching the elusive test of allocation of payments to periods, to the certain test of time of receipt. Some of the other tests that are stated in the statue such as "legally separated" and "a written instrument incident to such divorce" (emphasis supplied) have been most fruitful of litigation for they are not based upon an event and there could be a logical debate under various fact situations of whether there was or was not a legal separation or a written instrument that was incident to the divorce. Here we are in an area where it is admitted the payment was made after the decree under an agreement incident to the divorce. The explicit language of the statute places the full payment in the wife's gross income. To hold she could omit part of such payment from her gross income would be placing in the statute a new test of relating24 payments to periods -- a test which we think was not intended and has not been followed generally and which would only lead to confusion and uncertainty in an area which the statute rendered certain.We hold there is no requirement in the statute (sec. 22 (k)), that periodic payments received after the divorce must be for periods subsequent to the divorce; that all payments received by Elinor in the taxable year 1953 after the decree of divorce on September 8, 1953, were includible in her gross income and deductible under section 23 (u) from the gross income of petitioner who made such payments.Because of other adjustments, not contested,Decision will be entered under Rule 50. Footnotes1. All section references are to the Internal Revenue Code of 1939, as amended, unless otherwise noted.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623644/	Aena M. Daniel v. Commissioner.Daniel v. CommissionerDocket No. 85383.United States Tax CourtT.C. Memo 1964-312; 1964 Tax Ct. Memo LEXIS 26; 23 T.C.M. (CCH) 1912; T.C.M. (RIA) 64312; December 1, 196426 Extent of petitioner's interest in a trust fund determined Harold A. Chamberlain, for the petitioner. Thomas S. Loop, for the respondent. ARUNDELLMemorandum Findings of Fact and Opinion ARUNDELL, Judge: Deficiencies in income taxes have been determined by respondent for the taxable years 1955, 1956, and 1957 in the amounts of $1,161.09, $1,135.90, and $1,328.45, respectively. Petitioner, by amendment to her petition, claims an overpayment of income taxes in the taxable years 1955, 1956, and 1957 in the respective amounts of $1,993.29, $2,018.82, and $1,912.73. There issues are raised: 1. Did the petitioner in the taxable years involved have a 12.5 percent interest or an 8.75 percent interest in the R. T. Daniel, Sr., trust? 2. Is petitioner entitled to a deduction for depreciation for 12.5 percent or 8.75 percent of the total depreciatiion allowable to the trust? 3. May petitioner deduct certain alleged attorneys' fees during the taxable years involved? The evidence submitted consisted of a written stipulation of facts and a number of exhibits from which we find the following: Findings of Fact As an incident to the divorce of August 29, 1941, between27 the petitioner and R. T. Daniel, Jr. a property settlement agreement dated also in August 1941 was made which stated that R. T. Daniel, Jr., had an expectance from his father, R. T. Daniel, Sr., and that to the extent and sum of one-half of any amount that R. T. Daniel, Jr., should inherit, he would convey the same to the parties' two children and, if petitioner were unmarried at the time of the inheritance, then such property would be delivered to petitioner for the use and benefit of the two children. On August 19, 1942, R. T. Daniel, Sr., executed a will, which will set up a trust giving to his son, R. T. Daniel, Jr., a portion of his estate substantially less than the portion given to his two sons, Samuel F. P. Daniel, and William H. Daniel, and to his daughter, Elizabeth Daniel. The consequential action of R. T. Daniel, Jr., was to enter into an agreement on August 17, 1944, to employ attorney G. C. Spillers and the two partners, D. H. Redfearn and R. H. Ferrell, of the law firm of Redfearn & Ferrell to represent him in obtaining his alleged just share in his father's estate after his father's death). The attorneys were employed on a contingency and the consideration was28 a 30 percent interest in whatever R. T. Daniel, Jr., might recover as a result of the administration and distribution of his father's estate. On April 17, 1946, R. T. Daniel, Sr., executed Codicil No. 2 to his will, wherein he gave to each of four children, among whom was R. T. Daniel, Jr., an equal portion of the net income derived from certain real estate for a period of 20 years. In conformity with the agreement of August 17, 1944, R. T. Daniel, Jr., assigned all of his right, title, and interest to an undivided 30 percent of any and all moneys which might become due and payable to him under the terms of the will and codicil to Spillers and to Redfearn & Ferrell. In making the assignment, R. T. Daniel, Jr., expressly directed the trustees to pay one-half of the 30 percent to G. C. Spillers and one-half to Redfearn & Ferrell. In 1953 the trustees under the will of R. T. Daniel, Sr., filed a petition in the District Court in Tulsa County, Oklahoma, asking, inter alia, for proper definition of the terms net income, net revenue, and net rentals embodied in the trust set up by the will. Petitioner in the instant case was a party defendant, individually and as trustee for the29 children. In the judgment the court found that the attorneys Spillers, Redfearn, and Ferrell owned specific interests in the rents, issues, and profits of the estate of R. T. Daniel, Sr. Petitioner and R. T. Daniel, Jr., entered into an agreement on February 7, 1953, for the purpose of clarifying the property settlement agreement of August 1941. This agreement, in its pertinent part, provided as follows: * * * the actual agreement between said parties as of August, 1941, was to the effect that first party was to receive an equal one-half (1/2) part of the net proceeds received by second party from the estate of his father, R. T. Daniel, Sr., in full settlement of all claims for property settlement, alimony and division of property, and in consideration thereof was to support the minor children of said parties from said proceeds during their minority, but after the majority of the younger was to continue to receive the same for her own use and benefit * * . The parties agreed that the agreement of August 1941 was to be construed to reflect this latter agreement as that actually made by them in August 1941. Upon joint application by the parties to the District Court of Tulsa30 County, Oklahoma, which granted the divorce, the divorce case was reopened to permit the parties to present this clarification of the agreement of August 1941. The court specifically modified the journal entry of judgment and decree of divorce by its journal entry of judgment modifying the former decree of divorce to incorporate the agreement. The court found it fair and equitable and ordered, adjudged, and decreed that the contract be approved and confirmed and the petitioner and R. T. Daniel, Jr., ordered and directed to carry out its provisions. The court expressly included the provision that R. T. Daniel, Jr., would assign, pay and deliver to petitioner the equal one-half of the net proceeds of the expected inheritance. Petitioner filed her individual income tax returns for the years 1955, 1956, and 1957 with the district director of internal revenue in Austin, Texas. Petitioner's income tax returns reported distributable income from the R. T. Daniel trust in the amounts of $31,680.09, $31,395.57, and $31,883.91 for 1955, 1956, and 1957, respectively, and claimed deductions for depreciation in the amounts of $7,076.76, $7,149.44, and $7,613.88 for these respective years. 31 The returns also claimed deductions for the attorneys' fees in the amount of $9,504.03 for 1955, $9,418.67 for 1956, and $9,565.17 for 1957. The gross income, depreciation allowable and the distributable net income of the R. T. Daniel, Sr., trust for these years was as follows: 195519561957Gross income$263,619.96$260,062.00$267,900.20Depreciation allowable56,723.6657,414.7661,130.28Distributable net income$206,896.30$202,647.24$206,769.92The respondent's determination in the statutory notice of deficiency is explained as follows: In arriving at your distributable share of the income from the R. T. Daniel Trust and the portion of the trust depreciation to which you are entitled, it has been determined that prior to the year 1955 a beneficial interest in the trust was assigned to G. C. Spillers, D. H. Redfearn, and Ralph H. Ferrell, leaving you only an 8.75 per cent interest for the years 1955, 1956 and 1957. Opinion By Codicil No. 2 of the will of R. T. Daniel, Sr., the latter's four children, including R. T. Daniel, Jr., were each given a 25 percent interest in the net income derived from a trust in certain real estate32 for a period of 20 years. R. T. Daniel, Jr., had assigned to the attorneys employed by him in connection with this matter 30 percent of all moneys to become due and payable to him under his father's will and codicil. The assignment was in payment for legal services rendered and R. T. Daniel, Jr., expressly requested and directed the trustees to pay the attorneys the amounts agreed upon. The court held that by the agreement between R. T. Daniel, Jr., and his attorneys the latter acquired a 7 1/2 percent participating interest in the income of the trust of R. T. Daniel, Sr. This served to reduce the interest remaining to R. T. Daniel, Jr., and his divorced wife Aena to an amount of 17.5 percent or 8.75 percent interest in each. At the time of the divorce between petitioner and her former husband, the reference to property rights was left vague and uncertain and did not reflect the agreement of the parties. By reason thereof, a stipulation and agreement were entered into under date of February 7, 1953, between petitioner and R. T. Daniel, Jr., to correct this matter. The parties, by this new agreement, state that the original agreement of August 1941 intended that petitioner was to33 receive one-half part of the net proceeds received by R. T. Daniel, Jr., and in consideration thereof petitioner was to support the minor children during their minority, but after the majority of the younger was to continue to receive the same for her own use and benefit. Shortly after the agreement of February 7, 1953, was entered into and on February 14, 1953, the District Court for Tulsa County, State of Oklahoma, made a journal entry of judgment modifying the former decree of divorce to give effect to the new agreement of the parties. The court stated that the agreement of August 1941 between petitioner and her husband in regard to her husband's expectance from his father was vague and uncertain and did not reflect the actual agreement of the parties. The court found in its order that after receiving said expectance R. T. Daniel, Jr., has at all times since said date paid to petitioner one-half of the net amount received by him in conformity with said agreement. On these facts the respondent has concluded that the interest of R. T. Daniel, Jr., in the income of the trust set up by his father was a 17 1/2 percent interest, one-half of which was by the agreement to belong to34 petitioner. As a consequence, it was held by the respondent that petitioner's interest in the trust was an 8.75 percent interest rather than a 12.5 percent interest and consequently the deduction for depreciation would be limited to 8.75 percent of the total depreciation and not a greater amount. We are in entire agreement with the respondent's holding. The petitioner urges in the alternative that if her interest is limited to 8.75 percent, she would nevertheless be entitled to deduct her share of the attorneys' fees. We think, however, that the respondent's method of handling this matter in effect would foreclose the argument she makes. It was held by the local court that the 7 1/2 percent interest of the attorneys gave them a corresponding interest in the income of the trust and this would serve to lessen the income to be received by the petitioner and her former husband. This treatment would be equivalent to petitioner's receiving a larger part of the trust income and taking a deduction for that part of the trust fund she then paid over to the attorneys. We think there is no merit in petitioner's argument on this point and we hold that respondent's treatment did, in effect, serve*35 to deny the deduction for attorneys' fees which petitioner had claimed in her returns and which she here urges should be allowed. Decision will be entered under Rule 50.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623645/	Hegra Note Corporation v. Commissioner.Hegra Note Corp. v. CommissionerDocket No. 5035-63.United States Tax CourtT.C. Memo 1966-87; 1966 Tax Ct. Memo LEXIS 195; 25 T.C.M. (CCH) 479; T.C.M. (RIA) 66087; April 25, 1966E. Michael Masinter, First National Bank Bldg., Atlanta, Ga., for the petitioner. Arthur P. Tranakos, for the respondent. SCOTT Memorandum Findings of Fact and Opinion SCOTT, Judge: Respondent determined a deficiency in the income tax of petitioner for the taxable year ended May 31, 1961, in the amount of $80,101.72. The issue for decision196 is whether the transfer by petitioner of installment obligations resulted in a capital gain and, if so, the amount thereof. Findings of Fact Some of the facts have been stipulated and are found accordingly. Petitioner, Hegra Note Corporation, organized on June 29, 1960, under the laws of the State of Georgia, filed its corporate Federal income tax return for the fiscal year ended May 31, 1961, with the district director of internal revenue, Atlanta, Georgia. Petitioner for that year kept its records and filed its Federal income tax return on a cash receipts and disbursements method. Immediately after incorporation, petitioner's sole asset was seven installment notes with an aggregate face value of $385,000 and an aggregate adjusted basis to it of $64,593.10. The seven notes, all dated January 15, 1957, were to mature $30,000 on January 15, 1961, and $59,166.66 on January 15 of each of the years 1962 through 1967. Petitioner received the notes from the original note-holders solely in exchange for all of its outstanding stock. The notes were installment obligations within the meaning of section 453 of the Internal Revenue Code of 1954. These seven notes197 had been received by the persons who transferred them to petitioner as part of a transaction pursuant to a contract dated October 30, 1956, under which the stockholders of the Henry Grady Hotel Corp. (hereinafter referred to as old Henry Grady) sold all the stock of that corporation, 22,500 shares of preferred and 7,500 shares of common, to Jacs Line Realty Corp. On January 15, 1957, Jacs Line issued 10 notes totaling $474,999.96 payable to Phoenix, Inc., as part of the purchase price. The notes bore interest at the rate of 4 percent payable semiannually, were secured by the stock of old Henry Grady, and matured serially on January 15 of each year 1958 through 1967. The first 4 notes were in the amount of $30,000 each and the remaining 6 were in the amount of $59,166.66. Phoenix, Inc., was the major stockholder of old Henry Grady. Jacs Line Realty Corp. contracted in 1957 to sell the old Henry Grady stock to Herbert Schoenbrod, who assigned his rights under the contract to H & G Hotel Corp. (hereinafter referred to as H & G). A condition of the contract of sale was that Jacs Line gain the approval of Phoenix, Inc., and of the trustees under the wills of Cecil R. Cannon and Fred B. 198 Wilson to the liquidation of old Henry Grady. Phoenix, Inc., agreed to the liquidation only upon the conditions set forth in an agreement dated August 15, 1957, wherein William J. Friedman and Julius Epstein made a limited personal guarantee of the notes. The rate of interest on the notes was raised from 4 percent to 5 percent as of July 15, 1957. Friedman and Epstein agreed that if H & G made aggregate payments in respect to the principal of certain notes other than the Phoenix notes in excess of $300,000, they would cause payment of a like amount to be made on the Phoenix notes, the payments to be applied in inverse order of the maturity date of the Phoenix notes. Friedman and Epstein further agreed that in the event of default by H & G on the Phoenix notes, they guaranteed payment of the Phoenix notes to the extent of the lesser of the aggregate amount paid by H & G on certain other notes or $300,000, the guarantee to be applied to the Phoenix notes in inverse order of their maturity. H & G then acquired the stock of old Henry Grady and assumed liability on the notes. Subsequently, H & G changed its name to Henry Grady Hotel Corporation (hereinafter referred to as new Henry Grady). 199 The new Henry Grady remained the prime obligor on the notes and the original noteholders continued to hold them until June 29, 1960, when seven of the notes were transferred to petitioner in exchange for all of the stock of petitioner newly organized, as set out above. The first three notes, each in the amount of $30,000 had been paid when due on January 15, 1958, 1959, and 1960. The assignment to petitioner of the seven Phoenix notes executed by Phoenix, Inc., included an assignment of all security given to Phoenix, Inc., for payment of the notes specifically listing as security so assigned its interest in the new Henry Grady stock and "Its rights, privileges, powers and interests under an agreement of August 15, 1957, between Julius Epstein and William J. Friedman, and Phoenix, Inc." Prior to transfer of the seven notes to petitioner, negotiations had been carried on between Phoenix, Inc., representing the original noteholders, and Kennesaw Life and Accident Insurance Company (hereinafter referred to as Kennesaw), concerning acquisition of the notes by Kennesaw. Kennesaw is a Georgia corporation and is subject to the laws of the State of Georgia regulating insurance companies. 200 In order for the notes to be listed as an admitted asset on the financial statements of Kennesaw, it was necessary that Kennesaw obtain approval of the Insurance Commissioner of the State of Georgia. On May 25, 1960, Kennesaw requested permission of the Insurance Commissioner to acquire the seven notes in exchange for 154,000 shares of voting common stock of Kennesaw, stating in part: The Henry Grady Hotel Corporation operates the well known Henry Grady Hotel * . Except for a period during the depth of the depression, it has been a highly successful and profitable operation. The Chairman of the Board of the Hotel Corporation is Mr. William Friedman, well known Chicago attorney, who is Secretary and Counsel for the Hilton Hotel chain. The President is Mr. L. O. Moseley, who has been with the hotel for many years in an executive capacity. * * since the notes are secured by the Kennesaw stock, there is absolutely no way for Kennesaw to lose any money on the transaction, because if the notes are not paid the stock will be cancelled. One of the principal purposes of Kennesaw in acquiring the seven installment notes was to enable it to carry the notes as an admitted asset on201 its financial statement and to reflect in its capital that 154,000 shares of common stock had been issued. The par value of the Kennesaw common stock was $1 per share. Kennesaw intended to reflect the transaction by listing the notes as an asset at a value of $385,000 and by increasing capital by $154,000 and surplus by $231,000, thereby enabling the company to write additional insurance. Phoenix, Inc., advised the noteholders on May 13, 1960, that Kennesaw proposed that, subject to the approval of the Insurance Commissioner, it would acquire all of the notes in exchange for 154,000 shares of Kennesaw voting common stock, on condition that payment of the notes be guaranteed by depositing the Kennesaw stock in escrow. The Insurance Commissioner informed Kennesaw by letter dated June 27, 1960, that the transaction was not within its purview, inasmuch as it was "more in the nature of a subscription contract for stock than an ordinary investment" since Kennesaw did not intend to invest any of its assets. The only issue of concern to the Insurance Commissioner was whether the notes should be allowed as "admitted assets." The Insurance Commissioner wrote in part: * * Since the notes202 appear to be a good credit risk and the payment thereof will be guaranteed by the 154,000 shares of stock of the Kennesaw Life that will be issued and not delivered, but pledged as security for the payment of the Hegra notes, I will interpose no objection to them being carried as an admitted asset, provided the Kennesaw Life and the Hegra Corporation will enter into an agreement stipulating in substance that; in the event any of the notes should be in default as to pricinipal [principal] or interest, or both, for more than sixty days, the Hegra Corporation will relinguish [relinquish] all rights and claims to the 154,000 shares of Kennesaw stock in excess of the amount of principal paid on the notes at that time on the basis of $2.50 shares, the Kennesaw retaining all interest paid on these notes without any credit therefor being allowed against the purchase price of the stock and the Kennesaw to return to Hegra the remaining unpaid notes of the Henry Grady Corporation. On June 29, 1960, petitioner executed an assignment of the seven notes, without recourse, to Kennesaw together with all security for the notes as enumerated in the transfer of the notes from Phoenix, Inc., to203 petitioner. On June 29, 1960, Kennesaw had a certificate for 154,000 shares of its stock issued in petitioner's name but retained by one of its officers. Petitioner executed an agreement on June 29, 1960, which read in part as follows: To secure the payment of the principal and interest of the seven notes, * * * the undersigned Hegra Note Corporation hereby transfers, sells and assigns to Kennesaw Life and Accident Insurance Company the attached certificate #AO-11383 for 154,000 shares of common stock of the Kennesaw Life and Accident Insurance Company. If any of such notes should be in default as to principal or interest or both for more than sixty days after notice of such default to the Hegra Note Corporation, then the said Kennesaw Life and Accident Insurance Company shall cancel said certificate of Kennesaw Life common stock attached hereto; and shall issue to Hegra Note Corporation a new certificate for a number of shares equal to the amount of principal (divided by 2.50) which has been theretofore paid to Kennesaw on such Henry Grady Hotel Corporation notes. Kennesaw shall retain the balance of the canceled shares, and shall reassign to the Hegra Note Corporation without204 recourse such Henry Grady Hotel Corporation notes still held by Kennesaw. * Interest which may have been paid prior to any such default shall be the sole property of Kennesaw and no portion thereof shall be applied against the purchase price of Kennesaw Life stock or refundable to Hegra Note Corporation. The undersigned shall be entitled to vote the Kennesaw Life stock hereby pledged and to receive all dividends which may be paid thereon until Kennesaw shall take action after a default as above authorized; after which the undersigned shall have voting and dividend rights only in respect of those shares of Kennesaw which have been paid for at the rate of $2.50 per share out of the principal payments on said notes. Petitioner on June 29, 1960 also executed an "Assignment Separate from Certificate" and power of attorney to Kennesaw transferring to Kennesaw the stock standing in its name on Kennesaw's books and authorizing Kennesaw to transfer such stock on the books. Kennesaw stock was traded, but not very actively, on the Atlanta over-the-counter market. On May 13, 1960, it was quoted at 2 3/8 bid, 2 7/8 asked. On June 29, 1960, it was at 2 bid, 2 1/4 asked. Kennesaw205 has never paid a cash dividend. Each year since June 29, 1960, petitioner has signed the management proxy permitting management to vote its Kennesaw shares. At the time of negotiation of the agreement for the issuance in petitioner's name of the Kennesaw stock, petitioner's representatives had stated to representatives of Kennesaw that petitioner intended to execute such proxies. In accordance with its intention in entering into the transaction, Kennesaw on its books increased its capital by $154,000 and its surplus by $231,000. On its balance sheets Kennesaw entered the notes as admitted assets with a valuation of $385,000. The transaction between Kennesaw and petitioner was at arm's length. There was no common member on the boards of the corporations involved. Phoenix, Inc., the major owner of the equitable interest in the notes, wrote to the other owners of equitable interests in the notes on May 13, 1960, that "there is no possibility of any enhancement [in the value of the notes] * * * The stock which you would receive * * * would follow the fortunes of Kennesaw Life with substantial possibilities of enhancement." Kennesaw stated in its letter of May 25, 1960, to the Insurance206 Commissioner that: * * These notes represent approximately 40% of the purchase price for all of the stock of the Henry Grady Hotel Company, the balance having been previously paid in cash. Since the purchasers invested over $500,000 in the Henry Grady stock and the purchasers are men of substance and I think there is every reason to believe that the Henry Grady Hotel Corporation notes will be paid as they mature. * * The parties chose this method of issuance and reassignment of the shares, with provision for cancellation on default, in order to avoid escrow fee expense and the necessity and expense of foreclosure proceedings in the event of default. On January 18, 1961, the principal payment of $30,000 due on January 15, 1961 on the installment notes was made to Kennesaw. Interest payments were made on January 15, 1961, and June 15, 1961. Default occurred with respect to the principal and interest payments due January 15, 1962. On January 19, 1962, new Henry Grady filed a voluntary petition in bankruptcy in the United States District Court for the Northern District of Georgia, Atlanta Division, under Chapter XI of the Bankruptcy Act. Kennesaw gave notice of default207 to petitioner on February 2, 1962. Subsequent thereto, the Fulton National Bank, as Trustee under the wills of Cecil Cannon and Fred B. Wilson purchased the notes for $30,000. Kennesaw and petitioner agreed to treat this payment as a payment of principal. On July 18, 1962, Kennesaw delivered 25,000 shares of its voting common stock to petitioner on the basis of the principal payment of January 18, 1961, and the $30,000 paid by the Trustee of the wills of Cecil Cannon and Fred B. Wilson, these payments aggregating $62,500. 1 The remaining 129,000 shares of the 154,000 shares which had been issued were cancelled. In June 1960 the highest grade corporate bonds as listed in Standard and Poor's Guide were selling at yields of approximately 4 1/2 percent and lesser grade bonds were selling at 4 3/4 to 5 1/4 percent and the lowest grade bonds were selling at even higher yields. At this same certain subordinated debentures of the Hilton Hotel and one bond issue of the Sheraton Corporation were selling at yields of approximately 7 1/2 percent. Beginning in the 1950's, 208 motels built throughout the country tended to draw business away from major hotels and this factor had an unfavorable effect on hotel securities. The balance sheet of new Henry Grady as of June 30, 1960, shows total current assets of $205,599.81 and total current liabilities of $651,864.17, which included an item denominated "notes payable - current portion" in the amount of $470,531.40. Total assets shown by this balance sheet were $4,066,730.06, which included building and equipment shown at a cost of $4,777,862.81 with depreciation deducted therefrom of $1,145,632.56 leaving a net asset value for such fixed assets of $3,632,230.25. Other than current liabilities, the liabilities included on the balance sheet were Non-Current Notes Payable of $3,186,825.90, capital stock of $300,000 and a deficit in retained earnings of $71,960.01, making total liabilities and capital equal to total assets. The profit and loss statement for the year ended June 30, 1960, showed gross operating income of $777,409.68 and net profit before depreciation of $267,772.52 from which was deducted depreciation of $380,320.14 resulting in a net loss before tax credit of $112,547.62 and a net loss after income209 tax credit of $86,380.83. This net loss was used in computing the deficit of $71,960.01 shown on the balance sheet as of June 30, 1960. The balance sheet of new Henry Grady as of June 30, 1959, showed total current assets of $198,225.38 and total current liabilities of $574,190.85, which included an item denominated "Notes payable - current portion" in the amount of $394,071.40. Total assets shown by this balance sheet were $4,299,108.49, which included building and equipment shown at a cost of $4,668,772.41 with depreciation deducted therefrom of $796,789.30 leaving a net asset value for such fixed assets of $3,871,983.11. Other than current liabilities, the liabilities included on the balance sheet were Non-Current Notes Payable of $3,435,357.30, capital stock of $300,000 and a deficit in retained earnings of $10,439.66 making total liabilities and capital equal to total assets. The profit and loss statement for the year ended June 30, 1959, showed gross operating income of $869,812.48 and net profit before depreciation of $383,562.21 from which was deducted depreciation of $407,348.67 resulting in a net loss of $23,786.46. This net loss was used in computing the deficit of $10,439.66210 shown on the balance sheet as of June 30, 1959. The balance sheet of the new Henry Grady as of January 31, 1958, shows total current assets of $131,780.79 and total current liabilities of $601,703.16, which included an item denominated "Notes Payable-Maturing in one year" in the amount of $390,071.40. Total assets shown by this balance sheet were $4,835,863.07, which included building and equipment and furniture and fixtures of $4,641,672.19 with depreciation deducted therefrom of $203,000, leaving a net capital asset value of $4,438,672.19. Other than current liabilities, the liabilities included on the balance sheet were a First Mortgage Five Percent Loan of $18,942.99 and Notes Payable of $3,874,071.55 making a total of long-term liabilities of $3,893,014.54, capital stock outstanding of $325,000 and surplus of $41,145.37 making total liabilities and capital equal to total assets. The profit and loss statement for the 7 months' period ended January 31, 1958, shows gross operating income of $605,972.05 and net profit before depreciation of $310,579.77 from which was deducted depreciation of $244,829.50 resulting in a net profit of $65,750.27. The profit and loss statement for211 the 7 months' period ended January 31, 1957, shows gross operating income of $517,556.63 and net profit before depreciation of $267,425.92 from which was deducted depreciation of $189,570.29 resulting in a net profit of $77,855.63. The profit and loss statement for the 6 months' period ended December 31, 1956, shows gross operating income of $438,843.55 and net profit before depreciation of $223,682.61 from which was deducted depreciation of $162,488.82 resulting in a net profit of $61,193.79. Petitioner, on its 1960 income tax return, reported the exchange of the $385,000 face value installment notes for 154,000 shares of Kennesaw common stock as a nontaxable transaction under section 368(a)(1)(C). Respondent determined that petitioner had realized a long-term capital gain of $320,406.90 on the transaction with the following explanation: It is determined that you realized a long-term capital gain of $320,406.90 in the taxable year ended May 31, 1961 resulting from the transfer on June 30, 1960 of installment notes with a face value of $385,000.00 to the Kennesaw Life and Accident Insurance Company. Section 453(d) of the Internal Revenue Code of 1954. 212 Inasmuch as you reported such transaction on your return as a non-taxable exchange under section 368(a)(1)(C) of the Internal Revenue Code of 1954, your taxable income is increased by such gain. Opinion Section 453(d)(1) of the Internal Revenue Code of 19542 provides that if an installment obligation is satisfied at other than its face value or distributed, transmitted, sold, or otherwise disposed of, gain or loss shall result to the extent of the difference between the basis of the obligation and the amount realized, in the case of satisfaction at other than face value or a sale or exchange, or the fair market value of the obligation at the time of the distribution, transmission, or disposition in case of disposition other than by sale or exchange. In the instant case the parties, without specifically so stating, apparently have no disagreement on whether petitioner disposed of its installment obligations. The Hegra notes were assigned by petitioner to Kennesaw and were placed completely outside of petitioner's dominion and control. Under213 the agreement, upon default in payment on the notes for a period of 60 days and after Kennesaw had notified petitioner of such default by Henry Grady, the notes were to be returned by Kennesaw to petitioner. Any such default by Henry Grady on the notes was, of course, a circumstance over which petitioner had no control. Petitioner's transfer of the notes to Kennesaw constituted a disposition of the installment obligations by petitioner. Thos. Goggan & Bro., 45 B.T.A. 218">45 B.T.A. 218 (1941), and Burrell Groves, Inc., 22 T.C. 1134">22 T.C. 1134 (1954), affd. 223 F. 2d 526 (C.A. 5, 1955).3214 Petitioner's primary contention is that the transfer of the installment notes was not a closed transaction in which it, a cash basis taxpayer, received money or other property which had an ascertainable fair market value. Petitioner argues that it exchanged its installment obligations not for stock with an ascertainable fair market value but for a right to receive stock which, although it might constitute some type of property, was not the equivalent of cash so as to constitute a receipt of property by a cash basis taxpayer. As we interpret petitioner's argument, it is that it disposed of the Kennesaw note in an exchange for property so that under the provision of section 453(d)(1)(A) its gain is determined by the difference between the basis to it of these obligations and the amount it realized in the exchange. Petitioner then contends that the amount it realized in the exchange has no ascertainable fair market value and therefore is not to be included as any amount in computing the gain realized by a cash basis taxpayer. It is respondent's primary position that petitioner actually received the Kennesaw stock and that the value of the Kennesaw stock so received was the $385,000215 represented by $2.50 per share, the sales price of the stock recognized in the agreement. Respondent contends that if it is considered that petitioner did not actually receive the Kennesaw stock, then petitioner constructively received this stock. Respondent in the alternative contends that if it should be determined that petitioner did not actually or constructively receive the Kennesaw stock and that the installment notes were, as petitioner contends, exchanged for a right to receive 154,000 shares of Kennesaw stock, this right had a determinable fair market value of the $385,000 face amount of the installment notes. It is petitioner's position that if the right to receive shares of Kennesaw stock had any fair market value, such value was less than petitioner's basis in the installment notes. We have set forth in our findings the pertinent provisions of the agreement between Kennesaw and petitioner with respect to the assignment of the notes, and the issuance of Kennesaw stock. We have also found that the certificate of Kennesaw stock issued in petitioner's name was never delivered to petitioner but was turned over to an officer of Kennesaw to be held in accordance with the216 terms of the agreement between petitioner and Kennesaw. We have also found that under petitioner's agreement with Kennesaw it was to receive any dividends on and have the right to vote the entire 154,000 shares of Kennesaw stock so long as there was no default on payment on the installment obligations of Henry Grady, which had been transferred to Kennesaw. The facts show that no dividends were paid on the Kennesaw stock and that petitioner did, in fact, give proxies to the management of Kennesaw to vote the stock issued in petitioner's name. There are numerous cases dealing with the question of whether stock is actually or constructively received by a taxpayer where a certificate evidencing the ownership of such shares is issued in the name of but not delivered to that taxpayer or is issued to an agent or trustee of that taxpayer to be held until the performance of some act or is not issued to that taxpayer. These cases generally recognize that a certificate of stock is merely the evidence of ownership and that the true criterion in determining ownership of stock is whether sufficient rights217 with respect to the stock were received to constitute the taxpayer the owner thereof. See Mayer v. Donnelly 247 F. 2d 322 (C.A. 5, 1957). In the instant case if petitioner's rights in the Kennesaw stock gave it dominion and control over the stock, together with the economic interests therein inherent in ownership, then petitioner actually received the stock even though the certificate issued in its name was never delivered to it. If the rights in the stock which petitioner secured under the agreement with Kennesaw were not sufficient to place the stock under its dominion and control and give it the economic interests of ownership therein, then there was neither actual nor constructive receipt. Numerous cases have referred to various rights with respect to stock to be considered in determining whether ownership thereof has been received by a particular taxpayer. The right to dividends and the right to vote the stock are both considered to be important to the determination. Another factor which has been considered of importance is the right to reap the economic gain inherent in a rise in the price of the stock, or as sometimes expressed, a right to sell or dispose of218 the stock. The fact that the stock itself is pledged as security for an indebtedness or placed in some form of escrow does not require a conclusion that the taxpayer did not receive the stock. If the circumstances under which the certificate is held are such that the taxpayer would be permitted "to obtain physical possession of the securities at any time upon deposit of substitutes" the stock is merely pledged just as if the taxpayer had obtained the certificate and reassigned it to secure an indebtedness. Center Investment Co., 43 B.T.A. 46">43 B.T.A. 46, 49 (1940). Likewise, as stated in Luther Bonham, 33 B.T.A. 1100">33 B.T.A. 1100 (1936), affd. 89 F. 2d 725 (C.A. 8, 1937), "a right to sell collateral to the extent required to make good" the debt for which the stock is security does not cause the stock not to be received. In that case it was pointed out that there was no right on the part of the seller of the stock to reduce the number of shares or to take back any of the shares but only the ordinary rights of a pledgee to sell and use a sufficient amount of the proceeds of the sale to discharge the indebtedness. In its affirmance of the Bonham case the Circuit Court219 stated that, "the right 'to sell * * * on the market' such stock or parts thereof as necessary to make good default" was consistent only with the passing of title to the stock to the person who was guaranteeing the performance and its pledge back as a guarantee. On the other hand in those cases where the stock was retained under such conditions that the economic benefit of an increment in value could not be realized by the taxpayer who had some rights in the stock, it has generally been held that such taxpayer did not have ownership of the stock until such time as he did obtain sufficient rights to enjoy such economic benefits. In Fred C. Hall, 15 T.C. 195">15 T.C. 195, 200 (1950), affd. 194 F. 2d 538 (C.A. 9, 1952), we held that the taxpayer had not received stock until two certificates issued in his name but held by the treasurer of the issuing corporation were delivered to him without restriction. In the Hall case the stock was issued in consideration of services the taxpayer performed. In that case we pointed out that the taxpayer could not sell the shares which were being held by the treasurer until they were delivered to him and the unfettered right to sell is220 one of the most important attributes of ownership. In Artis C. Bryan, 16 T.C. 972">16 T.C. 972 (1951), we concluded that the taxpayer there involved received stock not in 1935 when the shares were assigned to him by a certificate endorsed as being subject to the conditions contained in an assignment agreement, but received the stock in 1940 when an unconditional certificate was issued to him even though he agreed not to assign or pledge such stock until a note he had given to a bank had been paid in full or otherwise discharged. As was pointed out in Lyle H. Olson, 24 B.T.A. 702">24 B.T.A. 702 (1931), affd. 67 F. 2d 726 (C.A. 7, 1932), certiorari denied 292 U.S. 637">292 U.S. 637, shares of stock are received by taxpayers at the time they are made "subject to their disposal." See also Estate of W. R. Whitthorne, 44 B.T.A. 1234">44 B.T.A. 1234 (1941). Applying the principles with respect to when stock is received, as set forth in the various cases, to the facts in this case, we conclude that petitioner did not receive the 154,000 shares of stock actually or constructively in 1960. The fact that the certificate was never turned over to petitioner is of consequence only221 insofar as it has a bearing on the right of the taxpayer to dispose of the stock represented by the certificate. The agreement under which the stock certificate was issued provided that upon default in payment of a note by new Henry Grady, the certificate would be cancelled and only stock which had been paid for by principal payments on the installment obligations would be issued to petitioner. Thus, petitioner's rights in the stock were limited to such an extent that it would not profit economically by increment in the value of the stock except as payments were made on the installment notes. There is nothing in the agreement which indicates that upon default of the notes, the shares of Kennesaw stock would be treated as collateral and sold to the extent necessary to pay the obligation due on the installment notes by new Henry Grady with any excess received going to petitioner, nor was there anything in the contract indicating that petitioner could substitute other security or even cash to the full amount of the installment notes and obtain the stock certificates and full rights in the stock. 222 Where there is a condition upon the receipt of stock which cannot be discharged by the taxpayer who would otherwise be entitled to receive the stock, then although he has received property in the form of contractual rights to receive stock, he has not received the actual stock nor has he constructively received the stock. Although we agree with petitioner that it did not actually or constructively receive the stock, we do not agree that the disposition of the installment notes pursuant to the contract here involved did not result in taxable income. The right to receive stock for which petitioner transferred the installment notes was a right that could be assigned or disposed of by petitioner. Nothing to the contrary appears in the agreement and petitioner does not contend that the right it received was not assignable. As the notes were paid by new Henry Grady, petitioner's rights to a certain number of shares of stock became absolute. This indicates that the right to receive the stock would have a fair market value substantially the same as the installment notes transferred by petitioner to Kennesaw. Petitioner's expert witness so testified and his basis for assigning a value to223 the right to receive the Kennesaw stock of less than petitioner's basis in the installment notes was because in his opinion the installment notes as of June 29, 1960, had a fair market value of less than petitioner's basis therein. The instant case is distinguishable from the case of Goetze Gasket & Packing Co., 24 T.C. 249">24 T.C. 249 (1955), relied on by petitioner, in which we held that rights to receive additional stock which were part of an agreement for the sale of certain assets were subject to such a substantial contingency that the seller was not required to include any amount representing the value of such rights as a part of the gain on the sale of the assets in the year in which the assets were transferred and cash and other stock received in payment therefor. In that case the shares were to be withheld for 3 years after the closing date as security for the recovery of damages for the breach of any warranties involved in the sale of the assets and cash was paid to the sellers of the assets and 80 percent of the stock was issued outright to them in the year of sale. In the instant case absolute right to receive a portion of the stock arises only upon payment of a portion224 of the installment notes transferred. Under these circumstances, the contingency as to the receipt of the stock may be equated with the likelihood of payment of the installment notes. The likelihood of payment is one of the primary factors involved generally in valuing any note. Here no money was received and the only "property (other than money) received" for the transfer of the installment notes was the right to receive stock. If this right were considered to have no ascertainable fair market value, the question would arise under section 453(d)(1) whether the transfer of notes constituted an exchange as distinguishable from a disposition other than a sale or exchange. In an exchange, "property is transferred for other property." Bloomington Coca-Cola Bottling Co. v. Commissioner, 189 F. 2d 14 (C.A. 7, 1951), affirming a Memorandum Opinion of this Court. If installment notes were transferred for so nebulous a right that nothing with an ascertainable fair market value might be said to have been received therefor, it would be questionable whether an exchange as distinguished from other disposition of the notes had occurred within the meaning of section 453(d)(1). The225 clear import of the statute is that upon disposition in any manner of installment obligations, other than certain tax free exchanges, the portion of the gain deferred when the installment method of reporting the gain was elected which has not previously been included in income becomes includable therein. We conclude that the right to receive the Kennesaw stock had a fair market value equal to the fair market value of the installment notes on June 29, 1960. However, if it were concluded that the transfer of these notes was a disposition other than by a sale or exchange, then the gain on the transfer of the notes would be determined by the difference in the fair market value of the installment notes at the date of transfer and petitioner's basis in such notes. The amount of gain so determined would be the same as the amount which we find based on our determination of the fair market value of petitioner's right to receive the Kennesaw stock. Petitioner argues, based upon certain testimony by a witness it offered as an expert, that the fair market value of the installment notes on June 29, 1960, was226 less than petitioner's basis in those notes. Respondent points to many weaknesses in the testimony of this witness and relies on the prima facie correctness of his determination that the face amount of the notes of $385,000 was the amount received in the transfer thereof. After a consideration of the evidence we have concluded that the installment notes had a fair market value on June 29, 1960, of 66 percent of their face amount. Petitioner's expert testified both as to the general market for hotel bonds and as to his opinion of the value of the specific installment notes involved in this case. This witness showed a knowledge of the general securities market which renders the portion of his testimony that goes to the market conditions for securities generally and for hotel bonds in particular as of June 1960 of some value. He pointed out that for some time prior to June 1960, motels had been competing with hotels so that hotels no longer had the same position in serving the traveling public. He also pointed out that the yield on which certain bonds of large hotel chains were selling was approximately 7 1/2 percent which would mean that if the bonds carried 5 percent interest they227 would be selling at approximately 66 percent of face value. We are persuaded from this witness' testimony that installment notes of a hotel corporation bearing 5 percent interest would not have a fair market value on June 29, 1960, of their face amount but that the fair market value thereof would be approximately 66 percent of the face amount. Although the complete operations of the new Henry Grady are not shown, the record does show that it operated a downtown Atlanta hotel with a good reputation. Its stock had been sold twice within 5 years of the valuation date here involved. The exact sales price of the stock is not shown, but there are indications in the record that the purchasers invested in cash, amounts in excess of the amounts of the notes here involved. We, therefore, hold that the fair market value of the installment notes which petitioner transferred to Kennesaw on June 29, 1960, was 66 percent of the face amount thereof on the date of transfer and that this same amount is the fair market value of petitioner's right to receive the Kennesaw stock. In reaching this conclusion we have rejected this witness' somewhat more extensive testimony to the effect that the value228 of the notes was less than petitioner's basis in them, that is, merely 10 or 20 percent of their face value. We found that testimony unpersuasive and of no value. Insofar as the record shows, the only information which petitioner's expert witness had as to the new Henry Grady was obtained from profit and loss statements and balance sheets that are in the record in this case without any explanation of the underlying data from which they were computed. This witness pointed to the current asset position as of June 30, 1960, as compared to current liabilities as bearing greatly on his judgment of the financial situation of the new Henry Grady. The record shows that as of January 31, 1958, which was only a few months after the new Henry Grady bought the old Henry Grady stock and assumed the notes here involved, the ratio of current assets to current liabilities of the new Henry Grady was less than it was on June 30, 1960. From the record we must conclude that this fact, if it were approximately the same for the old Henry Grady prior to the 1957 stock purchase, did not deter persons of knowledge and experience in hotel operations from investing in the Henry Grady stock. The witness offered229 no explanation in this regard. Petitioner's witness did not know the fair market value of the fixed assets of the new Henry Grady which were the major portion of the corporate assets. He assumed that since the new Henry Grady acquired these assets in August 1957, they would, on June 29, 1960, not be worth substantially more than their book value. Why an assumption of no increase in value of assets would be any more reasonable than would an assumption of no decrease in value of the installment notes during this period, the witness did not explain. Neither did the witness explain or show any knowledge of how the book value of the assets to the new Henry Grady was determined. This witness apparently gave no consideration to the overall earnings record of the corporation or to any of the other elements which should be considered in properly evaluating the fair market value of the installment notes. This witness made no mention of whether the limited guarantee of William J. Friedman and Julius Epstein of the notes which was given to Phoenix, Inc., at the time the new Henry Grady was substituted as obligor on these notes would in his opinion affect the value of these notes. At the trial*230 petitioner's counsel suggested that this guarantee was not an assignable one under Georgia law, but petitioner did not restate this position on brief or make any argument in this respect. We hold that petitioner had a gain under section 453(d)(1) of the difference between its basis in the installment notes and an amount computed by taking 66 percent of the face amount of the installment notes transferred to Kennesaw for this right. This gain is, as determined by respondent, a long-term capital gain. Decision will be entered under Rule 50. Footnotes1. This is taken from the stipulation which does not explain why the total payment is $62,500 instead of $60,000.↩2. SEC. 453(d)(1) General rule. - If an installment obligation is satisfied at other than its face value or distributed, transmitted, sold, or otherwise disposed of, gain or loss shall result to the extent of the difference between the basis of the obligation and - (A) the amount realized, in the case of satisfaction at other than face value or a sale or exchange, or (B) the fair market value of the obligation at the time of distribution, transmission, or disposition, in the case of the distribution, transmission, or disposition otherwise than by sale or exchange. Any gain or loss so resulting shall be considered as resulting from the sale or exchange of the property in respect of which the installment obligation was received. ↩3. Petitioner, on its return, recognized that it made a disposition of the installment obligations but treated the transaction as a tax-free exchange of property for stock on which gain was not required to be recognized under the provisions of sec. 368(a)(1)(C), I.R.C. 1954. Whether petitioner would have been correct in its appraisal of the transaction if the transfer had not been to a life insurance company is not at issue in this case. Sec. 453(d)(5)↩ specifically provides that where a transfer of an installment obligation is to a life insurance company by a person other than another life insurance company, the nonrecognition of gain provisions are not applicable. In this case petitioner does not contend in view of this provision that the transfer of the installment obligations to Kennesaw was in a transaction on which gain is not recognized.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623646/	EDWARD A. AND GERALDINE WILSON, ANN WILSON, JOHN WILSON, AND MICHAEL JOSEPH WILSON, Petitioners, v. COMMISSIONER OF INTERNAL REVENUE, RespondentWilson v. CommissionerDocket No. 23521-88United States Tax CourtT.C. Memo 1991-544; 1991 Tax Ct. Memo LEXIS 588; 62 T.C.M. (CCH) 1122; T.C.M. (RIA) 91544; October 31, 1991, Filed 588 Decision will be entered under Rule 155. Donald J. Jaret, for the petitioners. Kenneth A. Hochman, for the respondent. SWIFT, Judge. SWIFTMEMORANDUM FINDINGS OF FACT AND OPINION Respondent determined the following deficiencies in petitioners' Federal income taxes and additions to tax: Petitioners Edward A. and Geraldine Wilson1 Additions to Tax, Secs. YearDeficiency6651(a)(1)66611983$ 21,910$ --$ 6,4901984120,451--31,336198554,30516,61814,138Petitioner Ann WilsonAdditions to Tax, Sec.YearDeficiency66611983$ 9,876$ 2,469198412,0843,021198514,6813,673Petitioner John WilsonAdditions to Tax, Secs.YearDeficiency6651(a)(1)66611983$ 12,040$ --$ 3,01019847,758--2,037198512,9743,4433,616589 Petitioner Michael Joseph WilsonAdditions to Tax, Sec.YearDeficiency66611983$ 8,829$ 2,42319849,9302,482198516,4864,455After settlement of some issues, the primary issue remaining for decision is whether certain loan receivables distributed to petitioners by a subchapter S corporation represented "indebtedness" under section 1366(d)(1)(B) for purposes of determining the bases of the shareholders in the stock and indebtedness of two other subchapter S corporations, which bases limit the amount of pass-through losses to which petitioners are entitled with respect to the two other subchapter S corporations. FINDINGS OF FACT Some of the facts have been stipulated and are so found. Petitioners resided in Miami, Florida, at the time their petition was filed. During the years in issue, petitioners were the sole shareholders of two subchapter S corporations -- Wilcafe, Inc. (Wilcafe) and Miami Coffee Import Service, Inc. (Miami Coffee). Petitioners also were the controlling shareholders of another subchapter S corporation -- Global Jalousie Glass Manufacturers, Inc. (Global Jalousie). During the years in issue, Wilcafe was a profitable corporation590 engaged in the business of importing coffee beans into the United States for sale to coffee roasting companies. Miami Coffee was engaged in the business of sorting and storing coffee beans. Global Jalousie was engaged in the business of the wholesale distribution of various types of glass products such as jalousie glass, sliding glass doors, and mirrors. Miami Coffee and Global Jalousie were both unprofitable during the years in issue. The offices of the three corporations were located in Miami, Florida. During 1982, 1983, and 1984, Wilcafe made various loans to Miami Coffee and to Global Jalousie. The total amount of the loans made each year by Wilcafe to Miami Coffee and to Global Jalousie is set forth below: Wilcafe Loans toWilcafe Loans toYearMiami CoffeeGlobal Jalousie1982--$ 86,1731983$ 176,000$ 113,0001984$ 137,600$ 42,586During December of each year, petitioner Edward A. Wilson (Edward) and his daughter petitioner Ann Wilson (Ann) met with the accountants for Wilcafe and discussed the projected yearend financial condition of each of the above corporations. Wilcafe's general policy was to distribute substantially all of its annual591 profits to its shareholders. The distributions usually were made in cash. The yearend financial projections indicated that Miami Coffee and Global Jalousie would have losses for each year exceeding the tax bases of the shareholders of these corporations and that the shareholders would therefore be unable to claim, for Federal income tax purposes, their pro rata share of the losses of Miami Coffee and Global Jalousie in excess of their individual bases in the stock of those corporations. Petitioners, therefore, on behalf of Wilcafe and on the advice of their accountants, undertook certain actions in an attempt to increase the bases of the shareholders in the indebtedness of Miami Coffee and Global Jalousie by distributing to the shareholders the loans these two corporations had obtained from Wilcafe. A distribution was authorized for 1983 from Wilcafe to Wilcafe's shareholders consisting of cash and property. To be included in the distribution of property were loans owed to Wilcafe by Miami Coffee in the amount of $ 86,000. The loans were to be distributed on a pro rata basis to the shareholders of Wilcafe. In February or March of 1984, adjusting journal entries were made and592 promissory notes were prepared by the accountants reflecting the loans owed to Wilcafe by Miami Coffee that were to be distributed to the Wilcafe shareholders. The promissory notes bore annual interest at 11 percent. The principal amounts of the promissory notes distributed to the shareholders were as follows: Edward and petitioner Geraldine Wilson (Geraldine) -- $ 138,294; Ann -- $ 17,050; petitioner John Wilson (John) -- $ 17,050; and petitioner Michael Joseph Wilson (Michael) -- $ 17,050. 2In December of 1984, a distribution from Wilcafe's profits of cash and property was again authorized. For the same reasons, included in the 1984 distribution of property were loans owed to Wilcafe by Miami Coffee in the principal593 amount of $ 198,529 and loans owed to Wilcafe by Global Jalousie in the principal amount of $ 185,758. The loans were to be distributed on a pro rata basis to the shareholders of Wilcafe. In February or March of 1985, adjusting journal entries were made and promissory notes were prepared by the accountants reflecting the loans owed to Wilcafe by Miami Coffee and by Global Jalousie that were distributed to the Wilcafe shareholders. The promissory notes bore annual interest at 13 percent. The principal amounts of the notes of Miami Coffee distributed to each of Wilcafe's shareholders by Wilcafe were as follows: Edward and Geraldine -- $ 144,926; Ann -- $ 17,686; John -- $ 17,686; and Michael -- $ 17,686. The principal amount of the promissory notes of Global Jalousie distributed to Wilcafe's shareholders by Wilcafe, except Edward and Geraldine, was $ 19,910. On January 9, 1986, Global Jalousie deposited into its bank account separate $ 14,000 checks from Ann and from John. These checks were dated December 30, 1985, and December 31, 1985, respectively. The offices of Global Jalousie were closed from December 24, 1985, until January 2 or 6, 1986. On January 10, 1986, Miami Coffee594 deposited into its bank account a $ 17,000 check from Edward and Geraldine dated December 31, 1985. Edward, Geraldine, and John reported on their Federal income tax returns for 1983 the amount of the loans distributed to them from Wilcafe as pass-through income with respect to Wilcafe. On their Federal income tax returns for 1983, Ann and Michael each reported the loans distributed to them from Wilcafe as dividend income. All petitioners reported on their Federal income tax returns for 1984 the amount of the loans distributed to them from Wilcafe as pass-through income with respect to Wilcafe. On their 1983, 1984, and 1985 Federal income tax returns, petitioners each claimed their pro rata share of Miami Coffee's and of Global Jalousie's losses, including in the calculations of their respective individual tax bases in those two corporations the loans that had been distributed to them by Wilcafe. Respondent disallowed the amounts of the losses claimed each year which he determined were in excess of petitioners' respective bases in Miami Coffee and Global Jalousie, excluding, in his calculations of petitioners' respective individual tax bases, the loans that had been distributed595 to the shareholders by Wilcafe. The above-referenced $ 14,000 and $ 17,000 checks were included by petitioners, but excluded by respondent, in their respective calculations of petitioners' yearend individual tax bases in the stock of Miami Coffee and Global Jalousie. The following schedule sets forth the losses claimed by each petitioner each year and the portion thereof disallowed by respondent. Miami Coffee19831984ClaimedDisallowedClaimedDisallowedEdward and Geraldine Wilson$ 128,098$ 49,204$ 192,272$ 192,272Ann Wilson$ 15,916$ 6,072$ 23,705$ 23,705Michael Wilson$ 15,916$ 6,072$ 23,705$ 23,7051985ClaimedDisallowedEdward and Geraldine Wilson$ 35,031$ 35,031Ann Wilson$ 4,319$ 4,319Michael Wilson$ 4,319$ 4,319Global Jalousie19831984ClaimedDisallowedClaimedDisallowedAnn Wilson$ 36,180$ 10,626$ 24,332$ 24,332John Wilson$ 36,180$ 10,626$ 24,332$ 24,332Michael Wilson$ 36,180$ 10,626$ 24,332$ 24,3321985ClaimedDisallowedAnn Wilson$ 16,227$ 16,227John Wilson$ 16,227$ 16,227Michael Wilson$ 16,227$ 16,227596 Respondent also determined an addition to tax under section 6661 with respect to each petitioner for each year in issue. OPINION Section 1366 provides for the pro rata pass-through of subchapter S corporate income, losses, and deductions to the shareholders. Section 1366(d), however, limits the total amount of pass-through losses and deductions that can properly be claimed by shareholders of subchapter S corporations to the sum of the shareholders' adjusted bases in the stock of the corporations and the shareholders' adjusted bases in any indebtedness owed by the corporations to the shareholders. Losses and deductions disallowed in one year because the shareholders lack sufficient bases may be claimed in subsequent years when the shareholders' adjusted bases are sufficient. 3597 To qualify as an "indebtedness" under section 1366(d)(1)(B) court cases have generally held that the indebtedness must have been acquired by the shareholders through an actual economic outlay. Estate of Leavitt v. Commissioner, 90 T.C. 206">90 T.C. 206, 217 (1988), affd. 875 F.2d 420">875 F.2d 420 (4th Cir. 1989); Underwood v. Commissioner, 63 T.C. 468">63 T.C. 468, 476 (1975), affd. 535 F.2d 309">535 F.2d 309 (5th Cir. 1976); Perry v. Commissioner, 54 T.C. 1293">54 T.C. 1293, 1296 (1970), affd. per order 1971 U.S. App. LEXIS 10225">1971 U.S. App. LEXIS 10225, 27 A.F.T.R.2d (RIA) 1464">27 A.F.T.R.2d (RIA) 1464, 71-2 U.S. Tax Cas. (CCH) P 9502">71-2 U.S. Tax Cas. (CCH) P9502 (8th Cir. 1971). Cf. Selfe v. United States, 778 F.2d 769">778 F.2d 769, 772 (11th Cir. 1985). The economic outlay required under section 1366(d)(1)(B) must leave "'the [taxpayers] poorer in a material sense.'" Perry v. Commissioner, supra at 1296 (quoting Horne v. Commissioner, 5 T.C. 250">5 T.C. 250, 254 (1945)); Underwood v. Commissioner, supra at 476. Petitioners argue that the loans of Miami Coffee and Global Jalousie that are in question in this case represent loans or indebtedness owed by these corporations to petitioners598 that meet the economic outlay requirement of section 1366(d) because petitioners received the loans as a result of dividend distributions from Wilcafe, and petitioners therefore argue that their adjusted bases in these loans under section 1366(d) should be included in the calculations of their individual tax bases in the indebtedness of Miami Coffee and Global Jalousie. Petitioners Edward, Geraldine, Ann, and John also argue that their respective $ 14,000 and $ 17,000 checks dated December 30, 1985, and December 31, 1985, were delivered to Miami Coffee and to Global Jalousie on December 31, 1985, and therefore that their adjusted tax bases in Miami Coffee and in Global Jalousie, for purposes of determining the loss limitations under section 1366(d), should be increased by the amount of these checks. Respondent argues, among other things, that the receipt by petitioners of the loans of Miami Coffee and of Global Jalousie (through the distributions from Wilcafe) does not satisfy the economic outlay requirement of section 1366(d). Respondent also argues that the $ 14,000 and $ 17,000 checks to Miami Coffee and to Global Jalousie were not delivered until 1986, the year they were deposited599 by the corporations into the corporate bank accounts, and therefore that the checks should not be included in the individual shareholders' tax bases with respect to the indebtedness of these corporations for 1985. In cases involving fact situations very similar to those before us in the instant case, this Court has addressed the economic outlay requirement of section 1366(d). In Burnstein v. Commissioner, T.C. Memo 1984-74">T.C. Memo 1984-74, the taxpayers were shareholders of two subchapter S corporations. One of the corporations loaned money to the other corporation and received no promissory notes in return. At the end of the year, the corporations' accountant made adjustments and closing entries in the corporations' books, among other things, reclassifying the loan as a loan from the shareholders to the debtor corporation. In Shebester v. Commissioner, T.C. Memo 1987-246">T.C. Memo 1987-246, essentially the same facts and reclassification occurred as in Burnstein v. Commissioner, supra, except that at the end of the year the amount of the loan on the books of the creditor corporation was charged against the shareholders' share of the undistributed600 taxable income, thereby arguably paying off the creditor corporation. The loan was then reclassified as a loan from the shareholders to the debtor corporation. We held that the shareholders in both Burnstein and Shebester were not entitled to include the reclassified loans in their bases in calculating the amount of the losses allowable under section 1366(d) because the shareholders did not make an actual economic outlay with respect thereto. Consistent with the above cases, because petitioners herein did not make an actual economic outlay with respect to the loans in question, we hold that petitioners herein are not entitled to include the reclassified loans in question in this case in their tax bases in calculating the amount of the losses of Miami Coffee and of Global Jalousie that can be passed through to them under section 1366(d). The receipt of the loans by petitioners through the distributions of the loans by Wilcafe does not constitute an economic outlay by petitioners. The loans in question were acquired by petitioners with no economic outlay on petitioners' part. Petitioners invested nothing in Miami Coffee or Global Jalousie upon distribution to them of the601 loans in question. We hold for respondent on this issue. Petitioners bear the burden of proof to show that the checks they included in their tax bases for 1985 actually were contributions to capital or caused the corporations to become indebted to them in that year. Welch v. Helvering, 290 U.S. 111">290 U.S. 111, 78 L. Ed. 212">78 L. Ed. 212, 54 S. Ct. 8">54 S. Ct. 8 (1933); Rule 142(a). Ann's check dated December 30, 1985, and John's check dated December 31, 1985, were both deposited by Global Jalousie on January 9, 1986. John did not testify, and no evidence was offered as to when John delivered his check to Global Jalousie. Edward and Ann's testimony on this point was vague and unconvincing. Petitioners have failed to meet their burden of proving that the checks were delivered to these corporations in 1985, and respondent is sustained as to these adjustments. Respondent's calculations under section 1366(d) of petitioners' respective tax bases in the stock and indebtedness of Miami Coffee and of Global Jalousie are sustained. Additions to TaxSection 6661 imposes an addition to tax equal to 25 percent of the amount of underpayments attributable to substantial understatements. Substantial understatements are underpayments*602 that exceed the greater of 10 percent of the amount required to be shown on the return or $ 5,000. Taxpayers may avoid liability for the addition if the taxpayers adequately disclosed or had substantial authority for the positions taken on the returns. Petitioners failed to disclose adequately the positions taken on their tax returns, and we have not found that they had substantial authority for their positions. They are therefore liable for the additions to tax under section 6661. Decision will be entered under Rule 155. Footnotes1. Unless otherwise indicated, all section references are to the Internal Revenue Code of 1954 as in effect for the years in issue, and all Rule references are to the Tax Court Rules of Practice and Procedure.↩2. Petitioners claim a total increase in their bases in Miami Coffee in 1983 of $ 86,000 (Edward and Geraldine -- $ 62,780, and Ann, John, and Michael -- $ 7,740 each). The reason the total principal amount of the notes apparently was not treated as increasing petitioners' tax bases is not explained.↩3. Sec. 1366(d)(1) and (2) provides as follows: (d) Special Rules for Losses and Deductions. -- (1) Cannot exceed shareholders' basis in stock and debt. -- The aggregate amount of losses and deductions taken into account by a shareholder under subsection (a) for any taxable year shall not exceed the sum of -- (A) the adjusted basis of the shareholder's stock in the S corporation (determined with regard to paragraph (1) of section 1367(a) for the taxable year), and (B) the shareholder's adjusted basis of any indebtedness of the S corporation to the shareholder (determined without regard to any adjustment under paragraph (2) of section 1367(b) for the taxable year). (2) Indefinite carryover of disallowed losses and deductions. -- Any loss or deduction which is disallowed for any taxable year by reason of paragraph (1) shall be treated as incurred by the corporation in the succeeding taxable year with respect to that shareholder.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623647/	Estate of Lauson Stone, Deceased, Beaver Trust Company and Helen Darby Stone, Coexecutors, and Helen D. Stone, Surviving Wife of Lauson Stone, Petitioners, v. Commissioner of Internal Revenue, RespondentStone v. ComissionerDocket No. 32250United States Tax Court19 T.C. 872; 1953 U.S. Tax Ct. LEXIS 235; February 20, 1953, Promulgated 235 Petitioners' decedent in the taxable year 1948 sold certain stock purchase warrants acquired in 1947 from the Follansbee Steel Corporation of which he was the president. At the time of the acquisition of the warrants they had a fair market value in excess of the price paid therefor and the warrants were immediately negotiable.Held:1. The warrants were capital assets as defined by section 117 (a) (1), I. R. C.2. The decedent's base for determining gain or loss on the sale of such stock warrants in the taxable year 1948 is the amount paid therefor, increased by the amount included as additional compensation in the year he purchased the warrants. John D. Ray, Esq., for the petitioners.George C. Lea, Esq., for the respondent. LeMire, Judge. LeMIRE 873 This proceeding236 involves a deficiency in income tax of petitioners' decedent and decedent's wife for the period January 1, 1948, to October 8, 1948, in the amount of $ 30,271.73.The sole issue is whether petitioners' decedent, Lauson Stone, realized taxable income by way of additional compensation in 1948 as a result of a sale in that year of stock purchase warrants of the Follansbee Steel Corporation.Many of the facts have been stipulated and are found accordingly. Other facts are found from the evidence.FINDINGS OF FACT.Lauson Stone was a resident of the borough of Beaver, Beaver County, Pennsylvania, and until his death on October 8, 1948, he filed his Federal income tax returns with the collector of internal revenue for the twenty-third district of Pennsylvania.The petitioners, Beaver Trust Company and Helen Darby Stone, are coexecutors of the estate of Lauson Stone, deceased. The petitioner, Helen D. Stone, is the surviving wife of Lauson Stone, and is the same person as Helen Darby Stone, a coexecutor.Lauson Stone was elected president and director of Follansbee Steel Corporation on October 26, 1942, and thereafter served in both of those capacities until his death. On March 31, 1944, 237 Lauson Stone and Follansbee Steel Corporation, hereinafter referred to as the "corporation," entered into a 5-year employment contract running from January 1, 1943, to January 1, 1948.During the term of the aforementioned contract, and more particularly at the annual stockholders' meeting of the corporation held on March 27, 1947, a stockholder proposed a resolution to authorize the corporation to issue and sell stock purchase warrants of the corporation to Lauson Stone subject to certain terms and conditions. The resolution was duly adopted. On March 28, 1947, the board of directors of the corporation approved the recommendation of the stockholders.On May 1, 1947, pursuant to the aforesaid resolution of the stockholders and the directors, 100 warrant certificates, each certificate evidencing the right to purchase 100 shares of the stock of the corporation, were issued and sold to Lauson Stone for the sum of $ 1,000. Each certificate contained the same terms and conditions and differed from each other only in certificate numbers. The warrant certificates 874 were exercisable by Lauson Stone, or assigns, and stated in part: "The corporation shall treat as the absolute owner238 hereof, for all purposes whatsoever, the person in whose name this Warrant is issued, or, when duly endorsed in blank, the bearer hereof and the Corporation shall not be affected by any notice to the contrary." There were no restrictions on the time or manner in which the warrants could be negotiated. Each certificate provided that the purchase rights represented by the warrant were exercisable as an entirety for the shares purchasable thereunder. The price at which the warrants could be exercised was $ 21 per share. The warrants were dated May 1, 1947, and were exercisable at any time after October 31, 1947, and before May 1, 1952. The average market price of the common stock of the corporation on the New York Stock Exchange on May 1, 1947, was $ 19.75 per share.The holder of the warrant was fully protected against dilution of his right to purchase stock by reason of an increase in the number of shares outstanding resulting from a stock dividend, a reduction in the par value of the shares, or the issuance of additional shares for cash, property, or services.The high and low market prices of the stock of the corporation on the New York Stock Exchange during each calendar month239 of the year 1947 were as follows:HighLowJanuary1814 1/2February19 1/417March2316 1/2April22 1/417 3/8May20 1/815 1/8June19 1/217 3/4July25 1/418 5/8August27 3/822 7/8September28 1/225 1/4October33 3/427 3/4November33 3/430 3/4December40 5/830The high and low for the years 1946, 1947, and 1948 were as follows:YearHighLow194621 1/411 1/4194740 5/814 1/2194840 1/222 7/8The high and low for the period June 24, 1948, through June 30, 1948, were 32 1/2 and 30.In his 1947 income tax return Lauson Stone reported the difference between the value he placed on the warrants, to wit, $ 6,000, and the $ 1,000 he paid for them, or $ 5,000, as additional compensation for the year 1947 from the corporation.875 Lauson Stone retained such warrants from May 1, 1947, to June 24, 1948. Between June 24, 1948, and June 30, 1948, he sold 89 of such warrant certificates, representing the right to purchase 8,900 shares of stock of the corporation.Subsequent to June 30, 1948, Lauson Stone returned 11 warrant certificates representing the right to purchase 1,100 shares of such stock to the corporation, and the latter refunded240 to him $ 110, the amount he had originally paid therefor. Such 11 warrant certificates were returned because they could not be disposed of by reason of certain prohibitions imposed by the Securities and Exchange Commission.In the individual income tax return filed for the taxable period January 1, 1948, to October 8, 1948, inclusive, the petitioners reported the sum of $ 82,680.50 1 as having been derived from the sale of the 89 warrant certificates.The cost of the warrants was reported as $ 5,890 and the difference, or $ 76,790.50, was treated as a long term capital gain. In his deficiency notice the respondent determined that the sum of $ 81,790.50, or the difference between the sale price of $ 82,680.50, and the cost of $ 890, was taxable income as additional compensation.The corporation in its income tax return for the year 1947 deducted as compensation paid to Lauson Stone, in addition to the salary paid to him under his employment contract, the sum of $ 5,000, computed241 by subtracting from the sum of $ 6,000 the fair market value assigned to the warrants by Lauson Stone and the $ 1,000 he paid the corporation for such warrants.In its return for the taxable year 1948 the corporation deducted for compensation paid to Lauson Stone an amount representing the total of (1) the salary paid to him in that year under his employment contract, and (2) in respect to the exercise of said warrants by the purchaser sold, as aforesaid, a sum at least equal to the gross sum reported in the joint return of Lauson Stone and Helen D. Stone, filed for the period January 1, 1948, to October 8, 1948, as having been derived from the sale of the aforesaid warrants.The fair market value on May 1, 1947, of the warrant certificates purchased by the decedent was at least equal to the amount returned by the decedent as additional compensation in the year the warrants were issued, plus the amount paid for the certificates.The sale of the warrant certificates by Lauson Stone in the taxable year 1948 was a capital transaction.The decedent's base for determining gain or loss on the sale of such stock warrants in the taxable year is the amount he paid therefor, increased by the242 amount returned as additional compensation in the year he purchased such warrants.876 OPINION.The question presented is whether the net consideration received by petitioners' decedent, Lauson Stone, on the sale in 1948 of certain stock warrants is taxable as additional compensation or as capital gain.The petitioners' decedent was first employed as president and chief executive officer of the Follansbee Steel Corporation on October 26, 1942. On March 31, 1944, the decedent entered into a written contract of employment with such corporation for a period of 5 years from January 1, 1943, which provided that his compensation was not to be less than $ 50,000 per year. From January 1, 1943, until his death he was the president and a director of such corporation. Pursuant to a resolution adopted by its stockholders and the directors, the corporation was authorized to issue and sell to the decedent at a price of $ 10 per warrant 100 negotiable stock purchase warrants for the purchase of 100 shares each of the common stock of the corporation at $ 21 per share. The warrants were dated May 1, 1947, and were to expire 5 years from date unless the period was extended. They were not243 exercisable for a period of 6 months from their date. There was no restriction upon the sale or transfer of the warrants.Between June 24 and June 30, 1948, the decedent sold and transferred 89 of the warrant certificates representing the right to purchase 8,900 shares of the common stock of the corporation for the sum of $ 82,680.50.The respondent, relying upon I. T. 3795, 1946-1 C. B. 15, contends that the stock purchase warrants had no market value when received in 1947, and that the net consideration received on their sale by the decedent in the taxable year 1948 was taxable in full as additional compensation paid to the decedent in that year.The petitioners contend that the decedent purchased the stock purchase warrants in 1947 in a bona fide transaction; that the warrants were "property" and "capital assets," as defined in section 117 (a) (1) of the Internal Revenue Code; and that on the sale in 1948 the decedent realized a long term capital gain. The petitioners argue that the facts here presented are governed by Treasury Regulations 111, section 29.22 (a)-1, as amended by T. D. 5507, 1946-1 C. B. 18. 244 2245 The petitioners, relying on T. D. 5507, argue that the amount received by the decedent in the nature of additional compensation is the difference 877 between the amount he paid for the stock warrants and their fair market value on the date of their delivery to him. They further contend that the decedent's base for determining gain on the subsequent sale in the taxable year 1948 is the amount he paid for them, increased by the difference between such amount and their fair market value when the warrants were received. The petitioners further contend that I. T. 3795, supra, 3 is inapplicable and, if intended to cover all stock options, is invalid and not in accordance with the law.The respondent urges that the parties employed the form of a sale in a vain tax avoidance attempt to qualify the transaction under T. D. 5507, and no bona fide sale was intended. It is also argued that, if the warrants were sold to the decedent for a consideration less than their fair market value, the corporation is placed in the illegal position of having given away its assets. We find no evidence in the record to support246 an inference that the transaction was not entered into in good faith, and since the issuance and sale of the warrants were authorized by the stockholders the transaction was not ultra vires the corporation.The stock purchase warrants here involved differ widely from the usual stock purchase options given by employers to officers and employees which have been the subject of consideration by the courts over a long period of years. Since we regard the controlling issue as presenting a factual situation, a discussion of such prior cases will not be helpful.In applying T. D. 5507, one of the questions to be determined is whether in making the agreement in question the additional compensation was to be the spread between the fair market value of the warrants when issued and the sale price to the decedent, or the spread between the acquisition price and the fair market value of the stock when the options were exercised. In our opinion the reasonable inference to be drawn from the facts presented is that the parties were dealing in stock warrants and not the shares of stock that could be acquired thereunder. The following facts lend support247 to such view, i. e., the decedent paid a valuable consideration for their issuance; the warrants were negotiable from their date; they were protected against dilution in value; and they were not contingent upon his continued employment.878 The courts have recognized that in certain circumstances stock purchase warrants are property. Helvering v. San Joaquin Fruit & Investment Co., 297 U.S. 496">297 U.S. 496; Smith v. Commissioner, 324 U.S. 695">324 U.S. 695. In the Smith case the Supreme Court intimated that the option itself might be found to be the only intended compensation. Of course, the option itself could only be treated as the intended compensation, where the option purchased had a fair market value at the time of its issuance in excess of the price paid therefor. The burden of establishing such facts rested upon the petitioners. They have endeavored to meet such burden through the testimony of two competent and well-qualified stock brokers, and on this record we think that burden has been met.We are convinced from all the evidence contained in the record that the stock warrants in question on the date of their delivery248 to the decedent had a fair market value at least of the $ 6,000 placed thereon by the decedent and used as his base in fixing the amount of the additional compensation received in 1947 as a result of the issuance and sale to him of such warrants. It is unnecessary in order to dispose of the issue before us to determine the actual fair market value of the warrants on the date of their delivery, since the petitioners' pleadings do not put in issue the question of any greater value than the amount returned in 1947.The respondent further contends that the additional compensation which the corporation intended to be paid was the consideration received upon the sale of the warrants by the decedent in 1948, and such an intention is evidenced by the fact that the corporation in its income tax return for 1948 claimed a deduction of the amount the decedent received in 1948, as provided in I. T. 3795, supra. While in certain circumstances the action taken by the corporation might be a factor to be considered in determining the intent of the parties, we do not think it is controlling. We need not determine whether such action on the part of the corporation was proper since that issue 249 is not before us. The mere stipulated fact that the corporation claimed such a deduction, under the facts here presented, is of no material significance on the issue involved.We do not agree with the respondent's contention that I. T. 3795 is controlling under the facts here presented. Nor do we think that it was intended to cover stock warrants acquired by purchase, the fair market value of which on the date of delivery was in excess of the amount paid therefor.We have found as a fact that the sale of the stock warrants in the taxable year was a capital transaction, and the decedent's base is that provided in T. D. 5507, supra (footnote 2), and we have so found.879 The stock warrants having been held for more than 6 months, the gain from the sale is a long term capital gain. The petitioners in the income tax return filed on behalf of the decedent for the taxable period 1948, in determining the long term capital gain resulting from the sale of the tax warrants, have used a base determined as provided in T. D. 5507.We hold that petitioners have properly reported the taxable capital gain250 realized by the decedent from the sale of the stock warrants in the taxable year 1948.Decision of no deficiency will be entered. Footnotes1. The stipulated amount is $ 82,680.↩2. T. D. 5507, here pertinent, provides as follows:If property is transferred by an employer to an employee for an amount less than its fair market value, regardless of whether the transfer is in the form of a sale or exchange, the difference between the amount paid for the property and the amount of its fair market value is in the nature of compensation and shall be included in the gross income of the employee. In computing the gain or loss from the subsequent sale of such property its basis shall be the amount paid for the property, increased by the amount of such difference included in gross income.↩3. That part of I. T. 3795 material here provides: * * if an employee receives an option on or after February 26, 1945, to purchase stock of the employer corporation, * * * the employee realizes taxable income by way of compensation on the date upon which he receives the stock to the extent of the difference between the fair market value of the stock when it is received and the price paid therefor.If the employee transfers such option for consideration in an arm's length transaction, the employee realizes taxable income by way of compensation on the date he receives such consideration to the extent of the value of such consideration.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623648/	SHAMROCK OIL AND GAS COMPANY, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Shamrock Oil & Gas Co. v. CommissionerDocket No. 98588.United States Board of Tax Appeals42 B.T.A. 1016; 1940 BTA LEXIS 912; October 22, 1940, Promulgated 912 Petitioner, on the accrual basis, accrued during the taxable year interest represented by debenture mortgage coupons. During the year petitioner exchanged for the bonds and interest coupons stock and bonds of a new corporation, received by petitioner in a nontaxable reorganization, and petitioner's bonds and interest coupons were canceled. Held, petitioner is entitled to deduct the interest accrued. Hummel-Ross Fibre Corporation,40 B.T.A. 821">40 B.T.A. 821, followed. Harry C. Weeks, Esq., R. B. Cannon, Esq., and Dempsey A. Winn, C.P.A., for the petitioner. James L. Backstrom, Esq., for the respondent. DISNEY1016 OPINION. DISNEY: This proceeding involves income taxes for the year 1935. Deficiency was determined in the amount of $5,321.36. A stipulation and supplemental stipulation of facts were filed, and in addition thereto a single documentary exhibit was admitted in evidence. We find the facts to be as stipulated and as set forth in said document. They may be summarized for purposes of examination of the question presented, as follows: The petitioner, a Delaware corporation with its principal office and place of913 business at Amarillo, Texas, in 1935, the taxable year, kept its accounts on the accrual basis. On January 1, 1935, it was indebted upon a first mortgage bond issue, an eight-year debenture bond issue, and a ten-year debenture bond issue. The debentures provided for payment of interest semiannually on March 1 and September 1. No interest had been paid since September 1, 1932, though it had been regularly accrued upon petitioner's books and income tax returns. From January 1 to August 31, 1935, and in accord with its regular accounting practice, petitioner accrued on its books, as expense, interest on the debenture bonds in the amount of $5,640 each month, a total to August 31, 1935, of $45,120. On July 8, 1935, a Delaware corporation, the Shamrock Oil & Gas Corporation, was formed. On July 9, 1935, a plan of reorganization was entered into between petitioner and the new corporation. The plan was approved by the stockholders on July 24, 1935, and was carried out on or about September 1, 1935, by the transfer of all of petitioner's assets to the new corporation in consideration of all of the stock and all of the securities, consisting of bonds, of the new corporation. 1017 914 Thereupon the securities so received by petitioner were issued, ratably and in accordance with the plan of reorganization, to its stockholders, the holders of its first mortgage bonds, and the holders of its debenture bonds. The holders of petitioner's stock and bonds surrendered them, with the unpaid interest coupons on the bonds, in consideration of receipt of the stock and bonds of the new corporation, and petitioner's stocks and bonds were duly canceled. Of the stock in the new corporation, 84.213 percent was issued to persons holding stock in the petitioner corporation. The reorganization was nontaxable under sections 112(b)(4) and 112(g)(1) of the Revenue Act of 1934. Under the plan the holder of $1,000 face value of petitioner's first mortgage bonds (with interest coupons from March 1, 1933) received $1,100 of bonds and 40 shares of common stock of the new corporation; the holder of $750 face value of petitioner's debenture bonds (with interest coupons since March 1, 1933) received bonds of face value of $300 and 75 shares of common stock of the new corporation; and stockholders of petitioner received common stock in the new corporation, share for share. The new corporation915 assumed the liabilities of petitioner, but received the assets of petitioner free from the lien and operation of the first mortgage bonds and debentures. The petitioner in its income tax return claimed deduction of the $45,120 interest accrued during the period from January 1 to August 31, 1935, upon the debenture bonds. The claim was disallowed by the Commissioner and deficiency determined accordingly. The sole question presented is, therefore, whether the petitioner is entitled to such deduction of accrued interest. The petitioner in effect contends that the interest was accruable by one operating on the accrual basis, was duly accrued prior to the reorganization, and was discharged by the receipt of stock and bonds of the new corporation, in the reorganization. The respondent, on the other hand, in substance argues that the interest is not an allowable deduction, because it was canceled prior to the end of the year by the reorganization. There is no contention about the amount of the interest, the liability of the petitioner therefor, nor the fact of nontaxable reorganization. Nor does respondent contend that payment is necessary to accrual. Indeed, there is dispute, 916 not as to facts, but as to the legal effect thereof. The petitioner cites and strongly relies upon , wherein we held that interest upon bonds accrued within the taxable year, but discharged within the year by the issuance of preferred stock in a nontaxable reorganization, was properly deducted. The respondent 1018 seeks to distinguish that case nd cites others, none of which, however, are in our opinion here applicable. Respondent agrees that the Hummel-Ross Fibre Corporation case is applicable to the interest accrued on petitioner's first mortgage bonds (which respondent allowed to be deducted), but in effect argues that as to the first mortgage interest provision was made in the reorganization for payment, whereas there was no such provision as to the interest on the debentures. The only difference lies in the fact that the holders of first mortgage bonds and interest coupons received in exchange more than the face amount of their bonds, i.e., the holder of $1,000 face value of first mortgage bonds received $1,100 face value in new bonds, and 40 shares of stock in the new corporation; while the holder of917 debenture bonds received less than face value, that is, the holder of $750 in debenture bonds received $300 face value of new bonds and 75 shares of the stock in the new corporation. We think the difference has no effect on the present question. In each case, as in the Hummel-Ross Fibre Corporation case, supra, bonds with accrued interest coupons were exchanged for a consideration, to wit, new securities. It is immaterial whether the new securities, for which the interest coupons (and bonds to which attached) were exchanged, were the issue of the same corporation, as in the Hummel-Ross Fibre Corporation matter, or another corporation, as herein. In both instances the exchange was made as a part of a reorganization and by a party thereto. This rendered nonrecognizable any profit made by the corporation in the acquisition of its debenture bonds and interest coupons thereon, but does not alter the fact of exchange of the coupons for a consideration, the bonds or stock received therefor. The fact that petitioner made a nonrecognized profit on the transaction does not mean that the previously accrued liability for interest was "eliminated", is "no longer real", or has918 become extinct in such a manner as to require disallowance of deduction of the interest accrued. It had been eliminated for a consideration, as fully as in the Hummel-Ross Fibre case. Being unable to discern any distinction in principle between that case and the instant proceeding, we hold on the authority thereof that the respondent erred in disallowing deduction of the interest accrued. Decision will be entered for the petitioner.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623651/	Estate of J. T. Longino, Deceased, Robert Harvey Longino and John Thomas Longino, Jr., Former Executors, Petitioners, v. Commissioner of Internal Revenue, Respondent. R. H. Longino, Margaret W. Longino (Husband and Wife), Petitioners, v. Commissioner of Internal Revenue, RespondentLongino v. CommissionerDocket Nos. 70617, 70618United States Tax Court32 T.C. 904; 1959 U.S. Tax Ct. LEXIS 126; July 17, 1959, Filed 126 Decisions will be entered for the respondent. Held, amount realized in settlement of a claim for damages to a cotton crop caused by the use of an insecticide was taxable as ordinary income and the fact the settlement instrument was in form an assignment of the claim was immaterial. J. L. Roberson, Esq., for the petitioners.George L. Hudspeth, Esq., for the respondent. Mulroney, Judge. MULRONEY 904 The respondent determined deficiencies in the income tax of petitioners for the year 1952 in these consolidated proceedings in the following amounts:Docket No.Deficiency70617$ 1,096.03706182,063.52The one issue to be decided is whether $ 18,740.54, received from the settlement of a claim for damages to cotton crops, is to be considered as ordinary income or as long-term capital gain.FINDINGS OF FACT.Some of the facts are stipulated and they are found accordingly. R. H. Longino and Margaret W. Longino are husband and wife. During the years 1951 and 1952 they were partners with J. T. Longino (R. H. Longino's father) in the operation of a cotton plantation near Lula, Mississippi.In connection with the production of the cotton crop for 1951127 the partnership purchased and used an insecticide called UNICO 25% DD7 Emulsion Concentrate. This was a product of United Cooperatives, Inc. of Alliance, Ohio, hereinafter called United, which did not sell directly to farmers but distributed its products through local agencies, sales companies, farmers' cooperatives, and brokerage companies. As a result of the usage of the insecticide considerable damage was done to the cotton crop being grown on the plantation in 1951. Subsequently, R. H. Longino, the managing partner, made claim for the partnership against United and others for damages caused to the said cotton crop by the use of the insecticide. The United States Fidelity & Guaranty Company of Baltimore, Maryland, was the insurance carrier for United, having issued it a products liability policy.After considerable negotiations between all parties concerned the claim for damages was settled by R. H. Longino on March 18, 1952, 905 for himself and the partnership executing an instrument, assigning the claim for damages to United, and receiving a check from United States Fidelity & Guaranty Company in the sum of $ 21,087.60. This included $ 237.60 refund for returned insecticide128 and $ 20,850 damages.The partnership, in its return for 1952, reported the $ 20,850 damages as long-term capital gain from which was deducted $ 2,109.46 attorney fees, leaving a reported net long-term capital gain of $ 18,740.54. The three equal partners in turn reported their respective shares of this sum as long-term capital gain in their own tax returns (R. H. and Margaret filed joint return) filed with the district director of internal revenue at Jackson, Mississippi. J. T. Longino died March 6, 1955, and Robert H. Longino and John T. Longino, Jr., qualified as executors and were sole beneficiaries of his estate.The deficiencies in controversy result from respondent's determination that the $ 18,740.54 received by the partnership in settlement of the claims for damage to crops is taxable as ordinary income.OPINION.It is undisputed that the partnership had a claim for damages caused by the use of the insecticide on its 1951 cotton crop. The partnership was asserting this claim against United, which had placed this product on the market, and others who had had anything to do with it on its way from producer to the end sale to the partnership. The partnership was claiming129 around $ 30,000 damages but, in its settlement negotiations with United, a figure of $ 21,087.60 was reached which was acceptable to both. United did not manufacture the chemical and the attorney representing its insurer desired to preserve any rights it might have to go against the manufacturer of the chemical or anyone else. Because of these considerations and at the insistence of the insurance company lawyer, the settlement was handled by an assignment of the claim by the partnership to United for the agreed settlement sum of $ 21,087.60.The rule that is well established by the authorities is that the taxability of an amount recovered upon a contested claim depends upon the nature of the claim and the actual basis of recovery. If the recovery represents damages for loss of profits it is taxable as ordinary income. If the recovery is received as the replacement of capital lost it is taxable as the return of capital. ; , affd. , certiorari denied .It is clear that 130 the claim in the instant case was for loss of profit or as R. H. Longino said for "[damage] to my cotton crop." In fact, R. H. Longino was asked the specific question if his claim was for a recovery for the loss of a crop which, if it had not been damaged, would have returned a profit to him, and he replied, "That is right."906 Petitioners rely entirely on the form of the settlement instrument -- an instrument of assignment rather than a release. Their argument on brief is that the "gain represented the proceeds of a sale and was not a settlement of a claim for damages." There is no merit in petitioners' contention. It is substance not form that controls. ; , affd. . The form of the settlement instrument was dictated by the insurer's attorney. Petitioners' attorney, who represented them in the settlement negotiations, testified, "I have always figured if they were paying for it they had a right to put it in the form they desired." The payment to the partnership was a recovery on its crop damage*131 claim. It was made by the insurer to settle a claim for damages against its insured. The fact that the insurer insisted upon a particular form to be executed by the claimant at the time of settlement makes no difference at all for tax purposes.Decisions will be entered for the respondent.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623654/	Hans Jordan and Trudy Jordan, Petitioners, v. Commissioner of Internal Revenue, RespondentJordan v. Comm'rDocket No. 55207United States Tax Court1956 U.S. Tax Ct. LEXIS 58; 111 U.S.P.Q. (BNA) 315; 27 T.C. 265; October 31, 1956, Filed 58 Decision will be entered for the petitioners. In 1945, petitioner assigned his full right, title, and interest in an invention, subsequently patented, to his employer in consideration of a percentage of the sales price of the item when marketed. The invention had been perfected on his own time but work on a pilot model thereof had been done on the employer's premises with its material and with the help of two other employees. In 1951 and 1952, petitioners reported payments received under the 1945 agreement as long-term capital gains from the sale of a patent. Held, such shop rights as petitioner's employer had in the invention did not dilute petitioner's "substantial rights" in his patent within the meaning of section 117 (q) of the 1939 Code, and the amounts received in 1951 and 1952 were properly reported by him as long-term capital gains. Richard H. MacCracken, Esq., for the petitioners.Richard W. Janes, Esq., for the respondent. Rice, Judge. RICE315 265 This proceeding involves deficiencies in income tax for the years 1951 and 1952 in the respective amounts of $ 12,343.28 and $ 9,560.42.The sole issue is whether amounts which petitioner, Hans Jordan, received during the years in issue were the proceeds from the sale of a patent and, therefore, taxable as long-term capital gains under the provisions of section 117 (q) of the 1939 Code.This case was first submitted to the Court sitting at Los Angeles, California, on January 30, 1956, on a full stipulation of the facts. On joint motion of the parties, the case was reopened on April 9, 1956, to receive the testimony of petitioner, Hans Jordan, and one other witness.Some of the facts were stipulated.FINDINGS OF FACT.The stipulated facts are so found and are incorporated herein by this reference.Hans Jordan (hereinafter referred to as the petitioner) and his wife, Trudy Jordan, were residents60 of Los Angeles, California, during the years in issue and filed their joint income tax returns for such years with the former collector of internal revenue for the sixth district of California.Petitioner is an electrical engineer and was educated in Germany.Early in 1941, petitioner was employed by the Given Machinery Company, a partnership, to make drawings of a variable drive device to be used on machine tools. In the fall of 1941, he was employed 266 temporarily by another firm, but late in 1941 returned to the employment of the Given Machinery Company. From that time to the end of World War II, his duties with Given Machinery Company were in connection with its various contracts for war production. During the course of his employment he became the chief engineer for the company.In 1942, petitioner began thinking of his future after the termination of the war. He approached Bert Given, the managing partner of the machinery company, with the proposition that if he, petitioner, conceived of an invention which could be profitably manufactured, Given Machinery Company would undertake to manufacture the invention and pay him a royalty thereon.In the summer of 1943, petitioner61 conceived of the idea of a waste disposal unit. Bert Given thought the idea a good one, and suggested that petitioner develop it. Petitioner did so on his own time and toward the end of 1943, with the help of two other Given Machinery Company employees who were paid by Given, made a pilot model on the company's premises from materials which it bought. The model was tested in Bert Given's home and proved to be successful. The parties stipulated that the basic invention had been reduced to actual practice by the petitioner in the latter part of 1943, and more than 6 months prior to August 22, 1945.On such latter date, petitioner entered into an agreement with Given Machinery Company, assigning to it his full right, title, and interest in the patent on the waste disposal unit. The pertinent provisions of the agreement are set forth below:Whereas, JORDAN has invented a garbage disposal device on which an application for United States Letters Patent has been prepared * * ; and316 Whereas, JORDAN invented the subject matter of said application as a part of his duties while employed by GIVEN and at GIVEN'S direction and expense; andWhereas, GIVEN desires to acquire and JORDAN is willing62 to part with the full right, title, and interest in and to said JORDAN PATENT RIGHTS upon the terms set forth hereinafter,Now, Therefore, in consideration of the mutual covenants contained herein, the parties agree as follows:1. JORDAN hereby agrees to assign currently herewith to GIVEN the full right, title, and interest in and to the JORDAN PATENT RIGHTS, and to execute now or in the future any and all legal documents which are in the opinion of GIVEN reasonably necessary to convey the same to GIVEN or establish his right thereto, and to take any and all lawful oaths in connection with said JORDAN PATENT RIGHTS which are in the opinion of GIVEN reasonably necessary to secure the filing, granting, or protection of the JORDAN PATENT RIGHTS or any of them.267 2. GIVEN hereby agrees to pay to JORDAN on each and every complete garbage disposal device sold by GIVEN which embodies any invention disclosed and claimed in the JORDAN PATENT RIGHTS, or any of them, and which claim has been allowed by the United States Patent Office, an earned royalty of One percent (1%) of the net selling price received by GIVEN therefor. * * ** * * 4. In the event that GIVEN fails to offer for 63 sale on the open market prior to January 1, 1947, garbage disposal devices disclosed or claimed in the JORDAN PATENT RIGHTS, JORDAN within sixty (60) days thereafter may by written notice thereof delivered to GIVEN terminate this agreement, and in such event GIVEN agrees to promptly reassign all of the JORDAN PATENT RIGHTS to JORDAN, * * On December 18, 1947, the Given Machinery Company assigned its exclusive right to make, use, and sell petitioner's invention to the Given Manufacturing Company, a corporation, which undertook to pay petitioner the payments to which he was entitled under the agreement of August 22, 1945.Petitioner was granted a patent on June 8, 1948.In 1951, petitioner received $ 43,309.53 under the provisions of the 1945 agreement and in 1952 he received $ 32,251.87. On the joint income tax returns filed for those years, the petitioners reported such sums as the proceeds from the sale of the patent, taxable as long-term capital gains.The respondent determined that such sums constituted the receipt of ordinary income.On or about the 17th day of February 1955, and subsequent to the filing of the petition herein, petitioners paid to the district director of internal64 revenue at Los Angeles the sum of $ 12,000 for the year 1951 and the sum of $ 9,500 for the year 1952 to apply on the deficiencies determined by the respondent in his notice of deficiency.OPINION.Section 117 (q) 165 of the 1939 Code provides that the transfer of all substantial rights to a patent shall be considered as the 268 sale or exchange of a capital asset held for more than 6 months. That subsection of section 117 was added by Public Law 629, 84th Congress, 70 Stat. 404 (1956). Its provisions are substantially identical to section 1235 of the 1954 Code. 2 Section 117 (q) is applicable to taxable years beginning after May 31, 1950. The question before us here is whether the petitioner transferred "all substantial rights" in his patent within the meaning of the statute.The respondent contends that petitioner did not transfer all substantial rights because, by virtue of that clause317 in the agreement of August 22, 1945, which reads:Whereas, JORDAN invented the subject matter of said application as a part of his duties while employed by GIVEN and at GIVEN'S direction and expense;he possessed no substantial patent rights to transfer. We think that argument without merit.When this case was reopened, the Court heard the testimony of petitioner and of Bert Given. Both witnesses made it clear that there was no agreement that the Givens would have any legal interest in any invention which petitioner might perfect and patent. Neither remembered why the clause on which respondent bases his argument was included in the agreement. Bert Given testified that the lawyer who drew the agreement probably inserted it on his own initiative. Petitioner testified that had his English been as good in 1945 as it was at the time of the hearing, he would have insisted that the clause be eliminated. He testified further that66 the only provision in the agreement in which he was vitally interested at the time was the one guaranteeing to him the return of his patent rights if the Givens failed to offer the disposal device for sale on the open market prior to January 1, 1947. Both witnesses also testified that petitioner invented the device on his own time.The only interest which the Givens could have possessed in petitioner's invention was a so-called shop right; and that right we think insufficient to dilute petitioner's "substantial rights to a patent," within the meaning of the statute. As the Supreme Court said in :One employed to make an invention, who succeeds, during his term of service, in accomplishing that task, is bound to assign to his employer any patent 269 obtained. The reason is that he has only produced that which he was employed to invent. His invention is the precise subject of the contract of employment. A term of the agreement necessarily is that what he is paid to produce belongs to his paymaster. .67 On the other hand, if the employment be general, albeit it cover a field of labor and effort in the performance of which the employee conceived the invention for which he obtained a patent, the contract is not so broadly construed as to require an assignment of the patent. ; . * * ** * * The reluctance of courts to imply or infer an agreement by the employee to assign his patent is due to a recognition of the peculiar nature of the act of invention, * ** * * Recognition of the nature of the act of invention also defines the limits of the so-called shop-right, which shortly stated, is that where a servant, during his hours of employment, working with his master's materials and appliances, conceives and perfects an invention for which he obtains a patent, he must accord his master a non-exclusive right to practice the invention. ; ; .68 This is an application of equitable principles. Since the servant uses his master's time, facilities and materials to attain a concrete result, the latter is in equity entitled to use that which embodies his own property and to duplicate it as often as he may find occasion to employ similar appliances in his business. But the employer in such a case has no equity to demand a conveyance of the invention, which is the original conception of the employee alone, in which the employer had no part. This remains the property of him who conceived it, together with the right conferred by the patent, to exclude all others than the employer from the accruing benefits. These principles are settled as respects private employment.We are satisfied that at the time petitioner assigned his patent rights in the waste disposal unit, he had "substantial rights" to transfer within the meaning of section 117 (q). It, therefore, follows that the amounts received by him during the years in issue were taxable as capital gains and not as ordinary income.Decision will be entered for the petitioners. Footnotes1. SEC. 117. CAPITAL GAINS AND LOSSES.(q) Transfer of Patent Rights. -- (1) General rule. -- A transfer (other than by gift, inheritance, or devise) of property consisting of all substantial rights to a patent, or an undivided interest therein which includes a part of all such rights, by any holder shall be considered the sale or exchange of a capital asset held for more than 6 months, regardless of whether or not payments in consideration of such transfer are -- (A) payable periodically over a period generally coterminous with the transferee's use of the patent, or(B) contingent on the productivity, use, or disposition of the property transferred.(2) "Holder" defined. -- For purposes of this subsection, the term "holder" means -- (A) any individual whose efforts created such property, or * * *(4) Applicability. -- This subsection shall apply with respect to any amount received, or payment made, pursuant to a transfer described in paragraph (1) in any taxable year beginning after May 31, 1950, regardless of the taxable year in which such transfer occurred.↩2. See S. Rept. No. 1941, 84th Cong., 2d Sess. (1956).↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623655/	Robert Henry Hoyle v. Commissioner.Hoyle v. CommissionerDocket No. 4575-69 SC.United States Tax CourtT.C. Memo 1970-172; 1970 Tax Ct. Memo LEXIS 190; 29 T.C.M. (CCH) 760; T.C.M. (RIA) 70172; June 23, 1970, Filed Robert Henry Hoyle, pro se, P.O. Box 75, Michigan City, Ind. Frank E. Wrenick, for the respondent. the meaning of section 151(e), and, accordingly, IRWINMemorandum Findings of Fact and Opinion IRWIN, Judge: Respondent determined deficiencies in petitioner's income tax for the years 1966 and 1967 in the amounts of $388.06 and $508.85, respectively. The two issues presented are: (1) Whether respondent erred in disallowing the deductions taken by petitioner 761 under section 151(e) with respect to his children who resided in the United Kingdom during the two years in question; and (2) Whether respondent erred in disallowing petitioner a standard deduction in excess of $500 for each of the years in question. Findings of Fact Petitioner Robert Henry Hoyle (hereinafter Robert) was a resident of Michigan City, Ind., at the time the petition herein was filed. Petitioner timely filed separate tax returns for the years 1966 and 1967 with the district director of internal revenue, Indianapolis, 192 Ind. Petitioner was, during the years before us, a British subject. He arrived in the United States on June 4, 1966, and for the years in issue maintained a residence in Michigan City, Ind., where he was employed as an electrician by the Joy Manufacturing Company. During this time petitioner was married and was the father of three children. Petitioner's wife and children, all of whom resided in the United Kingdom during the years 1966 and 1967, were also British subjects. Petitioner's children were all younger than 19 for the period herein pertinent. On his tax returns for the years 1966 and 1967, respectively, petitioner treated each of his children as a dependent within the meaning of section 151(e), and, accordingly, reduced his adjusted gross income by $1,800 - the aggregate of these section 151(e) deductions. Petitioner also took standard deductions amounting to $600 in 1966 and $872.79 in 1967. In his notice of deficiency for each of these years, respondent disallowed the dependency deductions attributable to petitioner's children, and disallowed that portion of the standard deduction which exceeded $500. The letter of explanation (for the year 1966) which accompanied respondent's193 notice of deficiency contained the following pertinent statements: Standard Deduction - Since your wife is a nonresident alien, you may not file a joint return; and the standard deduction is limited to $500. Although the rates for separate and single are identical, the tax must be computed as separate because, the standard deduction is limited to $500, and the wife's exemption is allowable. Taxpayer's wife and children are living in England, and taxpayer is sending support to them. However, under these conditions, he is allowed to claim his wife's exemption, but not his children as dependents. Opinion Issue 1: Dependency Deductions The first question before us is whether Robert's children, who were British subjects and residents of the United Kingdom, during each of the years before us, can be regarded as dependents for purposes of section 151(e). 1 In the absence of a treaty between the United States and the United Kingdom calling for a contrary result, we believe the answer to this question is clearly set out in section 152(b)(3) which provides in pertinent part: (3) The term "dependent" does not include any individual who is not a citizen of the United States unless194 such individual is a resident of the United States, of a country contiguous to the United States, of the Canal Zone, or of the Republic of Panama. * * Since petitioner's children were citizens of a country not enumerated in the above section, and since, to our knowledge, no direction to the contrary is required by any tax treaty between this country and the United Kingdom, petitioner's children could not qualify as dependents for purposes of section 151(e). Issue 2: Standard Deduction The present issue is concerned with the availability to petitioner of a standard deduction in excess of $500195 - the amount permitted by respondent for each of the years in issue. 2 Specifically, within the limits set by our discussion in footnote 2, supra, the 762 question before us is whether a married person, whose wife is a nonresident alien, is entitled to take a standard deduction in excess of $500. The answer to this question, is, we believe, governed by sections 141(a) and 6013(a)(1) of the Code. 196 Section 6013(a)(1) provides that a husband and wife may file a joint return of income except where either the husband or the wife is at any time during the taxable year a nonresident alien. Since petitioner's wife was a nonresident alien during each of the years in question, petitioner was precluded by section 6013(a)(1) from filing a joint return with his wife during either of these years. Accordingly, though a married person, petitioner was relegated to filing a separate return for each of those years and could not claim more than $500 as a standard deduction for either year since section 141(a) provides that "in the case of a separate return by a married individual the standard deduction shall not exceed $500." See Rev. Rul. 56-284, 1 C.B. 89">1956-1 C.B. 89. This being the case, it is our determination that the immediate question must be resolved in favor of respondent. Decision will be entered for the respondent. Footnotes1. All statutory references are to the Internal Revenue Code of 1954, as amended. SEC. 151. ALLOWANCE OF DEDUCTIONS FOR PERSONAL EXEMPTIONS. * * * (e) Additional Exemption for Dependents. - (1) In general. - An exemption of $600 for each dependent (as defined in section 152) - (A) whose gross income for the calendar year in which the taxable year of the taxpayer begins is less than $600, or (B) who is a child of the taxpayer and who (i) has not attained the age of 19 at the close of the calendar year in which the taxable year of the taxpayer begins, or (ii) is a student.↩2. It would appear that petitioner may be ineligible for any standard deduction during 1966 - the year in which he was a nonresident alien for part of the time. From respondent's standpoint, this result would seem to be indicated, not only by the position taken by respondent in Rev. Rul. 64-60, 1964-1 C.B. (Part 1) 84, but also by our decision in the case of Donald G. Baddock 27 TCM 289, T.C. Memo. 1968-55, in which we affirmed the position taken by respondent in Rev. Rul. 64-60↩ and held that, in order to qualify for the standard deduction, an alien must be a "resident alien" for the entire taxable year. However, since respondent, in his notice of deficiency in the year 1966, allowed petitioner a standard deduction, to the extent of $500; and, since the availability of this amount has not been questioned by respondent in his pleadings or at trial, we regard respondent's silence in connection with this matter as being equivalent to a concession on his part. Accordingly, our review of the immediate question will only be concerned with that portion of the standard deduction for the years 1966 and 1967 which has been disallowed by respondent in his notice of deficiency.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623658/	MEREDITH S. CONLEY AND MARGARET H. CONLEY, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, RespondentConley v. CommissionerDocket No. 563-76United States Tax CourtT.C. Memo 1977-406; 1977 Tax Ct. Memo LEXIS 35; 36 T.C.M. (CCH) 1644; T.C.M. (RIA) 770406; November 23, 1977, Filed Richard M. Conley, for petitioners. Bernard S. Mark, for respondent. DAWSONMEMORANDUM FINDINGS OF FACT AND OPINION DAWSON, Judge: This case was assigned to and heard by Special Trial Judge Randolph F. Caldwell, Jr., pursuant to the provisions of section 7456(c) of the Internal Revenue Code of 1954, as amended, and General Order No. 5 of this Court. 1 The Court agrees with and adopts the opinion of Special Trial Judge Caldwell which is set forth below. OPINION OF SPECIAL TRIAL JUDGE CALDWELL, Special Trial Judge: Respondent determined a deficiency in petitioners' 1973 Federal income taxes37 in the amount of $2,016.31. The issues for decision are whether petitioners are entitled to (1) any part of a claimed deduction of $6,935.86, which they included among the miscellaneous deductions on their 1973 return as a "Non-Recoverable Business Bad Debt"; (2) a deduction for maintaining an office in the home; and (3) a deduction, in an amount greater than that allowed by respondent, for the cost of periodicals and newspapers. FINDINGS OF FACT Some of the facts were stipulated. The stipulation of facts, together with the exhibits identified therein or attached thereto, is incorporated herein by reference. Petitioners Meredith S. Conley (hereinafter, "petitioner") and Margaret H. Conley are husband and wife whose legal residence at the time of the filing of the petition was Cranford, New Jersey. They timely filed a joint return for 1973. Issue 1 -- "NON-RECOVERABLE BUSINESS BAD DEBT"FINDINGS OF FACT Petitioner has been for many years engaged in public relations work. Prior to forming Meredith S. Conley, Inc. (more fully described herein below), he had been a public relations management supervisor with J. Walter Thompson and a public relations manager and vice38 president of Ted Bates & Co., Inc.In 1969, petitioner decided to form his own public relations firm and for this purpose he organized Meredith S. Conley, Inc. (hereinafter, "the corporation"), a New Jersey corporation. The corporation issued only common capital stock, and it was authorized to issue 10,000 shares with a par value of $1 per share. Over the period from May 22, 1969, through October 8, 1970, it issued 1,124 shares, 700 of which (approximately 62 per cent) were issued to petitioner on May 22. Petitioner did not pay in any money for the shares issued to him; rather, his shares were issued in exchange for services rendered in organizing the corporation and to be rendered thereafter as the corporation's chief executive officer. The other stockholders paid in from $20 to $25 per share for the stock issued to them. Petitioner was president and chairman of the board of directors. The corporation began business operations on July 1, 1969, at its office in New York City. Although it was successful in attracting several substantial clients during 1969 and the early part of 1970, economic conditions in the spring and latter part of 1970 (a nationwide mail strike, the39 President's imposition of wage and price controls, and an economic recession) caused the business of the corporation to suffer. Its clients began to take longer in paying the fees charged to them, and some of them indicated that they might cancel or shorten the terms of their contracts. The impact of such conditions, coupled with the relatively small amounts paid in for its stock, created a cash-flow problem for the corporation. The corporation sought loans unsuccessfully from two New York banks. Petitioner individually also sought bank loans, but was unsuccessful. In these circumstances, petitioner and his wife, in their individual capacities, in December 1970 negotiated two 36-month installment loans, one from Household Finance Corporation, and the other from Beneficial Finance Corporation. The Household Finance loan was for $1,400. Petitioner expended $544.92 of this amount to defray the cost of travel on the corporation's business; and he transferred the remaining $855.08 to the corporation on December 23, 1970, which was deposited in its bank account. The transfer of funds was reflected in the corporation's general journal as a "loan from MSC [Meredith S. Conley]". 40 Petitioner and his wife thereafter repaid the Household Finance loan by checks on their individual account, and such repayments totaled $624 in 1973. The face amount of the Beneficial Finance loan is not established by evidence in the record. However, the evidence does establish that $1,041.85 was transferred to the corporation on December 17, 1970, which was reflected in its general journal as a "loan from MSC" and which was deposited in its bank account. Any loan proceeds in excess of the amount so transferred and deposited were utilized by petitioner in defraying expenses of the corporation. This loan too was repaid by petitioner and his wife by checks on their individual account, and such repayments totaled $624 in 1973. The funds thus transferred to the corporation were used by it to meet payroll and other of its current operating expenses. By January 1971, petitioner could see that the corporation was not going to be successful. In April 1971, it discharged its clerical employees; and by the end of July of that year the remaining members of its staff were discharged leaving only petitioner. The corporation's last public relations business was done on or about July41 31. Petitioner kept the corporation office in New York open until October 18, paying liabilities and endeavoring to collect its accounts receivable and to sell the corporation to some other business which might be able to use its substantial operating losses to a tax advantage. Its books were closed on october 31, 1971. The corporation paid no state franchise taxes after 1971; but it remained in existence throughout 1973. As appears from the foregoing, the corporation was not successful. It had an accumulated deficit in earnings and profits of $63,907 as of August 31, 1970. After suffering a net loss of $29,654 for its fiscal year ended July 31, 1971, that deficit was increased by $93,561 as of the last mentioned date. There were many liabilities of the corporation which remained unpaid, among which were those for unpaid Federal and New York State withholding taxes, New York unemployment insurance taxes and for supplies furnished and services rendered. In addition to such liabilities, the corporation remained liable for $300 per month rent on its 5-year lease running from July 1, 1969 (the difference between the rent stated in the lease of $900 per month and the $600 which42 the corporation realized from a sublessee to whom the premises had been subleased). After the corporation had ceased doing business, petitioner first was employed by Daniel J. Edelman, the sixth largest public relations firm in the country, as its senior vice president and general manager, and then by Infoplan International, Inc., the public relations arm of the Interpublic Group of Companies. Petitioner regarded it as essential for a person involved in public relations to be viewed by the media representatives and by the public relations and advertising community generally as a person of credibility and sound reputation in order that his clients and their products and services might receive the coverage and mention in newspapers and magazines and on radio and television which he sought for them. Petitioner accordingly chose to attempt himself to pay and satisfy the debts and obligations of the corporation, rather than having it placed in bankruptcy or having his wages garnished by the Government for the corporation's unpaid tax liabilities, in order to help to preserve his reputation and good will in the public relations field, especially since the corporation bore his name and43 the public relations community is a small one. To this end, in 1973 petitioner and his wife from time to time during that year, obtained cash advances from such sources as Master Charge, BankAmericard, and Banker's Trust Credit Co., which were used to make payments on the corporation's debts and obligations. The following table shows the amounts of such cash advances which petitioner and his wife repaid in 1973: BankAmericard$ 82.80First National City Bank71.04First New Jersey Bank100.00Banker's Trust Credit Co.50.00Master Charge311.44The cash advances thus obtained, together with other funds (presumably including his earnings from Edelman and/or Infoplan) were utilized by petitioner to pay Burrelle's Press Clipping Services ( $85) and Treck Photographic, Inc. ($22.39) during 1973 for services rendered and supplies furnished to the corporation during 1970 and 1971, when it was actively conducting business. As to the December 17, 1970, and December 23, 1970, transfers to the corporation originating with funds borrowed by petitioners from Household Finance and Beneficial Finance, as well as with respect to the amounts paid to Treck and Burrelle, 44 no loan agreement was executed between petitioner and the corporation, and it gave no security, nor did it execute or issue any note or certificate of indebtedness, nor did it pay any interest. Petitioner also made payments to the Internal Revenue Service aggregating $3,764.80, during 1973. These payments represented the corporation's obligation to the Internal Revenue Service for amounts withheld from salaries paid to the corporation's employees for withholding tax and the employees' share as well as the corporation's share of F.I.C.A. taxes, but which had not been paid when due. On its 1971 Federal income tax return, the corporation had taken a deduction for its contribution of F.I.C.A. taxes which was not paid until paid by petitioner in 1973. Also the corporation took a deduction for "salaries and wages" which included the amounts of withholding tax and F.I.C.A. tax withheld from its employees but which was not paid until paid by petitioner in 1973. During 1973, petitioner also made payments to the New York State Income Tax Bureau totaling $800, an unspecified portion of which represented a penalty. The non-penalty portion represented the corporation's obligation for45 New York State income taxes previously withheld from its employees but which were not paid when due. On its 1971 Federal income tax return, the corporation took a deduction for "salaries and wages" which included the amount of New York State income taxes withheld from its employees but which were not paid until paid by petitioner in 1973. During 1973, petitioner also made payments to the New York State Bureau of Labor totaling $261. These payments represented the corporation's obligation for New York State unemployment insurance which was not paid when due. On its 1971 Federal income tax return the corporation took a deduction for workmen's compensation (unemployment insurance) which was not paid until paid by petitioner in 1973. Petitioner, as president of the corporation, was personally liable for its unpaid Federal and State withholding and F.I.C.A. taxes and the unemployment insurance, which he paid as described above. At some time after October 1971 and prior to January 1973, petitioner, as president of the corporation, consulted Alexander Freiser, an attorney, to determine if the corporation could terminate its liability under the lease of its office premises. It46 was unable to do so. Petitioner paid Freiser $35 for his services. Among the Miscellaneous Deductions included on Schedule A (Itemized Deductions) of petitioners' 1973 return was one for "Non-Recoverable Business Bad Debt", in the amount of $6,935.86. That deduction was comprised of the following items: Household Finance Corporation$ 624.00Beneficial Finance Corporation624.00Century Letter Co.100.00Alexander Freiser35.00Burrelleis [Burrelle's]85.00Trek [Treck] Photo22.39BankAmericard54.00First National City Bank82.04First New Jersey Bank100.00Banker's Trust Credit Co.60.00Master Charge323.63Internal Revenue Service3,764.80New York State Income Tax Bureau800.00New York State Bureau of Labor261.00$ 6,935.86In the statutory notice of deficiency, respondent treated as a nonbusiness bad debt $1,791.00 of the foregoing amount. $1,000.00 thereof was allowed as a short-term capital loss in 1973, leaving the amount of $791.00 as a carryover to 1974. The $1,791.00 was comprised of the following: Household Finance Corporation$573.98Beneficial Finance Corporation521.80Alexander Freiser35.00Burrelle's85.00Treck Photo22.39BankAmericard82.00First New Jersey Bank100.00Banker's Trust Credit Co.60.00Master Charge310.891,791.06 *47 In an amendment to his answer respondent alleged that petitioners are not entitled to the $1,000 short-term capital loss allowed in the statutory notice, for the reason that the non-business debt did not become worthless in 1973. Respondent accordingly sought an increased deficiency for 1973 in the amount of $297.60. OPINION At the threshold of this first issue, it is necessary to make a broad division among the items in dispute, and to put to one side several of those items which, we believe, are not deductible in any event in this case. Those items are the repayments made on the 1970 loans and the repayments of the cash advances obtained in 1973 from the several credit card companies. Those items represent the repayment of personal loans obtained by petitioners. Repayment of those loans was not the repayment of the corporation's obligations. To be sure, utilization of the proceeds of those loans, to the extent that they are shown to have been for paying the corporation's obligations, may give rise to deductions by petitioner or increase the basis of petitioner's stock in the corporation. However, to the48 extent that such repayments in 1973 included any interest, such interest would be deductible by petitioner under section 163. If the parties are able to determine the interest portion of the repayments, petitioner should be allowed a deduction therefor in the computation under Rule 155. Further, it is to be noted that petitioner concedes that $100the paid to Century Letter Company was paid in 1972 and should not have been included in the items claimed as a deduction in 1973. Thus, left for consideration under the first issue, are the following: Alexander Freiser35.00Treck Photo22.39Burrelle's85.00Internal Revenue Service3,764.80New York State Income Tax Bureau800.00New York State Bureau of Labor261.00$4,968.19Petitioner no longer contends that he is entitled to a bad debt deduction under section 166. Rather, on brief his counsel states the question to be: "Whether expenditures made by petitioner to satisfy financial liabilities of his public relations company, which used his name, were deductible by petitioner as business expenses, business losses or as losses in a transaction entered into for profit under I.R.C. § 16249 , 165 and 212." At the outset, we hold that even if payment by petitioner of the corporation's liabilities for unpaid F.I.C.A. and Federal withholding taxes were otherwise deductible by him under any of the cited sections, deduction would have to be disallowed on the ground that to allow the same would be to frustrate a well-defined public policy. Smith v. Commissioner,34 T.C. 1100">34 T.C. 1100 (1960), affd. per curiam 294 F.2d 957">294 F.2d 957 (1961); Hudlow v. Commissioner,T.C. Memo 1971-218">T.C. Memo 1971-218. By a parity of reasoning, we believe that petitioner's payment of the corporation's liability for unpaid New York State withholding taxes and unapid contributions to the unemployment insurance fund should not be allowed as deductions to him. See N.Y. Tax Law (McKinney) secs. 671 and 685 and N.Y. Labor Law (McKinney), secs. 501 and 570. We turn now to the residue of items for consideration: Alexander Freiser$ 35.00Burrelle's85.00Treck Photo22.39$142.39Here it can be said, as it was in Lohrke v. Commissioner,48 T.C. 679">48 T.C. 679, 684 (1967), "This case presents us with the question of whether one person can deduct the expenses50 of another person." The residual items are clearly the obligations of one person (the corporation); they were paid by another (the petitioner, its principal shareholder). As was said in Gould v. Commissioner,64 T.C. 132">64 T.C. 132, 134-135 (1975): Ordinarily, a shareholder may not deduct a payment made on behalf of the corporation, but must treat it as a capital expenditure. Deputy v. DuPont,308 U.S. 488">308 U.S. 488 (1940); Bert B. Rand,35 T.C. 956">35 T.C. 956 (1961).However, such rule is not invariable; the payment may be deducted if it is an ordinary and necessary expense of a trade or business of the shareholder. James L. Lohrke,48 T.C. 679">48 T.C. 679 (1967). During the taxable year involved, petitioner was in the business of being a responsible executive, senior vice president of Infoplan International, Inc., the public relations arm of the Interpublic Group of Companies, which paid him gross wages of $22,349.58 in that year. We must decide whether petitioner's ultimate purpose in paying the corporation's obligations was to keep the corporation in existence51 and thereby possibly reap a return on his payments through corporation profits, or whether his purpose was to protect or promote his own business, realizing a return on his payments through continued profits in that business. Cf. Lohrke v. Commissioner,supra, p. 688. After careful consideration of the record in its entirety, we are persuaded that the latter was petitioner's purpose. The corporation had never been successful. Its business operation had been long discontinued. There is no indication whatsoever that petitioner ever intended to revive the corporation's business activities. While payment of the obligations would have made the corporation slightly more attractive to a prospective purchaser interested in acquiring it for the purpose of utilizing its sizable operating losses, in that its liabilities were protanto lessened by petitioner's payments, we do not believe that petitioner's payments were made with the purpose of improving its marketability. Rather, we are persuaded that petitioner's purpose was to protect his own standing and reputation in the public relations community and thereby make him a more effective executive for Infoplan52 and also thereby to protect and promote his earning capacity in that field. His belief, and we think it a reasonable one, was that if he had permitted the corporation, which bore his name, to go into bankruptcy, his reputation and standing in the public relations community where his livelihood was to be gained would have been injured. The only alternative petitioner had was to pay the corporation's obligations himself, and he took this alternative. We hold that the payments to Alexander Freiser, Burrelle's and Treck Photo are deductible by petitioner as ordinary and necessary expenses of petitioner's business as an executive of Infoplan International, Inc.Issue 2 -- OFFICE IN HOMEFINDINGS OF FACT The corporation subleased its New York office in 1971. Petitioner moved the corporation's files, typewriters, and adding machine into one room of his apartment. He used this room as an office for winding up the affairs of the corporation, endeavoring to collect receivables, paying liabilities, and attempting to sell the corporation. The apartment consisted of five rooms of approximately equal size. The room which petitioner used as an office also contained two beds which53 were used by occasional overnight guests. Otherwise, the room was used exclusively in the activities incidental to winding up the corporation's affairs. Petitioner made no use of the room in connection with his work as the senior vice president of Infoplan International. Petitioner derived no income from the corporation in 1973. Petitioners deducted $375 as office expenses, an amount equal to one month's rent for the entire apartment. Respondent disallowed the claimed deduction. OPINION Petitioner seeks deduction for the home office under section 162(a). The difficulty with petitioner's position on this issue is that he testified categorically that the home office had nothing to do with his work for Infoplan International, the only source of his income for 1973. While he was still the president of his own corporation, he derived no income from that corporation, which had long since ceased to conduct any business operations. We are unable to find that petitioner's activities in winding up the affairs of his corporation rose to the level of a trade or business within section 162(a), and consequently the home office expenses would not be deductible under that section. We54 believe that respondent correctly characterized petitioner's use of the home office to store the corporation's files and office equipment as an incidental use motivated by considerations of personal convenience. We decide this issue for respondent. Issue 3 -- PERIODICALS AND NEWSPAPERSFINDINGS OF FACT Petitioner's work consists of dealing with the media, and it was necessary for him to purchase periodicals and newspapers. Petitioner usually bought at least two newspapers almost daily, and periodicals such as Time and Newsweek from time to time. When he traveled on business he purchased local magazines and newspapers. Petitioner purchased these materials at newsstands, as subscription delivery was too delayed to be of benefit. Infoplan did subscribe to some of the materials, but they were routed through the office so that they were out of date by the time they reached petitioner. Petitioner kept no records of the amounts he spent for these items; he estimated that he spent one dollar per day and claimed a deduction of $360. Petitioner had a newspaper delivered to his home; but he did not include that expense in his estimate. Respondent allowed $100 of the claimed55 deduction. OPINION Respondent does not contend that the expenses of purchasing the periodicals and newspapers were not ordinary and necessary business expenses and hence deductible under section 162. Accordingly, the only determination to be made is the amount of the deduction. After due and careful consideration, we find that petitioner incurred expenses of $1 (one dollar) per day for periodicals and newspapers on 250 days of the year. Accordingly, we find that petitioner is entitled to a deduction in the amount of $250. Cohan v. Commissioner,39 F.2d 540">39 F.2d 540 (2d Cir. 1930). * It will be remembered that in the statutory notice of deficiency, respondent allowed petitioner a deduction for a short-term capital loss of $1,000 on the theory that petitioner had sustained a nonbusiness bad debt of $1,791 in 1973, rather than a business bad debt. By amendment to his answer, he has sought to disallow the capital loss, and seeks an increased deficiency on the ground that the worthlessness of the debt did not occur in 1973. Since we are convinced that there was no debtor-creditor relationship established between petitioner and the corporation -- and we note56 that petitioner is no longer contending for a bad debt deduction -- no deduction for a short-term capital loss stemming from a nonbusiness bad debt under section 166e8d) is allowable. Respondent's claim for an increased deficiency is accordingly approved. In accordance with the foregoing, Decision will be entered under Rule 155. Footnotes1. Pursuant to General Order No. 5 dated October 1, 1976, the post-trial procedures set forth in Rule 182, Tax Court Rules of Practice and Procedure↩, are not applicable to this case.*. The six cents were disregarded in the statutory notice.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623660/	KEELER BRASS CO., AND KEELER REALTY CO., PETITIONERS, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Keeler Brass Co. v. CommissionerDocket No. 6218.United States Board of Tax Appeals9 B.T.A. 293; 1927 BTA LEXIS 2612; November 25, 1927, Promulgated 2612 Companies held affiliated in 1919. Frank E. Seidman, C.P.A., Julius H. Amberg, Esq., and Jacob S. Seidman, Esq., for the petitioners. Alva C. Baird, Esq., for the respondent. MARQUETTE 293 This is a proceeding for the redetermination of deficiencies for 1919 in the amounts of $23,993.60 and $1,191.22 asserted against the Keeler Brass Co. and the Keeler Realty Co., respectively. The deficiencies result from the refusal of the respondent to treat the Keeler Realty Co. as a member of an affiliated group, consisting of that company, the Keeler Brass Co. and the Weber-Knapp Co. The Keeler Brass Co. and the Keeler Realty Co. joined in the petition; the Weber-Knapp Co. is not a party to the proceeding. Petitioner also raises the question of the statute of limitations, as well as contending that if affiliation is granted, the tax liability of the affiliated corporations must be computed by apportioning the tax between such corporations in proportion to net income. FINDINGS OF FACT. The Keeler Brass Co. was incorporated under the laws of Michigan in 1911 with Miner S. Keeler as president, I. H. Keeler, his brother, as vice president2613 and treasurer, and C. N. Webb as secretary. The stock of 2,500 shares of $100 par value common was owned 75 per cent by Miner S. Keeler and 25 per cent by I. H. Keeler. At about the time of incorporation a few shares were sold to employees, such stock being issued three-fourths from the holdings of Miner S. Keeler and one-fourth from the holdings of I. H. Keeler. At the time each employee with one exception, noted below, acquired stock, a contract was executed between Miner S. Keeler and I. H. Keeler on the one side, and the employees on the other. One of such contracts is as follows: 294 THIS AGREEMENT made this 10 day of Jan. A.D. 1912, by and between Miner S. Keeler and Isaac H. Keeler, first parties, and C. N. Webb second party, WITNESSETH: First parties, for and in consideration of the sum of One Dollar, and other valuable considerations, including those expressly hereinafter stated, hereby sells, assign and set over unto second party 10 shares of stock in Keeler Brass Company, represented by Certificate No. 18. Second party agreeing that the said sale and transfer is made partly in consideration of and on account of his position with the said Keeler Brass Company, 2614 agrees that as further consideration of said sale and transfer, he will not sell the said stock, or the Certificate representing the same, to any person whatsoever excepting first parties, unless under the conditions hereinafter mentioned; and that in case his employment with the said Keeler Brass Company shall be at any time terminated for any reason whatsoever, he will re-sell said stock and all of the same, and the Certificate representing the same, to the said first parties or either of them, for its book value as shown by the Company's last inventory, plus 6% annual interest from the date of such Inventory, to the date of sale. To effectuate this agreement, second party agrees that in case of termination of his employment, or a desire to sell the said stock or any of it, during employment, he will notify the said first parties in writing, offering to sell them or either of them the said stock at the price above mentioned, and hereby agrees to accept cash for the same at any time within five days from the service of such notice upon said first parties; and further agrees to assign the said stock absolutely to them, either jointly or severally, upon the tender of payment as aforesaid. 2615 Should first parties not purchase said stock when offered as aforesaid, and within the time aforesaid, second party shall have the right to sell said stock, free and clear of any limitation by this agreement imposed. It is further agreed that first parties shall have a lien upon said stock for the performance of this agreement. IN WITNESS WHEREOF, the parties hereunto have set their hands this day and year first above written. MINER S. KEELER. ISAAC H. KEELER. C. N. WEBB. Other employees, except Carl C. Kusterer, purchasing stock, executed similar agreements. Carl C. Kusterer, prior to 1912, had a small manufacturing business and the Keeler Brass Co. bought him out. At that time he acquired $4,000 par value of stock free of any agreement to resell. During his employment, however, he purchased 10 additional shares as to which he signed a contract identical in its terms to the contract recited above. When he left the employment of the Brass Company in 1913, he resold the 10 shares so acquired. He did not attend any corporate meetings of the Brass Company in the year 1919 or vote his stock in any way. The stockholdings in the Keeler Brass Co. and Keeler2616 Realty Company as of January 1, 1919, and December 31, 1919, were as follows: Keeler Brass Co.Keeler Realty Co.Common stock holdingsPer cent to totalCommon stock holdingsPreferred stock holdingsTotalPer cent to totalAs at Jan. 1, 1919M. S. KEELER FAMILY1. M. S. Keeler69727.887497501,49974.952. Gertie S. Keeler, wife of 175030.003. I. S. Keeler, son of 1 and 21255.004. G. E. Keeler, son of 1 and 2401.605. W. L. Clarke, nephew of 11004.006. E. S. Clarke, nephew of 1903.60Group total1,80272.087497501,49974.95I. H. KEELER FAMILY7. I. H. Keeler, brother of 140316.1220020040020.008. Susan A. Keeler, wife of 71004.0050501005.009. B. K. Gale, daughter of 7351.40Group total53821.5225025050025.00EMPLOYEES10. C. N. Webb502.0011.0511. G. W. Shields702.8012. C. C. Kusterer401.60Group total1606.4011.05Grand total2,500100.001,0001,0002,000100.00As at Dec. 31, 1919M. S. KEELER FAMILY1. M. S. Keeler81732.687495001,24941.642. Gertie S. Keeler57022.8077377325.773. I. S. Keeler1556.201001003.334. G. E. Keeler702.801001003.335. W. L. Clarke1004.0011.036. E. S. Clarke903.6011.03Group total1,80272.087491,4752,22474.13I. H. KEELER FAMILY7. I. H. Keeler40316.1220034954918.308. Susan A. Keeler1004.00501752257.509. B. K. Gale351.4011.03Group total53821.5225052577525.83EMPLOYEES10. C. N. Webb502.0011.0311. G. H. Shields702.8012. C. C. Kusterer401.60Group total1606.4011.03Grand total2,500100.001,0002,0003,00099.992617 295 C. N. Webb was an employee of the Keeler Brass Co. and had been secretary of the company from its beginning. He had been connected with the business prior to incorporation since 1895. All of his stock in 1919 was held subject to resale to M. S. Keeler and I. H. Keeler. W. L. Clarke and E.S. were nephews of M. S. Keeler's wife and lived at the home of M. S. Keeler. Their stock was held subject to resale to M. S. Keeler and I. H. Keeler. E. S. Clarke had been an 296 employee of the Keeler Brass Co. and its predecessor business for 27 years. G. W. Shields had been an employee for several years and held his stock subject to a similar contract for resale. The Keeler Realty Co. was organized in 1911 as a Michigan corporation, with 1,000 shares of $100 par common and 1,000 shares of $100 par preferred, both voting, to build a 7-story building in Grand Rapids for the exhibiting of furniture by manufacturers of that city and other furniture centers. The stock, except one qualifying share, was owned three-fourths by Miner S. Keeler and one-fourth by I. H. Keeler. Grand Rapids is known as a great furniture market and manufacturers from all furniture centers2618 exhibit their merchandise there during the semiannual sales and sometimes throughout the year. The Keeler Brass Co. manufactured metal furniture trimmings which were sold to furniture manufacturers throughout the country. The organizers of the Keeler Realty Co. built the furniture building because it was felt that their acquaintance with furniture manufacturers would enable that company to get good tenants and at the same time increase the prestige of the Keeler Brass Co. with the trade. In renting space in the building, preference was given to the Keeler Brass Co.'s best customers in order to bring that company into closer touch with such customers. The road salesmen of the Brass Company assisted, without pay to the Brass Company or expense to the Realty company, in renting the space of the Realty Company. The companies were considered so identical that no such compensation was ever considered, each company did for the other whatever would benefit it. During the year 1919, the officers of the Brass Company were M. S. Keeler, president, I. H. Keeler, vice president and treasurer, C. N. Webb, secretary, and Isaac S. Keeler, son of M. S. Keeler, second vice president. During2619 the same year the officers of the Realty Company were M. S. Keeler, president, I. H. Keeler, vice president and treasurer, C. N. Webb, secretary. The directors of the company were the officers and G. W. Shields, E. S. Clarke and W. L. Clarke. During the year 1919, George E. Keeler, son of M. S. Keeler, became a director of the Brass Company. Gertie S. Keeler is the wife of M. S. Keeler and received a total of 750 shares of stock in the Brass Company as gifts from time to time prior to 1919 from her husband. She is not a business woman and has never been active in any way in the affairs of the Brass Company and always acted under the advice and control of her husband as to her stock holdings. She never attended meetings and her husband, M. S. Keeler, always voted her stock by proxy. 297 Of the 125 shares of stock in the Brass Company, Isaac S. Keeler, son of M. S. Keeler, acquired 20 shares of stock by purchase from his father and received the rest by gift from his father and his mother. On the receipt of the gift from his father, he recognized a moral obligation, concurred in by his wife, to offer the stock to his father on resale, in case of trouble or death. 2620 This son acted under the advice, control and authority of his father insofar as his stock was concerned. George E. Keeler, a son of M. S. Keeler, was employed by the Brass Company in January, 1919, on his return from the Army. He was 22 years old and lived at home with his father. The 40 shares of stock of the Brass Company standing in his name were given to him by his father when the son received his commission in the Army. Susan A. Keeler was the wife of I. H. Keeler and acquired 100 shares of stock in the Brass Company and 50 shares of common and 50 shares of preferred in the Realty Company by gift from her husband. She never attended any meetings of either company but gave her proxy to her husband. Bernice K. Gale was the daughter of I. H. Keeler, never attended any corporate meetings of the Brass Company, but gave her proxy to her father. M. S. Keeler and I. H. Keeler, by written agreement, contracted that M. S. Keeler would not sell any of his stock without selling a proportionate part of that of I. H. Keeler. This was done because I. H. Keeler did not want to remain in the brass business if his brother were not in it. This agreement was in effect in 1919, and2621 was carried out in the case of sales to employees. No other sales were made except to M. S. Keeler's sons and such sales were made with permission of I. H. Keeler. When G. S. Keeler received her stock by gift from her husband, she executed the following instrument: In consideration of making over to me Seven Hundred and Fifty (750) shares of the stock of the Keeler Brass Company I agree that the same is not to be transferable only as the same is done subject to an agreement covering this stock given by Miner S. Keeler to Isaac H. Keeler. Also that in case of the death of Miner S. Keeler I will hold this stock subject to the actions of his trustees in a way that the balance of the stock of the Keeler Brass Company is held under his will, with the understanding to make their holdings a control of the majority stock of said corporations. (Signed) GERTRUDE S. KEELER. GRAND RAPIDS, MICHIGAN, May 29, 1917.During the year 1919 the Realty Company increased its preferred stock by issuing an additional 1,000 shares. There were various adjustments made in stock ownership in that year by exchanges of stock in the Brass Company for stock in the Realty Company Gertrude 298 2622 S. Keeler exchanged some of her common stock in the Brass Company for preferred stock in the Realty Company. M. S. Keeler controlled the policies and was the active manager of both companies. His control was never questioned. He chose the officers and directors of both companies, decided when dividends should be paid and in all respects transacted the business of both companies as if he were the sole owner. The books of the Realty Company were kept in the office of the Brass Company, rent statements of the Realty Company were sent out from the Brass Company office, employees of the Brass Company performed services without compensation to the Brass Company in maintenance of the Realty Company building. Services were performed for the Brass Company without expense to that company by I. H. Keeler, who drew a salary from the Realty Company but none from the Brass Company. Similarly M. S. Keeler, who drew no salary from the Realty Company, devoted considerable time to the affairs of that company for which no charge was made to that company. Supplies for the building of the Realty Company were purchased and paid for by the Brass Company and no charge was made for the services. Whenever2623 either company had idle money, the other company used it, paying no interest, but replacing the capital only when it was needed. Relations between the families of M. S. Keeler and I. H. Keeler were very cordial. The families lived near each other and all of the members of both families looked to M. S. Keeler for the management of both companies and acted entirely in accordance with his desires. C. N. Webb and G. W. Shields also relied entirely on M. S. Keeler, the former having been associated with him in business for many years, the latter being a close personal friend. Substantially all the stock of the Keeler Brass Co. and of the Keeler Realty Co. was owned or controlled by the same interests throughout the year 1919. A consolidated income and profits-tax return for both companies for 1919 was filed March 15, 1920. Petitioner's and the Commissioner entered into four consents purporting to extend the statute of limitations for 1919, as follows: NOVEMBER 15, 1924. INCOME AND PROFITS TAX WAIVER In pursuance of the provisions of subdivision (d) of Section 250 of the Revenue Act of 1921 Keeler Realty Company, of Grand Rapids, Michigan and the Commissioner of Internal2624 Revenue, hereby consent to a determination, assessment, and collection of the amount of income, excess-profits, or war-profits taxes due under any return made by or on behalf of the said for the year 1919 under the Revenue Act of 1921, under prior income, excess profits, or war-profits tax Acts, or under Section 38 of the Act entitled 299 "An Act to provide revenue, equalize duties, and encourage the industries of the United States, and for other purposes," approved August 5, 1909. This waiver is in effect from the date it is signed by the taxpayer and will remain in effect for a period of one year after the expiration of the statutory period of limitation, or the statutory period of limitation as extended by any waivers already on file with the Bureau, within which assessments of taxes may be made for the year or years mentioned. KEELER REALTY COMPANY, Taxpayer.D. S. KEELER, Vice-President.D. H. BLAIR, Commissioner.INCOME AND PROFITS TAX WAIVER In pursuance of the provisions of existing Internal Revenue Laws, Keeler Realty Company, a taxpayer, of Grand Rapids, Michigan, and the Commissioner of Internal Revenue, hereby consent to extend the2625 period prescribed by law for a determination, assessment, and collection of the amount of the income, excess-profits, or war-profits taxes due under any return made by or on behalf of said taxpayer for the year 1919 under the Revenue Act of 1924, or under prior income, excess-profits, or war-profits tax Acts, or under Section 38 of the Act entitled "An Act to provide revenue, equalize duties, and encourage the industries of the United States, and for other purposes," approved August 5, 1909. This waiver is in effect from the date it is signed by the taxpayer and will remain in effect for a period of one year after the expiration of the statutory period of limitation within which assessments of taxes may be made for the year or years mentioned, or the statutory period of limitation as extended by Section 277(b) of the Revenue Act of 1924, or by any waivers already on file with the Bureau. KEELER REALTY COMPANY, Taxpayer.By D. S. KEELER, Vice-President.D. H. BLAIR, Commissioner.NOVEMBER 15, 1924. INCOME AND PROFITS TAX WAIVER In pursuance of the provisions of subdivision (d) of Section 250 of the Revenue Act of 1921, Keeler Brass Company, of Grand2626 Rapids, Michigan, and the Commissioner of Internal Revenue, hereby consent to a determination, assessment, and collection of the amount of income, excess-profits, or war-profits taxes due under any return made by or on behalf of the said for the years 1919 under the Revenue Act of 1921, or under prior income, excess-profits, or war-profits tax Acts, or under Section 38 of the Act entitled "An Act to provide revenue, equalize duties, and encourage the industries of the United States, and for other purposes," approved August 5, 1909. This waiver is in effect from the date it is signed by the taxpayer and will remain in effect for a 300 period of one year after the expiration of the statutory period of limitation, or the statutory period of limitation as extended by any waivers already on file with the Bureau, within which assessments of taxes may be made for the year or years mentioned. KEELER BRASS COMPANY, Taxpayer.By D. S. KEELER, Vice-President.D. H. BLAIR, Commissioner.INCOME AND PROFITS TAX WAIVER For Taxable Years Ended Prior to January 1, 1922 NOVEMBER 24, 1925. In pursuance of the provisions of existing Internal Revenue Laws Keeler Brass2627 Co. & Keeler Realty Company, a taxpayer of Grand Rapids, Michigan, and the Commissioner of Internal Revenue hereby waive the time prescribed by law for making 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 (or years) 1919 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. KEELER BRASS COMPANY, Taxpayer.By D. S. KEELER, Vice-President.D. H. BLAIR, Commissioner.OPINION. SIEFKIN: The evidence shows that the two companies were operated as a business unit with numerous intercompany dealings and2628 a real ownership and control of all the stock of both companies by one individual. The companies were affiliated in 1919. We can not now pass on the contention of petitioner that, should we find that the grounds for affiliation exist, the tax should be allocated to the three companies making up the affiliated group in the proportion that the net income of each bears to the consolidated net income. That question is not now before us. One member of the affiliated group, as determined by respondent, is not a party to this proceeding. Further, we can not anticipate that the respondent, in computing the tax as the result of this decision, will not follow the 301 requirements of the statute. Again, it may be that there has been a consent to a different allocation. There is no allegation of fact or proof of fact to the contrary. In view of our decision upon the merits, we deem it unnecessary to determine the question as to whether the assessment or collection is barred. 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/4623661/	Eric H. Heckett, Petitioner, v. Commissioner of Internal Revenue, RespondentHeckett v. CommissionerDocket No. 5160United States Tax Court8 T.C. 841; 1947 U.S. Tax Ct. LEXIS 228; April 18, 1947, Promulgated 228 Decision will be entered under Rule 50. 1. War Loss. -- On the facts, held, that petitioner sustained a war loss in 1941 under subsections (2) and (3) of section 127 (a), I. R. C., with respect to shares of stock of a Netherlands corporation. The amount of the loss sustained is determined.2. Pleadings. -- Contention not covered by respondent's answer not considered.3. War Loss. -- Petitioner claimed losses under subsection (2) of section 127 (a) for destruction or seizure of three groups of personal property left in the Netherlands in 1939. Held, petitioner failed to sustain burden of proving that certain items of property were in existence on December 11, 1941; held, further, petitioner failed to sustain the burden of proving the costs of the items. Sidney B. Gambill, Esq., for the petitioner.Homer F. Benson, Esq., for the respondent. Harron, Judge. HARRON 841 Respondent determined a deficiency in income tax for the year 1941 in the amount of $ 9,993.75. Petitioner contends that he is entitled to deductions for war losses under subsection (2) and (3) of section 127 of the Internal Revenue Code. 230 He contends that tax for 1941 has been overpaid.Petitioner's original and amended income tax returns for the year 1941 were filed with the collector for the twenty-third district of Pennsylvania.FINDING OF FACT.Petitioner resides near Valencia, Pennsylvania. He keeps his books and files his income tax returns on the cash basis and for the calendar year.Petitioner last came to the United States from the Netherlands in February 1939. Before his last trip to the United States he had made numerous trips to the United States for vacations. He was a citizen of the Netherlands, where he had resided for about twenty years prior to 1939. Petitioner's wife and son came to the United States to join him late in 1939. Since then, petitioner and his family have resided in the United States. Petitioner became a naturalized citizen of the United States in June 1945, by a special act of Congress.Petitioner's principal business in the United States is the recovery of steel from slag by a patented process.1. In 1941 petitioner owned 17 shares of stock of a Dutch corporation, known as U. V. Rotterdamsche Goederenhaudel, hereinafter referred to as the Dutch company, or as the company. These231 shares represented the entire outstanding capital stock in 1941. Petitioner 842 acquired the stock in 1919 at a cost of $ 31,715.20, American dollars. He owned the stock continuously from the time of acquisition. He brought the certificates for the stock with him to the United States, and they remained in his possession.The office of the Dutch company was in Amsterdam, and its business was a general merchandising business. It represented foreign manufacturers and sold their goods in the Dutch market. The merchandise dealt in consisted of steel and finished aluminum and steel goods for household use. Its assets consisted of cash, inventories of merchandise, securities, and accounts receivable from customers, other Dutch companies.Jan Aandewiel was the manager of the commercial operations of the company in 1937 and thereafter. He was the manager of those operations in 1939, 1940, and 1941. In April 1946 he was still manager of the company, managing what was left of it.The German military forces invaded the Netherlands on May 10, 1940; the Netherlands ceased resistance on May 14, 1940; and thereafter the country was occupied by the enemy. The assets of the Dutch company232 were not seized or destroyed by the enemy in its invasion of the Netherlands. After September 1942 part of the assets were seized by the Germans. In the winter of 1945 the whole office inventory was taken away by the Germans, including the books and records.The assets of the Dutch company were not seized or taken by the German authorities or by any other governmental authority prior to December 11, 1941, and such assets were in existence on that date.Petitioner brought some American securities which the Dutch company owned to the United States in 1939. He sold them in the latter part of 1939, realizing proceeds in the amount of $ 18,551.75. He did not pay the proceeds to the Dutch company, but retained them.At the end of 1939, the Dutch company owed petitioner salary in the amount of $ 6,706.79, American dollars.Petitioner has not recovered any part of his original capital investment in the 17 shares of stock of the Dutch company except by way of the proceeds he realized in 1939 upon the sale of the American securities.2. Prior to coming to the United States in 1939, petitioner maintained a family residence in Hilversum, which is 20 meters from Amsterdam. The house contained233 about 20 rooms. Petitioner's wife, in 1939, had the household furnishings packed and removed from the house. Two-thirds of the possessions were shipped to the United States, and one-third was left in the Netherlands. Of the one-third which was left in the Netherlands, part was placed in a storage warehouse near Hilversum; part was left with petitioner's mother, including 843 a collection of miniatures; and part was left in the office of the Dutch company. Petitioner has in his possession the warehouse receipt for the goods which were stored.Most of the goods which were left in the Netherlands were purchased by petitioner after 1920, but some of the items had been received through inheritance. The goods which were stored included wooden paneling for a library, large corner cabinets and cupboards, lamps, oil paintings, 23 family portraits and pictures, silk draperies, wooden sculptures, dishes, linens, kitchen utensils, pillows and comforters. Some of the articles placed in storage were seventeenth or eighteenth century pieces.Silverware was left in the office of the Dutch company in Amsterdam. It was insured for 4,000 guilders, about $ 2,000.Petitioner's mother was 234 83 years old. At some time after the invasion of the Netherlands she was carried away by the Germans.OPINION.Petitioner claims deduction in the sum of $ 19,870.24, for a war loss sustained on 17 shares of stock of the Dutch company, under section 127(a)(3) of the Internal Revenue Code, added by section 156 of the Revenue Act of 1942; and deduction for other war losses under section 127(a)(2) in the total amount of $ 14,870, which represents the alleged values on December 11, 1941, of the personal property which was left in the Netherlands in 1939. The war loss from destruction of personal property was claimed by petitioner for the first time in an amendment to the petition.Petitioner has abandoned claim for another war loss, or for a long term capital loss, in the amount of $ 10,660, which was taken in his original income tax return for the year 1941. 1 Effect will be given under Rule 50 to the abandonment of this item.235 1. The 17 shares of stock in the Dutch company. -- Petitioner contends that the stock was worthless on December 11, 1941, and that, therefore, he is entitled to a war loss deduction under subsection (3) of section 127(a). He has offered evidence about the property of the Dutch company, in which he had an interest through his ownership of the stock. In Ernest Adler, 8 T. C. 726, a rule was set forth about the burden of proof upon a taxpayer claiming a war loss under section 127. It was said that a taxpayer must establish ownership of the 844 property involved as of the time of the presumed loss to become entitled to a deduction under section 127(a)(2) and (3), because it is fundamental to all loss claims that the taxpayer must have something to lose in order to sustain a loss.In this case petitioner has met the required proof through the testimony, given under deposition, of Jan Aandewiel of Amsterdam. The deposition was taken in Amsterdam before an American consul on April 15, 1946. Aandewiel testified that all of the assets of the Dutch company were not destroyed or seized by the enemy in its invasion of the Netherlands, i. e., prior236 to December 11, 1941, and that the Dutch company was in possession of all of its assets on December 11, 1941, the date on which the United States declared war on Germany.All of the property of the Dutch company is deemed to have been destroyed or seized on December 11, 1941, under subsection (2) of section 127(a). It follows that the 17 shares of stock of the company became worthless on December 11, 1941.It is held that petitioner is entitled to deduction for a loss under subsection (3) of section 127(a). See Regulations 111, pp. 566 and 574; section 29.127(a)-1 and 29.127(a)-4. 2Petitioner now concedes that he recovered part of his invested capital in 1939 to the extent of $ 11,844.96, and he claims loss in the amount of $ 19,870.24. On brief, for the first time, respondent237 raises a question about the amount of the adjusted cost of the stock, contending that $ 6,706.79 of the proceeds received in 1939 should not be treated as payment of salary. Petitioner objects to our considering the contention, claiming prejudicial surprise.We think the objection is well founded. The contention of the respondent raises a question about the liability, if any, of petitioner for income tax for the year 1939 on account of receipt in 1939 of payment of $ 6,706.79 salary for services which he rendered while he was in the Netherlands to the Dutch company. The pleadings do not cover such question; the taxable year 1939 is not before us in this proceeding; and the respondent has made the contention for the first time, after the trial, on brief. If the respondent had desired to inject this question into this proceeding, he should have done so at the trial, at the latest, as required by the rules of the Court. He did not do so. If he had done so, petitioner would have had notice which would have caused him to introduce evidence which is not in the present record. Respondent did not move to amend his answer. Since the question is not properly before us, it is not considered. 238 (The point raised by respondent does not involve subsection (c) of section 127.) See Wentworth 845 ., 6 T. C. 1201, 1208, and cases cited therein, and Maurice P. O'Meara, 8 T. C. 622. From the record before us it is concluded that $ 6,706.79 of the proceeds of $ 18,551.75 realized upon the sale of securities in 1939 represented earnings of petitioner from past services rendered in the Netherlands; and that $ 11,844.96 represented return of part of the investment of petitioner in the stock.It is held that the adjusted cost of the 17 shares of stock of the Dutch company is $ 19,870.24, and that petitioner is entitled to deduction of that amount as the loss which he sustained in 1941.2. Loss of personal property. -- A deduction in the amount of $ 14,870 is claimed under subsection (2) of section 127 (a). The statutory provision refers to property within an area under the control of an enemy country on the date war with such country was declared by the United States. The Commissioner has construed the statutory provision to mean that the property must be in existence on the date prescribed therein239 in order that it may be deemed to have been destroyed or seized on that date. See Regulations 111, page 566, section 29.127(a)-1, where it is also stated that "If, before such time, the property was destroyed or confiscated, section 127 is not applicable with respect to such property." That interpretation of the statute finds support in the report of the Finance Committee of the Senate 3 where it is said, "However, no loss can be taken under this provision which occurred prior to December 7, 1941," the reference being to all of the provisions of section 127. See Senate Rept. No. 1631, 77th Cong., 2d sess., pp. 40 and 130. Accordingly, the first question is whether the property was in existence on December 11, 1941.In Ernest Adler, supra, we decided a question of whether for the purposes of a loss deduction under section 127 (a) (2) and (3) a taxpayer must prove ownership of the property involved240 as of the date of the presumed seizure or destruction. In this case, the question is closely akin, for to own property, the property must exist. 4 The personal property was left in the Netherlands in 1939. During 1940 and 1941 the Netherlands was an area under the control of Germany. Some of the property was left with the petitioner's aged mother, who was carried away by the Germans at an unknown time. In the Adler case we said that:The presumed loss and the presumed time of its occurence under subsection (2) constitutes in a sense an anticipatory or accelerated loss and does not operate to postpone losses previously sustained.241 846 The property left in the Netherlands was separated into three parts: miniatures, which were left with petitioner's mother, of an alleged value of $ 3,000; silverware and other articles, which were left in the safe and in the office of the Dutch company in Amsterdam, of an alleged value of $ 2,000; and household furnishings, which were stored in a warehouse near Hilversum, of an alleged value of $ 9,870.The deposition of Jan Aandewiel establishes the fact that the goods which were stored in the office in Amsterdam were in existence on December 11, 1941.The testimony of petitioner is that he does not know when his mother was seized or what became of her. From this it is to be implied that he does not know what became of property which he left with her. Since the invasion of the Netherlands took place on May 10, 1940, and that country capitulated on May 14, 1940, there was a substantial period of time before December 1941, within which property in the possession of the mother may have been seized or destroyed. Therefore, we may not assume that the property left with the mother was in existence and was within the area of the Netherlands on December 11, 1941. The claim 242 for a war loss deduction in connection with this part of the property must be denied.The claim for loss of the household furnishings which were stored must also be denied, but for additional reasons discussed later. It is sufficient to say at this point that it seems that petitioner could have established through the deposition of Aandewiel whether the warehouse where the goods were stored was in existence in December 1941. It is a matter of public record that the Germans bombed Rotterdam and Amsterdam heavily when they crossed into the Netherlands on May 10, 1940, and before General Henri Winkelman surrendered on May 14, 1940. See the Encyclopedia Britannica (1942 ed.) vol. 11, p. 667. Aandewiel was the right hand man of petitioner, and it appears that he remained in Amsterdam in 1941. Hilversum is close by. Petitioner has offered no evidence from which we could make a reasonable inference that the household furnishings were in existence on December 11, 1941.There is a second question under this issue, which relates to proof of the amount of the loss claimed. The Commissioner's regulation treats war losses under section 127 as losses by reason of casualty, the casualty being243 the presumed destruction or seizure of the property. The regulation sets forth how the amount of a war loss shall be determined. See section 29.127 (b)-1 of Regulations 111, page 579, where it is said, in part:The loss is determined in the same manner as in the case of any other loss by casualty (see sections 29.23 (e)-1 and 29.23 (f)-1) except that the possibility of recovering such property described in section 127 (a) or (e) or of recovering 847 any compensation (other than insurance or similar indemnity) on account of such property or interest in the taxable year or in any future taxable year (such as the return of the property, or an award by a government, upon the termination of the war) is disregarded both in determining whether the loss is evidenced by a closed and completed transaction and in determining the amount of the loss. Insurance or any other certain indemnity by a government is not disregarded.Under the above quoted part of the regulations, petitioner in this case must show the basis of the property involved, i.e., the cost, adjusted if adjustment is required. 5 In the group of household furnishings which were stored there were at least 65 items, among244 which was a large trunk filled with linens and 23 family portraits. The schedule in evidence states that the items left in the office of the company were insured for 4,000 guilders. Whether or not some of these personal, nonbusiness items were depreciable property is not shown, but such items as pillows and comforters may have been.The rule applicable to casualty losses under section 23 (e) (3) is that the deduction for the loss may not exceed costs, and, in the case of depreciable nonbusiness property, may not exceed the value immediately245 before the casualty. Helvering v. Owens, 305 U.S. 468">305 U.S. 468. If the taxpayer does not show that his insurance is inadequate, he fails to prove his case. Ferguson v. Commissioner, 59 Fed. (2d) 893. The same rules apply to losses under section 127, under the quoted part of section 29.127 (b)-1, supra. Insurance is not disregarded.Petitioner has failed to show the cost of any of the items involved in the claim for a loss in the total amount of $ 14,870. He purchased most of the items after 1923. Some items were purchased in Italy at various times. The loss claimed is measured in American dollars. Petitioner has not shown costs measured in American dollars. 6 In some instances, petitioner could not state how he arrived at the amount set opposite each item in his petition, as the amount of the claimed loss. Petitioner introduced no evidence about the adequacy of insurance on insured articles.*246 Since petitioner's total war loss deduction may not exceed the aggregate of all the costs, and since he has failed to prove costs, his claim under this issue fails. Petitioner is not entitled to a war loss deduction in the amount of $ 14,870, or in any lesser amount.Decision will be entered under Rule 50. Footnotes1. Petitioner deducted in his original return, as a long term capital loss, one-half of the cost of stock in two Dutch companies, in the amount of $ 33,312.50. The respondent denied the deduction. The claim for loss which is abandoned for the year 1941 relates to 40 shares of stock of a corporation known as Electromagnetische -- Extracite My. N. V. Petitioner made claim for deduction under section 127 (a)↩ of the code with respect to 17 shares of stock of another Dutch company for the first time in an amended income tax return and in his petition.2. Regulations 111 set forth in section 29.127, the regulations under section 127 (as added by sec. 156 (a) of the 1942 Revenue Act), which were issued originally by T. D. 5258↩, April 13, 1943, in C. B. 1943, p. 415.3. The statutory provision which became section 127↩ of the code originated in the Senate.4. In Robert E. Ford, 6 T.C. 499">6 T. C. 499, the facts relating to a claimed war loss on bonds of Lombard Electric Co., an Italian corporation, were stipulated. It was concluded that the facts as stipulated brought the claim within both the statutory provisions of section 127 (a) (2)↩ and the Treasury regulations promulgated pursuant thereto (p. 503 of the report). One question in this case is whether the facts bring the claim within the statutory provision and the regulations.5. See section 23 (e) (3) of the code, losses by individuals (losses sustained not compensated by insurance or otherwise); and section 29.23 (e) of Regulations 111, p. 105.See, also, section 23 (i) of the code, basis for determining loss; and section 29.23 (i)-1 of Regulations 111, p. 114; and section 29.113 (b) (1)-1 of Regulations 111, pp. 409 and 411.See, also, Mertens, Law of Federal Income Taxation, vol. 5, pp. 208, 209, paragraphs 28.50, 28.51, and 28.53, and footnotes.↩6. For example, petitioner would have to translate his costs in a foreign currency to dollars at the exchange rates for guilders, lira, etc., at the respective times of each purchase. Petitioner did not do this.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623662/	ROBERT B. COHEN AND MARILYN W. COHEN, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, RespondentCohen v. Comm'rDocket No. 3051-81. United States Tax CourtT.C. Memo 1983-254; 1983 Tax Ct. Memo LEXIS 529; 46 T.C.M. (CCH) 88; T.C.M. (RIA) 83254; May 9, 1983. 529 Decision will be entered for the respondent. 530 Robert B. Cohen, pro se. Kenneth J. Rubin, for the respondent. DRENNENMEMORANDUM FINDINGS OF FACT AND OPINION DRENNEN, Judge: This case was assigned to and heard by Special Trial Judge John J. Pajak pursuant to the provisions of General Order No. 6, 69 T.C. XV (1978). The Court agrees with and adopts the Special Trial Judge's Opinion which is set forth below. OPINION OF THE SPECIAL TRIAL JUDGE PAJAK, Special Trial Judge: Respondent determined a deficiency in petitioners' 1974 Federal income tax in the amount of $2,145.00 and an addition to tax under section 6653(b) 1 against petitioner-husband in the amount of $1,073. The issues for decision are: (1) whether petitioner-husband received income of $4,250.00 in the form of a "kickback;" (2) whether petitioner-husband is liable for an addition to tax under section 6653(b); and (3) whether the assessment of the tax is barred by the statute of limitations. 531 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. Petitioners, husband and wife, resided in Philadelphia, Pennsylvania, at the time their petition in this case was filed. They filed a joint Federal income tax return for the taxable year 1974. During the taxable year 1974, petitioner Robert B. Cohen (petitioner) was a practicing attorney, admitted to practice in the State of Pennsylvania. Petitioner had obtained his law degree from the University of Pennsylvania School of Law in 1962. Prior to attending law school, he had been graduated from Northwestern University in 1959 with a major in accounting. In July 1972, petitioner became the Solicitor of the Bensalem Township School Board (School Board), Bucks County, Pennsylvania, a position he retained beyond the taxable year 1974. In his capacity as Solicitor, petitioner engaged in dealings with architects on behalf of the School Board. In 1971, the School Board began considering plans for the design and construction of an elementary school in Bensalem Township. The architect's contract for the school was awarded532 by the School Board to Joseph B. Baldino (Baldino) and Anthony Macaluso (Macaluso). These two individuals had formed a partnership during 1971 for the purpose of doing architectural work. Baldino and Macaluso agreed to make payoffs or kickbacks to School Board members in order to be awarded the architectural contract. The amount of the kickback was to be approximately ten percent of the architectural contract fee. Baldino made the payments to Reynold Yannessa (Yannessa), a member of the School Board. Sometime between July 1973 and September 1973, Baldino and Macaluso were awarded a second architect's contract by the School Board. This contract was in connection with the construction of a middle school in Bensalem Township. As with the first contract, they were required to kickback part of the architectural fee in exchange for an award of the middle school contract. Again, the amount of the kickback was to be determined based on a percentage of the architectural fee. During 1973, Baldino made a number of payments to Yannessa with regard to this contract. In the Spring of 1974, relationships between Baldino, Macaluso, and Yannessa became strained. Yannessa had apparently533 begun denying that he had received kickbacks paid to him. As a result, Baldino and Macaluso decided that they no longer wanted to continue their agreement with Yannessa. During that same time period, Baldino came in contact by telephone with petitioner. As a result, meetings were arranged between petitioner, Baldino, and Macaluso. It was decided among the three individuals that all further kickbacks relating to the middle school would be made to petitioner rather than Yannessa. Baldino agreed to make payment to petitioner since he believed the School Board had become somewhat dissatisfied with his firm's work and he wanted to keep the middle school contract. In early August 1974, Baldino telephoned petitioner and arranged to meet with him in petitioner's office. On or about August 8, 1974, Baldino arrived at petitioner's office carrying an envelope containing $4,250.00 in small bills. Baldino and petitioner then entered an elevator in the office building. Once in the elevator, Baldino turned over the envelope containing the kickback money to petitioner. This was the only payment made to petitioner by Baldino. Sometime shortly after the payment to petitioner was made, 534 Baldino was informed by the School Board that the middle school project was suspended and that all work should be discontinued. Baldino and Macaluso were unable to get approval of their architectural plans from the State of Pennsylvania and ultimately their contract was cancelled by the School Board. Subsequently, the School Board hired another architect, Arthur Lee Stabler, to complete the work. Illegal payoffs and kickbacks were made by several architectural firms in exchange for awards of public contracts from the School Board. State and Federal grand juries were convened to investigate these matters. On October 20, 1977, a 20 count indictment was filed in the United States District Court for the Eastern District of Pennsylvania. The 41 page indictment charged petitioner and Yannessa with various offenses in violation of the United States Code, which included engaging in racketeering activity in connection with the School Board from about 1972 to the date of indictment in 1977, systematically obtaining payment of money from architects and others in order to influence the School Board on their behalf, and corruptly covering up such payments from the Federal Grand Jury, 535 the Internal Revenue Service, and the Federal Bureau of Investigation. Petitioner was charged with violations in 13 of the 20 counts. 2 Except for Counts I, II, VI, XII, all the charges summarized below were made solely against petitioner. 3(1) Count I. Racketeering offenses in violation of 18 U.S.C. sections 1961, 1962(c), and 1963. (2) Count II. Racketeering conspiracy offenses in violation of 18 U.S.C. sections 1961, 1962(d), and 1963. (3) Count V. Extortion of $4,250.00 from Baldino in August 1974 in violation of 18 U.S.C. sections 1951 and 2(a). (4) Count VI. Extortion of $15,000.00 from Richard Chorlton (Chorlton) and others acting on his behalf during a period from February 1973 continuing through December 1975 in violation of 18 U.S.C. sections 1951 and 2(a). (5) Count VII. Mail fraud with respect to a letter addressed to Penn State Engineering, Inc. (Engineering) in April 1973 in violation of 18 U.S.C. section 1341. (6) Count VIII. Extortion of $500.00 from Chorlton and others acting on his behalf in July and August536 1975 in violation of 18 U.S.C. section 1951. (7) Count IX. Aiding and assisting mail fraud with respect to a letter addressed to co-defendant Reynold Yannessa from Arthur Stabler (Stabler) in September 1975 in violation of 18 U.S.C. sections 1341 and 2. (8) Count X. Extortion of $4,250.00 from Stabler through Norman Katz in September and October 1975 in violation of 18 U.S.C. section 1951. (9) Count XI. Extortion of $2,000.00 from Chorlton and others acting on his behalf in June 1976 in violation of 18 U.S.C. section 1951. (10) Count XII. Obstruction of justice by removing a check and a letter concerning petitioner from the books and records of Engineering which had been subpoenaed by a Federal Grand Jury in violation of 18 U.S.C. section 1503. (11) Count XIII. Obstruction of the criminal investigation of numerous violations of Titles 18 and 26 of the United States Code by agents of the Federal Bureau of Investigation and Internal Revenue Service in violation of 18 U.S.C. sections 1510 and 2. (12) Count XIX.537 Willfully and knowingly, making and subscribing a matterially false Federal income tax return for 1974, which omitted substantial income, under penalties of perjury, on or about September 14, 1975 in violation of 26 U.S.C. section 7206(1). (13) Count XX. Willfully and knowingly, making and subscribing a materially false Federal income tax return for 1975, which omitted substantial income, under penalties of perjury on or about September 14, 1976 in violation of 26 U.S.C. section 7206(1). On March 23, 1978, after a three-week-long jury trial, petitioner was convicted on all but two of the 13 counts with which he was charged in the indictment. He was acquitted of Counts V and XI, both of which dealt with charges of extortion. 4 He served a prison term as a result of his convictions. 538 Respondent's position is that petitioner had taxable income as a result of the $4,250.00 payment from Baldino. Respondent also determined that petitioner had fraudulently omitted that amount from his 1974 return. Petitioner contends that he never received the payment in question. OPINION During 1974, petitioner was a lawyer admitted to and practicing in the State of Pennsylvania. Petitioner also served as Solicitor for the Bensalem Township School Board. Both before and during the taxable year in question, the School Board was actively involved in planning and constructing several schools in Bensalem Township. This activity included the hiring of architects. Several architectural firms were making illegal payoffs and kickbacks in exchange for awards of contracts by the School Board. A 20 count indictment was filed in the United States District Court for the Eastern District of Pennsylvania. The indictment charged petitioner and his co-defendant, Yannessa, with violations of Titles 18 and 26 of the United States Code. Petitioner was acquitted of extorting $4,250.00 from the architectural firm of Baldino and Macaluso as charged in Count V of the indictment.5 The539 first issue for decision is whether petitioner received the $4,250.00 in question. Notwithstanding his assertions to the contrary, petitioner bears the burden of proof on this issue. Welch v. Helvering,290 U.S. 111">290 U.S. 111 (1933); Rule 142(a). 6540 Petitioner contends that his acquittal on Count V precludes a finding that he received the $4,250.00 payment from Baldino. We do not agree. Petitioner's acquittal at best establishes that the government failed to prove beyond a reasonable doubt that petitioner violated 18 U.S.C. sections 1951 and 2(a). See United States v. Cohen,455 F. Supp. 843">455 F. Supp. 843, 852-853 (E.D. Pa. 1978). The acquittal does not conclusively establish that he did not receive the money. See American Tobacco Co. v. United States,328 U.S. 781">328 U.S. 781, 787, n. 4 (1946); Cain v. Commissioner,460 F.2d 1243">460 F.2d 1243 (5th Cir. 1972), affg. T.C.Memo. 1971-45.6aPetitioner stated in his brief that, aside from all else, this Court is left with the question of whether Baldino or petitioner is telling the truth. On brief, petitioner incredulously asserts that he was "an attorney with an unblemished record prior to his indictment and conviction." The contrary is true. It is his blemished record that led to his indictment and conviction on numerous criminal counts. Petitioner541 also refers in his brief to his "record for honesty and credibility save for his one criminal conviction." He was convicted on numerous counts for his record of dishonesty over the period 1972 through 1977. After observing his demeanor at trial, we did not find petitioner credible. Baldino testified before this Court at length concerning the events leading up to and concluding with the $4,250.00 illegal payment to petitioner. 7 Our evaluation of the testimony of both petitioner and Baldino is founded upon "the ultimate task of a trier of the facts -- the distillation of truth from falsehood which is the daily grist of judicial life." Diaz v. Commissioner,58 T.C. 560">58 T.C. 560, 564 (1972). Baldino candidly admitted to a history of illegal payments to a number of individuals in Pennsylvania. We found him to be a credible witness in this regard and we believe that the payment to petitioner was in fact made. Petitioner has failed to convince us otherwise. Welch v. Helvering,supra; Rule 142(a). 542 Baldino's contemporaneous records of his payoffs on the middle school were placed into evidence. Petitioner claims that these records do not show that the $4,250.00 payoff was made to him because Baldino's notation for that payoff was in red whereas the other notations were made in black. Baldino explained that since the records were originally intended for his own use, he merely used what was at hand to make the notation with reference to petitioner; i.e., a red pencil. Contrary to petitioner's assertions, if Baldino had intended to "set-up" petitioner, he would have been careful to make the notations with a black pencil to duplicate the manner in which the other entries were made. Petitioner also tries to make something out of the fact that his initials did not appear next to the $4,250.00. We observe that many of the other notations did not indicate the initials of the recipient but merely showed "10%," as in the case of the $4,250.00 amount. We have carefully analyzed and reviewed Baldino's contemporaneous records. We conclude that these records support Baldino's testimony and our finding that the $4,250.00 payoff was made to petitioner in 1974. Since we have found543 that petitioner received the $4,250.00, we must also decide whether that amount was incorrectly omitted from his 1974 return and whether such omission was fraudulent. Petitioner makes no claim that he included the $4,250.00 in income for the taxable year. In fact, such a claim would be inconsistent with his denial of ever having received the payment. It is a well established rule that payoffs and kickbacks, whether or not the product of extortion, constitute taxable income to the recipient. Section 61; Rutkin v. United States,343 U.S. 130">343 U.S. 130, 137 (1952); Cain v. Commissioner,supra.Accordingly, we find that petitioner incorrectly omitted the $4,250.00 payment from his 1974 gross income reported on his return. Nowhere in the record has petitioner claimed any exemptions, deductions or credits other than those shown on his return. We therefore find that the omission of the $4,250.00 resulted in an underpayment of tax. We turn now to the question of whether this underpayment was due to fraud within the meaning of section 6653(b). Section 6653(b) provides in pertinent part that: "If any part of any underpayment * * of tax required to be544 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 existence of fraud is a question of fact to be gleaned from the entire record. Marcus v. Commissioner,70 T.C. 562">70 T.C. 562, 577 (1978), affd. without published opinion 621 F.2d 439">621 F.2d 439 (5th Cir. 1980); Stratton v. Commissioner,54 T.C. 255">54 T.C. 255 (1970).The burden of proof is on respondent. Section 7454(a); Rule 142(b). To meet this burden respondent must show by clear and convincing evidence that the taxpayer acted with the specific intent to evade a tax believed to be owning. Stoltzfus v. United States,398 F.2d 1002">398 F.2d 1002, 1004 (3rd Cir. 1968); Wilson v. Commissioner,76 T.C. 623">76 T.C. 623, 633 (1981). Since direct proof of such fraudulent intent is seldom available, respondent may satisfy his burden with circumstantial evidence. Wilson v. Commissioner,supra;Stone v. Commissioner,56 T.C. 213">56 T.C. 213, 223-224 (1971). Petitioner was convicted of willfully and knowingly filing a false and fraudulent return for 1974 in violation of section 7206(1) under Count XIX of the indictment.545 8 Although respondent relies on the doctrine of collateral estoppel, we find it unnecessary to discuss that argument. 9 Our independent review of the entire record compels us to conclude that petitioner's omission of the $4,250.00 was done fraudulently with intent to evade a tax believed to be owing. 546 A number of factors lead us to this conclusion. First, we have considered the manner in which the payment was received from Baldino. Petitioner accompanied Baldino into an elevator in the building where petitioner's law office was located. While in the elevator, Baldino gave petitioner an envelope containing $4,250.00 in small bills. The transaction was conducted under a shroud of secrecy in order to ensure that the payoff would go undetected. Petitioner continued to conceal the payment in a later meeting with an agent of the Internal Revenue Service by denying that he received any payoffs from any architect. 10 Such concealment is evidence of fraud. McGee v. Commissioner,61 T.C. 249">61 T.C. 249 (1973), affd. 519 F.2d 1121">519 F.2d 1121 (5th Cir. 1975).. Next, we have considered petitioner's numerous convictions for violations of Title 18 of the United States Code. Among others, these violations included racketeering, conspiracy, mail fraud, and extortion. While not direct evidence of fraud, they certainly are an indication of petitioner's propensity to operate outside the boundaries547 of the law. Such a propensity is indicative of fraudulent intent. See Rogers v. Commissioner,111 F.2d 987">111 F.2d 987 (6th Cir. 1940), affg. 38 B.T.A. 16">38 B.T.A. 16 (1938); see Whitten v. Commissioner,T.C. Memo 1980-245">T.C. Memo. 1980-245. We have also considered petitioner's background and experience. Petitioner is a well educated individual, having been graduated from law school in 1962. In addition to his legal education, he also held an undergraduate degree in accounting from Northwestern University. This extensive education coupled with his business experience leads us to believe that petitioner was aware of his obligation to report the payoff from Baldino on his 1974 return. See Nachison v. Commissioner,T.C. Memo. 1981-113; Whitten v. Commissioner,supra.We believe that all of the above factors viewed together constitute clear and convincing evidence of petitioner's fradulent intent to evade a tax believed to be owning. Accordingly, we find that respondent has met his burden of proof. The addition to tax under section 6653(b) is therefore sustained. The last issue before us concerns the statute of limitations. Petitioner's548 1974 return was filed with the Internal Revenue Service on September 17, 1975. The notice of deficiency was mailed on November 21, 1980. Under the general rule provided by section 6501(a), the three-year statute of limitations would have expired prior to the issuance of the notice of deficiency in this case. An exception to the three-year statute of limitations is provided by section 6501(c)(1).That subsection provides in pertinent part that: "In the case of a false or fraudulent return with the intent to evade tax, the tax may be assessed * * at any time." Since we have found petitioner liable for the addition to tax under section 6653(b), there is no statute of limitation to bar the assessment. Vannaman v. Commissioner,54 T.C. 1011">54 T.C. 1011 (1970); see Whitten v. Commissioner,supra.For the reasons stated above, Decision will be entered for the respondent.Footnotes1. All section references are to the Internal Revenue Code of 1954 in effect during the taxable year in issue, unless otherwise indicated.↩2. The remaining counts of the indictment referred solely to Reynold Yannessa. ↩3. It is clear that aside from Norman Katz, all the individuals named in Counts V, VIII, IX, X, and XI were architects with whom petitioner dealt.↩4. The District Court's Memorandum and Order denying petitioner's motions for judgment of acquittal, a new trial, and in arrest of judgment is reported at United States v. Cohen,455 F. Supp. 843">455 F. Supp. 843↩ (E.D. Pa. 1978).5. Count V in pertinent part is set forth below: Count VTHE GRAND JURY FURTHER CHARGES THAT: 2. In or about August, 1974, in Philadelphia, in the Eastern District of Pennsylvania, the defendant, ROBERT BAER COHEN, in his capacity as Solicitor for the School Board, did unlawfully obstruct, delay and affect commerce as that term is defined in Title 18, United States Code, Section 1951(b)(3) and the movement of any article and commodity in commerce, by extortion, as that term is defined in Title 18, United States Code, Section 1951(b)(2), in that he knowingly and willfully obtained property, to wit: approximately $4,250, from Joseph B. Baldino and Anthony J. Macaluso, with the consent of the said Joseph B. Baldino and Anthony J. Macaluso, said consent being induced by wrongful use of fear of financial and economic loss and under color of official right. In violation of Title 18, United States Code, Sections 1951 and 2(a)↩. 6. All references to a rule are to the Tax Court Rules of Practice and Procedure.↩6a. See also De Angeles v. Commissioner,T.C.Memo. 1983-78↩.7. Petitioner unsuccessfully attempts to make much of the fact that Baldino had received both State and Federal grants of immunity. That part of the Federal immunity order contained in one of petitioner's exhibits reads as follows: "Now, therefore, it is ordered pursuant to 18 U.S.C., Section 6002, that the said Joseph Baldino give testimony or provide other information which he refuses to give or to provide on the basis of his privilege against self-incrimination as to all matters about which he may be interrogated before said Grand Jury. "It is further ordered that no testimony or other information given or provided by the said Joseph Baldino pursuant to the terms of this order may be used against the said Joseph Baldino in any criminal case, except a prosecution for perjury, giving a false statement, or otherwise failing to comply with this order." We view this immunity order as directing Baldino to tell the truth or be subect to sanctions. Baldino testified in the criminal case against petitioner that he gave petitioner $4,250.00 in cash in an elevator in the building where petitioner's law office was located. United States v. Cohen,supra,↩ 847. That testimony is consistent with his testimony before this Court.8. Count XIX provided in full: Count XIXTHE GRAND JURY FURTHER CHARGES THAT: On or about the 14th day of September, 1975, in the Eastern District of Pennsylvania, the defendant, ROBERT BAER COHEN, a residence of Philadelphia, Pennsylvania, did willfully and knowingly make and subscribe a United States Individual Income Tax Return, Form 1040, for the calendar year 1974, which was verified by a written declaration that it was made under the penalties of perjury and was filed with the Director, Internal Revenue Service Center, Mid-Atlantic Region, at Philadelphia, Pennsylvania, which said income tax return he did not believe to be true and correct as to every material matter in that the said return reported total income of $68,422, whereas, as he then and there well knew and believed, he received substantial income in addition to that heretofore stated. In violation of Title 26, United States Code, Section 7206(1)↩. 9. See, however, Considine v. Commissioner,68 T.C. 52">68 T.C. 52 (1977); Goodwin v. Commissioner,73 T.C. 215">73 T.C. 215 (1979); Considine v. United States, 645 F.2d 925">645 F.2d 925 (Ct.Cl. 1981); Considine v. United States,683 F.2d 1285">683 F.2d 1285↩ (9th Cir. 1982).10. He was convicted on a number of counts of receiving payoffs from architects.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623665/	JAMES E. and AKIKO S. CURRIE, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, RespondentCurrie v. CommissionerDocket No. 12446-86.United States Tax CourtT.C. Memo 1989-23; 1989 Tax Ct. Memo LEXIS 22; 56 T.C.M. (CCH) 1076; T.C.M. (RIA) 89023; January 12, 1989. Douglas Scott Maynard and Earle A. Sylva, II, for the petitioners. William D. Reese, for the respondent. FAYMEMORANDUM FINDINGS OF FACT AND OPINION FAY, Judge: This case is before us on petitioners' motion for reasonable litigation costs, filed January 4, 1988, pursuant to section24 7430 1 and Rule 231. A hearing on this motion was held in San Francisco, California, on June 13, 1988. FINDINGS OF FACT Some of the facts have been stipulated. The stipulation of facts and the attached exhibits are incorporated herein by this reference. Petitioners, James E. and Akiko S. Currie, husband and wife, resided in Millbrook, New York, at the time they filed their petition herein. Petitioners filed a joint Federal income tax return for their 1983 taxable year, the year at issue. In June 1983, petitioner James E. Currie became employed as an engineer by Intel Corporation (Intel). When petitioner began such employment, he filed a Form W-4 with Intel causing no Federal income tax to be withheld from his wages. He was paid gross wages of $ 23,386 from Intel for 1983. Petitioner also earned $ 861 as a self-employed engineering consultant during 1983. To extend by four months the due date for filing petitioners' 1983 Federal income tax return, petitioners' 25 tax attorney, Douglas Scott Maynard (Maynard), filed a Form 4868 (Application for Automatic Extension of Time to File U.S. Individual Income Tax Return). Form 4868 requires a taxpayer to estimate and pay the amount of tax due for the tax year subject to the extension and the taxpayer is instructed -"[i]f you do not expect to owe tax, enter zero." The Form 4868 filed by Maynard showed an estimate of zero income tax due from petitioners for 1983. Petitioners' 1983 Federal income tax return, filed prior to August 15, 1984, reported no taxes owing based primarily on petitioners' claimed itemized deductions, and petitioner's Schedule C deductions relating to his consulting business, both of which reduced petitioners' taxable income to $ 3,338. Pursuant to the 1983 tax tables no tax would be owing on taxable income of this amount. By notice of deficiency dated February 28, 1986, respondent disallowed $ 17,291 of the total of $ 18,232 of deductions claimed by petitioners, and determined a deficiency in petitioners' 1983 Federal income tax of $ 2,449 and an addition to tax under section 6651(a)(1) of $ 612 for failure to file a timely return. The petition in this case was signed by26 Maynard as petitioners' attorney and was timely filed on May 5, 1986. The underlying issues in this case, preceding petitioners' pending motion for litigation costs, related to (1) whether the deductions disallowed by respondent were substantiated, (2) whether petitioners could currently deduct the costs of a personal computer under section 179, and (3) whether the addition to tax under section 6651(a)(1) was applicable. This case was calendared for trial for the Court's November 30, 1987, trial session in San Francisco, California. Subsequent to the filing of the petition on May 5, 1987, by Maynard, this case was assigned to the Internal Revenue Service's appeals office. In telephone conversations between Maynard and appeals officer Michael McMahon (McMahon) during June and July, 1987, Maynard represented to McMahon that petitioners' records that would substantiate deductions disallowed in the notice of deficiency were in Maynard's possession in San Jose, California. On July 30, 1987, Maynard and McMahon arranged to meet on August 27, 1987, to review petitioners' records, to ascertain the basic facts of the case, and to attempt to settle the case prior to trial. On August 27, 1987, Earl27 Sylva (Sylva), an attorney from Maynard's firm who had not, at this point, filed an entry of appearance in this case with the Court, appeared at the scheduled conference in place of Maynard. At that meeting, Sylva was requested to, but did not, provide McMahon with a power of attorney or other written authorization indicating that Sylva was entitled to act on behalf of petitioners to discuss petitioners' 1983 Federal income tax return. Since Maynard did not intend to attend the conference, and since McMahon believed he was prohibited from disclosing petitioners' income tax return information to Sylva pursuant to section 6103 (Confidentiality and Disclosure of Returns and Return Information), McMahon immediately telephoned Maynard's office and was advised that Maynard was unavailable and could not be reached. Although McMahon would not discuss petitioners' return with Sylva, Sylva did provide McMahon with a few substantiating documents at the conference but those were deemed incomplete and unacceptable to respondent. Sylva did, however, inform McMahon that the records requested by McMahon were not located in California, as Maynard had originally informed McMahon, but were located28 with petitioners in New York. After August 27, 1987, and prior to November 3, 1987, McMahon made several telephone calls to Maynard's office to inquire whether Maynard had yet obtained the requested records that would substantiate petitioners' disallowed deductions. Each time McMahon called, he was unable to speak to Maynard but was referred to Sylva, who stated that the records had not yet been obtained from petitioners in New York. On November 3, 1987, McMahon was provided with records which substantiated many of the expenses claimed as deductions by petitioners on their 1983 Federal income tax return. In response to this production of substantiating records, McMahon sent Maynard a letter on November 5, 1987, enclosed with a proposed stipulated decision document reflecting a settlement with respect to the substantiated deductions. This proposed settlement reduced petitioners' deficiency and section 6651(a)(1) addition to tax, as originally determined by respondent, from $ 2,449 and $ 612 to $ 1,130 and $ 282, respectively. McMahon stated in his letter that, as Maynard was the only counsel of record for petitioners, only Maynard had the authority to sign the stipulated decision29 document, and that Maynard was to sign such document if petitioners agreed with it. This stipulated decision document was not signed by Maynard. On November 9, 1987, an entry of appearance for Sylva, as an additional attorney representing petitioners, was executed and served on respondent. Until a few days before the trial session upon which this case was calendared, Sylva continued to represent to McMahon and to respondent's counsel, William D. Reese, that petitioners would be submitting further records to substantiate the $ 5,996 in deductions still at issue. The issues remaining on the day of trial involved whether petitioners could deduct the cost of a personal computer under section 179, whether certain telephone expense deductions claimed by petitioners were substantiated, and whether an addition to tax under section 6651(a)(1) was applicable. On November 30, 1987, when this case was originally called from the trial calendar, Sylva requested a conference in chambers with the Court and respondent to discuss the possibility of settling the remaining issues. At the conclusion of this conference, an oral settlement agreement was reached. Respondent conceded that petitioners30 were entitled to deduct 75 percent of the cost of a personal computer under section 179, and conceded the addition to tax under section 6651(a)(1). Petitioners conceded their entitlement to claimed telephone expense deductions. Based on the settlement thus reached, a stipulated decision was signed and filed and the Court entered a decision on December 16, 1987, in accordance with the stipulation, for a deficiency of $ 770 and no additions to tax due. On January 4, 1988, petitioners filed their motion for litigation costs which is currently before us. Petitioners originally requested litigation costs of $ 7,110 incurred from the date the petition herein was filed. On brief, petitioners have revised their request for litigation costs to include only those litigation costs incurred by petitioners for the period following Sylva's "formal appearance" on November 6, 1987, when Sylva executed an entry of appearance in this case. Petitioners have not submitted a breakdown of litigation costs which were incurred before and after Sylva's "formal appearance." As a result of petitioners' motion, this Court vacated its decision of December 16, 1987, under Rule 162, and ordered that respondent31 file a response to petitioners' motion. 2OPINION Section 7430(a) 3 provides that the prevailing party in any civil proceeding brought by or against the United States in connection with the determination of any tax under the Internal Revenue Code in a court of the United States, including the Tax Court, may be awarded a judgment for reasonable litigation costs. To be a "prevailing party," the taxpayer must (1) establish that the position of the United States in a civil proceeding was not substantially justified (sec. 7430(c)(2)(A)(i)), (2) have substantially prevailed with respect to the amount in controversy or the most significant issue or set of issues presented (sec. 7430(c)(2)(A)(ii)), and (3) meet the net worth requirements of section 504(b)(1)(B) of Title 5 of the United States Code (sec. 7430(c)(2)(A)(iii)). 32 A judgment for litigation costs will be awarded under section 7430(a) only for that portion of expenses which represents "reasonable litigation costs" within the meaning of section 7430(c)(1)(A). No award for reasonable litigation costs may be made with respect to any portion of the civil proceeding during which the prevailing party has unreasonably protracted such proceeding. Sec. 7430(b)(4). A judgment for litigation costs will not be awarded under section 7430(a) unless the Court determines that the prevailing party has exhausted the administrative remedies available to such party within the Internal Revenue Service. Sec. 7430(b)(1). Petitioners have the burden of proving that they have substantially prevailed, that they have exhausted their administrative remedies available to them, that the position of the Commissioner was not substantially justified, and that the amount of costs claimed is reasonable. Rule 232(e); Sher v. Commissioner,89 T.C. 79">89 T.C. 79, 83 (1987), affd. 861 F.2d 131">861 F.2d 131 (5th Cir. 1988). Respondent concedes that petitioners have exhausted their administrative remedies, and that petitioners have substantially prevailed as to the amount33 in controversy. Respondent, however, contends that: (1) his position in this civil proceeding was substantially justified, (2) petitioners unreasonably protracted these proceedings, and (3) petitioners' claimed litigation expenses are unreasonable. With respect to respondent's first contention, petitioners' sole argument is that respondent's determination and continued assertion of a section 6651(a)(1) 4 addition to tax for failure to file a timely return was a position that was not substantially justified. Petitioners have not argued that respondent's position in not settling issues relating to substantiation until acceptable substantiating records were provided to respondent was not substantially justified. Such an argument, if it were asserted, would have been unfounded. Respondent had no obligation to concede substantiation issues for which petitioner had the burden of proof before petitioners submitted proof that deductible expenses were, in fact, paid. When respondent finally was provided with substantiating records, he readily made appropriate concessions to petitioners to the extent substantiation for disallowed deductions was provided. These concessions resulted in more34 than a 50-percent reduction in the amount of deficiency originally determined by respondent and a corresponding reduction in the section 6651(a)(1) addition to tax. These concessions could have been made by respondent many months prior to trial if petitioners had organized their records and sent them to their attorney when originally requested. With respect to respondent's concession of the section 6651(a)(1) addition to tax, we note that the fact that respondent makes a concession does not, by itself, mean that respondent's35 position in the civil proceeding with respect to an issue was not substantially justified. Baker v. Commissioner,83 T.C. 822">83 T.C. 822, 828 (1984), vacated on other grounds 787 F.2d 637">787 F.2d 637 (D.C. Cir. 1986). Respondent's assertion of the section 6651(a)(1) addition to tax was based on his reliance on his position formulated in Rev. Rul. 79-113, 1 C.B. 389">1979-1 C.B. 389. This ruling provides that a Form 4868 is ineffective to extend the due date for filing a Federal income tax return where a taxpayer's Form 4868 shows an estimated income tax liability as zero, where "ample evidence" is available to the taxpayer that there would be an income tax liability greater than zero. Although respondent ultimately conceded the section 6651(a)(1) addition to tax issue, he argues that his position with respect to this issue was substantially justified. Respondent asserts that petitioners knew or should have known that they would have a "substantial" tax liability on the date it was estimated on their Form 4868 that their 1983 tax liability would be zero. As a result, respondent contends that, despite his concession, petitioners' Form 4868 was ineffective to extend the due date36 for filing their 1983 return. Petitioners argue that their reliance on their tax attorney, Maynard, in filing what they apparently concede was an invalid Form 4868 extension was "reasonable cause and not willful neglect" under section 6651(a)(1) which relieves them from the addition to tax pursuant to that section. Further, petitioners assert that respondent's failure to grant petitioners relief from the section 6651(a)(1) addition to tax, after respondent was informed that they relied on the advice of their tax attorney in filing their Form 4868, was a substantially unjustified position which entitled them to all of their litigation costs incurred after November 6, 1987. 5Section 6651(a)(1) does not relieve a taxpayer from the addition to tax pursuant to that section merely because a taxpayer relies on the advice of a tax attorney in failing to file a timely tax return. In fact, the general rule is that a taxpayer's duty to file a return when due is a personal, 37 nondelegable duty. United States v. Boyle,469 U.S. 241">469 U.S. 241 (1985); Marprowear Profit-Sharing Trust v. Commissioner,74 T.C. 1086">74 T.C. 1086, 1096 (1980). If petitioners are within an exception of this general rule, a purely factual question, we cannot say that respondent's position in not relieving petitioners, based on the fact that petitioners relied on their tax attorney in filing their Form 4868, was not substantially justified. Accordingly, we hold that petitioners have not established that respondent's position with respect to the section 6651(a)(1) addition to tax was not substantially justified. Petitioners have not argued that respondent's position with respect to the other issues in this case were not substantially justified. Therefore, petitioners are not a "prevailing party" within the meaning of section 7430(a). Since we conclude that petitioners have not established that they are the "prevailing party" in this proceeding, we need not consider the remaining issues in this case. In view of the foregoing, petitioners' motion for an award of litigation costs will be denied and decision will be entered in accordance with the stipulated decision previously38 entered and vacated. An appropriate order will be issued.Footnotes1. Unless otherwise noted, all section references are to the Internal Revenue Code as amended and in effect at all relevant times, and all Rule references are to the Tax Court Rules of Practice and Procedure.↩2. Section 7430(e) provides that an order granting or denying an award for reasonable litigation costs shall be incorporated as part of the decision and shall be subject to appeal in the same manner as the decision.↩3. Section 7430 was amended by the Tax Reform Act of 1986. See Tax Reform Act of 1986, Pub. L. 99-514, sec. 1551, 100 Stat. 2085, 2752. The amendments apply to amounts paid after Sept. 30, 1986, in civil actions or proceedings commenced after December 31, 1985. Tax Reform Act of 1986, sec. 1551(h)(1), 100 Stat. 2753. This action was commenced after Dec. 31, 1985, so the 1986 amendments to section 7430 are applicable.↩4. Section 6651(a)(1) provided in relevant part for the year at issue as follows: (a) ADDITION TO THE TAX. -- In case of failure -- (1) to file any return * * on the date prescribed therefore (determined with regard to any extension of time for filing), unless it is shown that such failure is due to reasonable cause and not due to willful neglect, there shall be added to the amount required to be shown as tax on such return 5 percent of the amount of such tax if the failure is for not more than 1 month, with an additional 5 percent for each additional month or fraction thereof during which such failure continues, not exceeding 25 percent in the aggregate.↩5. Petitioners do not argue that respondent's position that their Form 4868 was ineffective to extend the due date for filing their 1983 return was not substantially justified, an issue we need not address.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623666/	William B. Strong and Constance L. Strong, et al., 1 Petitioners v. Commissioner of Internal Revenue, RespondentStrong v. CommissionerDocket Nos. 2173-74, 2174-74, 2175-74, 2206-74, 2207-74, 2208-74United States Tax Court66 T.C. 12; 1976 U.S. Tax Ct. LEXIS 137; April 5, 1976, Filed 137 Decisions will be entered for the respondent. Petitioners, in connection with an apartment complex to be constructed and operated by them as partners, formed a corporation to obtain financing at a rate of interest in excess of the limit imposed by State law on loans to individuals. Title to the property was transferred to the corporation which executed the various documents relating to the financing and engaged in other related activities. Held, the corporation was not merely a nominee whose existence could be ignored for tax purposes and the net operating losses during the years at issue were its losses and not those of the partnership. Robert V. Hunter, for the petitioners.Bernard R. Baker III, for the respondent. Tannenwald, Judge. TANNENWALD13 Respondent determined the following deficiencies in these consolidated 138 cases:Docket No.19651966196819692173-7400$ 6,402.96$ 4,725.612174-74001,946.00520.002175-7400929.95361.172206-7400491.57178.332207-74001,057.10613.002208-74$ 1,333$ 5732,691.009,534.49At issue is whether net operating losses from the construction and operation of an apartment complex were those of a partnership or its controlled corporation.FINDINGS OF FACTSome of the facts are stipulated and are found accordingly. The stipulation of facts and attached exhibits are incorporated herein by this reference.All of the petitioners are individuals who filed joint Federal income tax returns for the years 1968 and 1969 with the Internal Revenue Service Center at Andover, Mass. At the time the petitions were filed, Victor L. and Coral E. Alger, Frederic B. and Helen P. Adler, William B. and Constance L. Strong, and Colburn A. Jones resided in Delmar, N.Y.; Patricia L. Jones resided in Syracuse, N.Y.; Paul W. and Mabel E. Henninger resided in Castleton, N.Y.; and Fred W. and Agnes K. Pollman resided in Phoenix, Ariz. The parties have stipulated that any appeal in these cases "shall be taken in the United States Court139 of Appeals for the Second Circuit at New York, New York."Prior to September 1967, Colburn A. Jones, William B. Strong, Victor L. Alger, Frederic B. Adler, Fred W. Pollman, and Paul W. 14 Henninger agreed to form Heritage Village Apartments Co., a partnership, for the purpose of developing an apartment complex to be known as the Heritage Village Apartments. The partners understood at that time that financing in the amount necessary to develop the apartments was not available to individuals because of the limitations on interest charges in the New York usury statute. They understood that corporations were not subject to these limitations, and that financing might be available to a corporate borrower. Accordingly, Heritage Village, Inc., a corporation owned by the partnership (hereinafter referred to as the corporation), was formed in September 1967 in anticipation of its use to obtain loan commitments. Jones was named as president and Robert V. Hunter as secretary of the corporation. The certificate of incorporation contained a broad and unqualified statement of purposes and authorized the issuance of 200 shares of capital stock without par value.In October 1967, certificates140 of partnership were filed by the partners on behalf of Heritage Village Apartments Co. (hereinafter the partnership).In August 1967, before either the partnership or the corporation was formed, a commitment for a permanent mortgage loan was obtained from the Bronx Savings Bank (hereinafter Bronx). This loan was to bear interest at 6 3/4 percent and was to be secured by an 18 (later 19) building apartment project. The commitment letter was addressed to "Heritage-State Farm Corp. c/o Mr. Colburn A. Jones."The apartment project was to be constructed in three phases on separate parcels of land. By letter dated December 8, 1967, Chemical Bank New York Trust Co. (hereinafter Chembank) made a commitment to loan the corporation $ 2,100,000, bearing annual interest of 7 percent, for the purpose of constructing the first phase, known as "parcel 1." Among other things, the letter required that Jones and his wife personally guarantee the mortgage note. The partnership as "owner" had previously contracted with Heritage-State Farm Corp. (hereinafter the contractor) to construct the apartments on parcel 1.15 On December 18, 1967, the partners entered into a formal partnership agreement. 141 Among other things, 2 the agreement provided that Strong, Adler, Henninger, and Alger, as partners in Strong & Co., were to transfer certain real property designated "parcel 1" "to the partnership or its nominee." It also provided that:It is agreed that title to the aforesaid Parcel may be held by a corporate nominee for the benefit of the partnership, it being the intention of the parties hereto that at all times the real and beneficial owner of the said Parcel shall be the partnership.* * 6. Construction on Parcel 1 -- The parties hereto agree that Jones shall have and is hereby granted the authority on behalf of the partnership (through a nominee corporation, if determined by Jones and Strong) to negotiate for and enter into a Construction Loan Agreement, first or subordinate mortgage financing and related instruments * * to finance the construction of the apartment units and related improvements on Parcel No. 1.* * Jones agrees to guarantee such construction loan in the event that the lending institution shall request.Promptly upon execution of this Agreement the partnership shall enter into a Construction Agreement with Heritage-State Farm Corp., a New York corporation, 142 the sole shareholder of which is Jones and/or his spouse. * * Such construction * * shall be in accordance with plans and specifications which shall be prepared on behalf of the partnership * * ** * 9. Authorized Signatures on Behalf of Partnership: The joint signatures of Jones and Strong shall be required on all deeds by the partnership, on any Construction Loan Agreement and on any bond and mortgage executed by or on behalf of the partnership.All documents hereinafter referred to as executed by the corporation were signed only by Jones, as president.Also on December 18, 1967, the members143 of Strong & Co. entered into a separate agreement whereby Strong, Adler, 16 Henninger, and Alger would convey real property, known as parcels 2 and 3, to the partnership. That agreement stated that it was an amendment to the partnership agreement and contained language similar to the above-quoted portions of the partnership agreement in respect of the conveyance to the partnership or its nominee and the holding of title by a corporate nominee for the benefit of the partnership. It also provided for the reconveyance of parcels 2 and 3 to the aforementioned named individuals under certain circumstances. On August 21 and December 18, 1969, the partnership agreement was twice amended in respects not material herein. The August 21, 1969, agreement constituted a restatement thereof to admit Flannigan (see n. 2 supra) and incorporated the previously agreed-upon provisions relating to parcels 2 and 3; the corporation was not a party to this agreement.A deed transferring parcel 1 from Strong, Adler, Henninger, and Alger to the corporation pursuant to the partnership agreement was executed on December 27, 1967, and recorded on January 8, 1968. Parcels 2 and 3 were deeded to 144 the partnership and the deeds recorded in January 1968.A building loan agreement and mortgage respecting parcel 1 between the corporation as mortgagor and Chembank as mortgagee was executed on December 29, 1967, and recorded on January 8, 1968. Paragraph 4(e) of the agreement provided:4. Representations and Warranties. Borrower represents and warrants to Lender that:* * (e) If Borrower purports to be a corporation, (i) it is a corporation duly organized, existing and in good standing under the laws of the state in which it is incorporated, * * (iii) it has the corporate power, authority and legal right to carry on the business now being conducted by it and to engage in the transactions contemplated by this Agreement, the Note and the Mortgage, and (iv) the execution and delivery of and the carrying out of the transactions contemplated by this Agreement, the execution and delivery of the Note and the Mortgage, and the performance and observance of the provisions of all the foregoing, have been duly authorized by all necessary corporate and stockholder actions of Borrower and will not conflict with or result in a breach of the terms or provisions of any existing law or any145 existing rule, regulation or order of any court or governmental body or of the Certificate of Incorporation or the By-laws of Borrower.The agreement also recited that the corporation was the owner of the mortgaged property, and provided that it could not be 17 assigned by the borrower without the consent of the lender and that any assignment in violation of this provision was an event of default. The agreement also included the following:8. (c) Borrower shall furnish to Lender from time to time upon request (i) financial statements of Borrower, (ii) details relating in any manner to the financial condition of Borrower, and (iii) budgets and revisions of budgets of Borrower showing the estimated cost of construction of the Improvement and the amount of funds required at any given time to complete and pay for such construction.The accompanying mortgage included an assignment of rents to Chembank and various covenants and warranties concerning the property. The loan was personally guaranteed by Jones.During the year 1968, the first 18 apartment buildings on parcel 1 were completed. As buildings were completed, they were leased to tenants. Leases were executed in the146 name of the partnership as landlord. Upon completion of the buildings, Chembank assigned the mortgage indebtedness on parcel 1 to Bronx. An extension agreement between Bronx and the corporation was recorded on January 15, 1969. The extension agreement referred to a declaration of easement recorded simultaneously therewith by which the corporation as owner of parcel 1 and the partnership as owner of parcels 2 and 3 granted mutual easements. An amended declaration of easement was executed by the corporation, the partnership, Bronx, and Chembank on April 18, 1969.In December 1968, the corporation obtained an insurance policy on the apartments naming itself as the insured. The policy covered completed portions of the project and was extended from time to time to include new buildings. In December 1969, the named insured was changed to read "Heritage Village Inc. and Heritage Village Apartments Company." The policy protected against destruction of the buildings and loss of rents.By letter dated February 5, 1969, Chembank issued to the corporation a commitment to lend it $ 135,000 for the purpose of constructing an additional building on parcel 1. This loan was to bear interest147 at 8 percent. A loan agreement, mortgage, and note were executed by the corporation the following month. The loan agreement and mortgage contained substantially the same provisions regarding ownership of the property, existence and validity of the corporation, furnishing of financial statements, and assignment as were contained in the original building loan 18 agreement (see pp. 16-17 supra). Jones and his wife personally guaranteed both repayment of the loan and completion of the building.The partnership decided to proceed with construction of additional apartments on parcel 2. In January 1969, the partnership and the contractor contracted for that construction. In March 1969, a commitment was obtained from Albany Savings Bank (hereinafter Albany) for a building loan of $ 2,150,000 bearing interest at 7 3/4 percent. The commitment letter was addressed to the partnership, but provided that the obligor and mortgagor would be "[a] corporation to be formed by you." In May 1969, a resolution on behalf of the corporation was executed authorizing the building loan and authorizing Jones and Hunter to execute necessary documents on behalf of the corporation. A mortgage and148 note, together with Jones' personal guarantee, were executed by the corporation shortly thereafter. The mortgage was recorded simultaneously with a deed transferring parcel 2 to the corporation.In April 1969, the corporation gave a mortgage on parcel 3 to the Merchants National Bank & Trust Co. (hereinafter Merchants) to secure the amount of $ 75,000. Title insurance for this loan was obtained, with respect to which a form was issued listing "Title In: Heritage Village Apartments Company" and "Title To Be In: to be advised." In June 1969, a deed transferring parcel 3 from the partnership to the corporation was recorded.In July 1969, the corporation and Bronx by agreement consolidated and extended to December 27, 1983, the two construction loans on parcel 1, both of which by that time had been assigned to Bronx. The consolidated loan bore interest at a rate of 6.81 percent. An affidavit sworn to by Jones and attached to the extension instrument recited that the corporation was the owner of the subject premises.In December 1969 (the last year in issue), Jones wrote a memorandum to Aaron Kaiser 3 which read in part:Please prepare a deed for all the lands and parcels 1, 2, and149 3 of Heritage Village. You are to convey title from Heritage Village, Inc. to Heritage Village Apartments Co. as soon as the January advance is received from the Albany Savings Bank. The reason for this transfer involves IRS considerations.19 It will be necessary in February to transfer the property back to Heritage Village, Inc. for the purpose of receiving the February advance. As soon as the advance is made, you are to again transfer the property back to Heritage Village Apartments Co.In other words, as of approximately January 10, 1970, the only time the title will rest in the corporation will be at the moment an advance is made. We will, of course, reimburse you for any out-of-pocket legal expenses involved in the drawing of the documents. If you have any questions, kindly call me.In January 1970 after receipt of the January advance from Albany, all three parcels were deeded back to the partnership by the corporation. The property was transferred to the corporation in February 1970 and then back to the partnership after receipt of the February advance. This procedure continued until May 1970, when a warranty deed with full covenants was recorded, transferring150 all parcels to the partnership.The buildings on parcel 2 were completed late in 1969 and early in 1970. The swimming pool and recreation center, located on parcel 3, were completed in late 1969. As each apartment building was completed, leases were executed between the partnership and tenants. Promotional literature describing the partnership as owner of the projects was distributed to prospective tenants.During 1968 and 1969, the corporation maintained checking accounts at Chembank and Merchants. Advances on construction loans were deposited to these accounts and transferred by check either to the partnership or, if time was a factor, directly to the contractor. Receipts for all advances were signed by Jones as president of the corporation. The corporation kept no books or records other than the records of these accounts. Except for the advances on the construction loans and the disbursements thereof as aforesaid, 151 all receipts and disbursements, income and expenses, and assets and liabilities pertaining to the construction and operation of the apartments -- including rentals and all real estate taxes and water charges -- were at all times received or made by, and carried on the books and records of, the partnership. 4The corporation issued no capital stock. No corporate meetings were held nor minutes maintained. 5 It filed Federal income tax returns but reported no income, loss, assets, or liabilities, 20 reporting its principal business activity as "Nominee Corp." It did not apply for a Federal employer identification number 6 and had no employees.152 From 1968 to 1970, the partnership employed various persons. Initially, these employees were carried on the payroll of the contractor as a matter of convenience; the contractor periodically billed, and was reimbursed by, the partnership for such compensation. Beginning in 1970, the partnership operated its own payroll account. It applied for and received an employer identification number.In October 1967, permission was applied for in the name of the partnership to connect into the water distribution system of the town of Guilderland to service the needs of the planned apartments.In November 1967, a permit was issued to the partnership to install sewer pipe to serve the apartments.Certain utility easements encumbering the real property were released by agreement between the partnership and the utilities in August 1968. The agreement recited that the partnership was the owner of the premises.In October 1969, the New York Department of Transportation issued to the partnership a permit to perform certain road work at the site of the apartment buildings.Effective in October 1969, a settlement of claim for penalty for violation of State conservation laws by alteration of creek 153 banks and beds at the site was entered into on behalf of the partnership with the New York Conservation Department.In September 1969, the partnership applied for a permit to install a culvert pipe to permit the flow of a creek under a road at the apartment site. The permit was granted in November 1969.The partnership prepared financial statements beginning with the year 1968. No financial statement of the corporation was ever prepared.No assets other than the real property of the partnership were ever formally transferred to the corporation. The corporation was dissolved in September 1973.21 Petitioners formed a partnership for the purpose of constructing and operating an apartment complex on real estate contributed by several partners. In order to obtain financing for the project, it was necessary to transfer the property to a corporation wholly owned by the partnership so that mortgage loans could be made at an interest rate in excess of the limit imposed by State usury laws on loans to individuals. 7 Construction and operation of the apartments generated net operating losses during the years in issue which were reported on the partnership's returns and as distributive154 shares on the individual returns of the petitioners. The respondent determined that the corporation, as owner of the property, was the proper party to report those losses. Petitioners allege that the corporation was a nominee whose ownership should be disregarded for tax purposes. The crux of petitioners' case is that the corporation was merely a sham or device used for the purpose of avoiding the New York usury statute, that it performed no acts other than those essential to that function, and that to treat it as the actual owner of the property would be to exalt form over substance.The use of sham or dummy corporations to avoid application of the usury laws is a recognized practice in New York. Hoffman v. Lee Nashem Motors, Inc., 20 N.Y. 2d 513, 231 N.E. 2d 765, 285 N.Y.S. 2d 68 (1967);155 Leader v. Dinkler Management Corp., 20 N.Y. 2d 393, 230 N.E. 2d 120, 283 N.Y.S. 2d 281 (1967). There is no doubt that petitioners sought to do business in partnership form and that the corporation was, at least in their eyes, a mere tool or conduit. Their argument is not without some appeal, but we conclude that it should not be accepted.The principal guidepost on the road to recognition of the corporate entity is Moline Properties v. Commissioner, 319 U.S. 436">319 U.S. 436 (1943). In that case, a corporation was organized as part of a transaction which included the transfer of mortgaged property to it by the shareholder, the assumption by it of the outstanding mortgages, and the transfer of its stock to a voting trustee named by the mortgagee as security for additional advances. Later the indebtedness was repaid and the shareholder reacquired control 22 of the corporation. Thereafter it mortgaged and sold some of the property it held, and leased another portion. The Court held that the corporation was a separate entity from its inception, and stated its rule of decision as follows:The doctrine156 of corporate entity fills a useful purpose in business life. Whether the purpose be to gain an advantage under the law of the state of incorporation or to avoid or to comply with the demands of creditors or to serve the creator's personal or undisclosed convenience, so long as that purpose is the equivalent of business activity or is followed by the carrying on of business by the corporation, the corporation remains a separate taxable entity. * * * In Burnet v. Commonwealth Improvement Co., 287 U.S. 415">287 U.S. 415, this Court appraised the relation between a corporation and its sole stockholder and held taxable to the corporation a profit on a sale to its stockholder. This was because the taxpayer had adopted the corporate form for purposes of his own. The choice of the advantages of incorporation to do business, it was held, required the acceptance of the tax disadvantages. [319 U.S. at 438-439. Fn. refs. omitted; emphasis supplied.]Cases following Moline Properties have generally held that the income from property must be taxed to the corporate owner, and will not be attributed to the shareholders, unless the corporation157 is a purely passive dummy or is used for a tax-avoidance purpose. Harrison Property Management Co. v. United States, 475 F.2d 623">475 F.2d 623 (Ct. Cl. 1973); Taylor v. Commissioner, 445 F.2d 455">445 F.2d 455 (1st Cir. 1971); National Investors Corp. v. Hoey, 144 F.2d 466 (2d Cir. 1944); Collins v. United States, 386 F. Supp. 17 (S.D. Ga. 1974), affd. per curiam 514 F.2d 1282">514 F.2d 1282 (5th Cir. 1975). This is particularly true where the demand that the corporate entity be ignored emanates from the shareholders of a closely held corporation. See Harrison Property Management Co. v. United States, supra at 626; David F. Bolger, 59 T.C. 760">59 T.C. 760, 767 n.4 (1973). 8 It has been suggested that the prevailing approach misses the point by focusing (as do the parties herein) on the viability of the corporate entity rather than the situs of real beneficial or economic ownership. Kurtz & Kopp, "Taxability of Straw Corporations in Real Estate Transactions," 22 Tax Lawyer 647 (1969). However, the thrust of the case 158 law, as we read it, is to leave the door open to the argument that a 23 corporation played a purely nominal or "straw" role in a transaction, while closing it firmly against any contention that a corporation may be disregarded simply because it is the creature of its shareholders. See cases collected and analyzed in Kronovet, "Straw corporations: When will they be recognized; what can and should be done," 39 J. Tax. 54 (1973).The Supreme Court has held that shareholder159 domination, even to the extent that a corporation could be said to lack beneficial ownership of its assests and income, is insufficient to permit taxpayers to ignore the corporation's existence. National Carbide Corp. v. Commissioner, 336 U.S. 422">336 U.S. 422, 433-434 (1949); Moline Properties v. Commissioner, supra. The Court of Appeals for the Second Circuit, to which appeal will lie herein, has similarly refused to disregard the interposition of a corporate entity between shareholders and their property, except where the corporation has not purported to deal with the property in its own right. The focus is on business purpose or activity with respect to the particular property whose ownership is in question.In Paymer v. Commissioner, 150 F.2d 334">150 F.2d 334 (2d Cir. 1945), two brothers formed a pair of corporations (Raymep and Westrich) to which they transferred legal title to certain real estate. Their purpose was to deter execution against the property by their individual creditors. Neither corporation engaged in any business activity except that Raymep obtained a loan and as part security "assigned to160 the lender all the lessor's rights, profits and interest in two leases on the property and covenanted that they were in full force and effect and that it was the sole lessor." 150 F.2d at 336. Westrich was disregarded on the ground that it "was at all times but a passive dummy which did nothing but take and hold title to the real estate conveyed to it. It served no business purpose in connection with the property." 150 F.2d at 337. (Emphasis added.) Raymep, however, was not disregarded, because it did perform a business function as the owner of the property.In Jackson v. Commissioner, 233 F.2d 289">233 F.2d 289 (2d Cir. 1956), affg. 24 T.C. 1">24 T.C. 1 (1955), the Court of Appeals disregarded holding companies which lacked separate business purpose or activity, stating that the situation was encompassed within the foregoing language in its opinion in Paymer and further observing:A natural person may be used to receive income which in fact is another's. So, too, a corporation, although for other purposes a jural entity distinct from its 24 stockholders, may be used as a mere 161 dummy to receive income which in fact is the income of the stockholders or of someone else; in such circumstances, the company will be disregarded. [233 F.2d at 290 n. 2.]Finally, in Commissioner v. State-Adams Corp., 283 F.2d 395">283 F.2d 395 (2d Cir. 1960), revg. 32 T.C. 365">32 T.C. 365 (1959) (which involved a different factual situation), the court characterized its holding in Paymer as "nothing more than a restatement of the fundamental rule that income from real estate held in the name of a nominee will be taxed to the beneficial owner, not to the nominee." 283 F.2d at 398 (fn. ref. omitted). The mere fact that some of the documents herein speak in terms of a corporate nominee is not sufficient to bring petitioners within the exception to the general rule. Harrison Property Management Co. v. United States, supra;Collins v. United States, supra; cf. Tomlinson v. Miles, 316 F.2d 710 (5th Cir. 1963).In short, a corporate "straw" may be used to separate apparent from actual ownership of property, 162 without incurring the tax consequences of an actual transfer; but to prevent evasion or abuse of the two-tiered tax structure, a taxpayer's claim that his controlled corporation should be disregarded will be closely scrutinized. If the corporation was intended to, or did in fact, act in its own name with respect to property, its ownership thereof will not be disregarded.The degree of corporate purpose and activity requiring recognition of the corporation as a separate entity is extremely low. Thus, it has been stated that "a determination whether a corporation is to be considered as doing business is not necessarily dependent upon the quantum of business" and that the business activity may be "minimal." See Britt v. United States, 431 F.2d 227">431 F.2d 227, 235, 237 (5th Cir. 1970).In this case, the corporation's purpose and activities were sufficient to require recognition of its separate ownership of the property in question and, a fortiori, of its existence as a taxable entity. The purpose to avoid State usury laws is a "business purpose" within the meaning of Moline Properties. Collins v. United States, supra;David F. Bolger, supra.163 9164 The corporation had broad, unrestricted powers under its charter. Compare Collins v. United States, supra.Its activities were more extensive than those which required recognition of Raymep in Paymer v. 25 .Like Raymep, it borrowed money on the security of rents; in addition, it mortgaged the property itself and it received and applied the loan proceeds. It engaged in the foregoing activities on more than one occasion and is more vulnerable than was the corporation in Collins v. United States, supra, which was also formed to avoid usury law restrictions and placed only a single mortgage. These activities, carried out in its own name, go beyond "transactions essential to the holding and transferring of title." See Taylor v. Commissioner, 445 F.2d at 457. The fact that the corporation in this case, unlike those in other cases, did not enter into any leases does not, in our opinion, constitute a sufficient basis for distinguishing their thrust. 10Furthermore, the corporation was otherwise treated by the partnership in a manner inconsistent with petitioners' contention that the two were the same entity. The partnership agreement required that deeds, loan agreements, and mortgages "executed by or on behalf of the partnership" be signed by both Jones and Strong; property standing in the corporate name was so dealt with on Jones' signature alone. Separation of title to the various parcels permitted the creation of mutual easements, an act which would have been prevented by the doctrine of merger had the properties been under common ownership. 11 See Parsons v. Johnson, 62">68 N.Y. 62 (1877);165 Snyder v. County of Monroe, 2 Misc. 2d 946">2 Misc. 2d 946, 153 N.Y.S. 2d 479, 486 (Monroe County Sup. Ct. 1956), affd. mem. 6 App. Div. 2d 854, 175 N.Y.S. 2d 1008 (4th Dept. 1958). The corporation applied for and received insurance on the property in its own name.Finally, although not determinative, an element to be considered is the fact that the corporate vehicle in this case, whatever the parties' intentions, carried with it the usual baggage attending incorporation, including limitation of the shareholders' personal liability during construction. Jones alone was potentially responsible (as guarantor) for repayment of the construction loans.26 In the final analysis, the corporation herein fits the mold articulated in Collins v. United States, supra:166 The fact remains, however, that the corporation did exist and did perform the function intended of it until the permanent loan was consummated. It was more than a business convenience, it was a business necessity to plaintiffs' enterprise. As such, it came into being. As such, it served the purpose of its creation. [386 F. Supp. at 21.]The fact that the purpose and use of the corporation was limited in scope is beside the point. See Sam Siegel, 45 T.C. 566">45 T.C. 566, 577 (1966).The tide of judicial history is too strong to enable petitioners to prevail, albeit that the activities of the corporation were substantially less than those involved in most of the decided cases with the exception of Collins v. United States, supra.Having set up a separate entity through which to conduct their affairs, petitioners must live with the tax consequences of that choice. 12 Indeed, the very exigency which led to the use of the corporation serves to emphasize its separate existence. See Moline Properties v. Commissioner, 319 U.S. at 440; David F. Bolger, 59 T.C. at 766.167 Our conclusion is not based upon any failure of the petitioners to turn square corners with respondent; they consistently made clear their intention to prevent separate taxation of the corporation if legally possible. They took most precautions consistent with business exigency to achieve that end. We simply hold that their goal was not attainable in this case. 13168 Decisions will be entered for the respondent. Footnotes1. Cases of the following petitioners are consolidated herewith: Fred W. Pollman and Agnes K. Pollman, docket No. 2174-74; Paul W. Henninger and Mabel E. Henninger, docket No. 2175-74; Victor L. Alger and Coral E. Alger, docket No. 2206-74; Frederic B. Adler and Helen P. Adler, docket No. 2207-74; and Colburn A. Jones and Patricia L. Jones, docket No. 2208-74.↩2. The ownership interests provided for before and after the admission of a new partner, Robert Flannigan, on Aug. 21, 1969, were:Percentage of ownershipPartnerPrior to 8/31/69After 8/21/69Jones65.0062.00Strong16.4320.37Adler3.574.43Henninger3.574.43Alger1.431.77Pollman10.004.00Flannigan3.00Flannigan deducted no distributive share of partnership losses in 1969.↩3. The relationship of Kaiser to any person mentioned herein is not disclosed on the record.↩4. The commitment fee on the Albany loan was paid by the contractor, which was reimbursed by the partnership.↩5. The record does not indicate how the corporate resolution referred to on p. 18, supra↩, was adopted.6. A number was assigned by the Service Center with which the corporate income tax returns were filed.↩7. The maximum rate allowed on loans to individuals was 6 percent prior to July 1, 1968, 7.25 percent thereafter until Feb. 16, 1969, and 7.50 percent for the balance of the period involved herein. N.Y. Gen. Oblig. Law sec. 5-501↩ (McKinney Supp. 1975) and notes thereto.8. See also Higgins v. Smith, 308 U.S. 473">308 U.S. 473 (1940). Cf. Colin v. Altman, 39 App. Div. 2d 200, 333 N.Y.S. 2d 432, 433-434↩ (1st Dept. 1972): "the corporate veil is never pierced for the benefit of the corporation or its stockholders. * * * [The sole stockholder] is not the corporation either in law or fact and, having elected to take the advantages [of incorporation], it is not inequitable to subject him to the disabilities consequent upon his election."9. See also Daniel E. Rogers, T.C. Memo. 1975-289↩.10. In Raymep Realty Corp., 7 T.C.M. (CCH) 262">7 T.C.M. 262↩ (1948), relied upon by petitioners, we held the execution of a lease in the name of a corporate nominee titleholder did not require the corporation to be recognized as a taxable entity. We characterized that single act as "a purely nominal adjunct to the holding of title." Here, by contrast, the business activity was the raison d'etre of the corporation.11. It is unclear in any event what practical purpose was served by the declaration of easement, in view of the later return of all parcels to the partnership.↩12. We realize that, given the economic realities, petitioners had only a Hobson's choice -- between using a corporation and forgoing the construction project for want of financing. "But this merely serves to emphasize [the corporation's] separate existence. * * * Business necessity, i.e., pressure from creditors, made [its] creation advantageous to [the shareholders]." Moline Properties v. Commissioner, 319 U.S. 436">319 U.S. 436, 440↩ (1943).13. Whether there are limits, albeit narrow, within which taxpayers might successfully structure transactions of the type involved herein is a question we do not decide. See Kronovet, "Straw corporations: When will they be recognized; what can and should be done," 39 J. Tax. 54 (1973). Compare Rev. Rul. 76-26, 4 I.R.B. 5">1976-4 I.R.B. 5; Rev. Rul. 75-31, 1 C.B. 10">1975-1 C.B. 10↩.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623667/	Raymond M. and Joan E. S. Martin v. Commissioner.Martin v. CommissionerDocket No. 4037-67.United States Tax CourtT.C. Memo 1968-127; 1968 Tax Ct. Memo LEXIS 172; 27 T.C.M. (CCH) 611; T.C.M. (RIA) 68127; June 25, 1968, Filed 172 Raymond M. Martin, pro se, 7782 Devonwood Ave., Garden Grove, Calif. Brice A. Tondre, for the respondent. 612 SCOTT Memorandum Findings of Fact and Opinion Scott, Judge: Respondent determined a deficiency in petitioners' income tax for the calendar year 1965 in the amount of $299.08. The only issue for decision is whether Raymond M. Martin, an outside salesman, is entitled to a deduction of $1,575 or any part thereof as transportation expense for driving his personally owned automobile for business travel. Findings of Fact Some of the facts were orally stipulated at the trial and are found accordingly. Petitioners, husband and wife who at the time of the filing of their petition in this case resided in Garden Grove, California, filed a joint Federal income tax return for the calendar year 1965 with the district director of internal revenue at Los Angeles, California. Raymond M. Martin (hereinafter referred to as petitioner) was employed during the calendar year 1965 as an outside salesman by the Mark Costello Company. The Mark Costello Company is a manufacturers' representative which during the year here in issue sold, as agent for various manufacturers, 173 industrial machinery such as gear reducers, motor train variators, and large industrial machinery. Petitioner's regular area during the year 1965 covered all of Orange County and the portion of Los Angeles County lying east of Atlantic Boulevard and south of the San Bernardino Freeway. If petitioner made some sale which originated in his area but the machinery was to be installed outside of his area, he would be required to make trips to the area in which the machinery was installed. Because of this work in connection with his sales efforts, petitioner, in addition to his calls upon the regular customers encompassed in his sales area, about once every 3 months would drive as far as the Imperial Valley area which was about 250 miles from his home. He would generally drive over in the late afternoon, stay over night, and during the next day drive around that area calling at various places and return home in the evening. Except for days when he was calling on customers in the Imperial Valley area, petitioner's normal routine on the basis of a 5-day week was to leave home at 7:00 or 7:30 o'clock in the morning and drive to the place of business of the most distant customer upon whom174 he planned to make a call on that particular day. Although occasionally the customer on whom he called first in the morning might be as much as 86 or 87 miles away, generally his first call would be on a customer at a distance of approximately 30 miles from his residence. He would then call on three to seven additional customers during that day depending on how long he was required to spend at a particular customer's place of business. He would attempt to arrange his schedule so that the second customer upon whom he called had its business location about 10 or 15 miles distance from the first customer and so on during the day, so that the last customer he called on during the day would be at a place within 10 or 15 miles from his home. The minimum mileage driven by petitioner on any working day in calling on customers was approximately 80 miles and the average mileage so driven was approximately 100 miles. The main office of the Mark Costello Company was located approximately 35 miles from the location of petitioner's home. Once every 2 or 3 weeks petitioner would drive directly from his home to the main office of the Mark Costello Company. During the year 1965 petitioner's car175 was a 1962 Studebaker Lark. During this same year petitioner's wife had a 1959 Renault. Petitioner generally drove his Studebaker Lark in connection with his business calls but on rare occasions he would drive his wife's Renault. Whenever feasible petitioner would purchase his gasoline at a service station near his home, as well as have his car serviced and repairs made to his car at this service station. During the last 9 months of 1965 petitioner spent $304 for gasoline at the service station near his home. Petitioner did not have a record of the amount spent for gasoline at this service station during the first 3 months of the year. In addition to the gasoline bought at this service station, petitioner would buy gasoline for cash two or three times a month. Usually. this would occur when he needed gasoline because his tank was so near to empty that he would not be able to drive home without more gasoline, and he would have the tank filled and pay for the gasoline in cash. The tank on his car held approximately 18 gallons of gasoline. Petitioner's average car mileage during the year 1962 was 18 miles 613 to a gallon of gasoline and the gasoline he used generally cost approximately176 30 cents a gallon at the stations where he purchased gasoline. Petitioner drove over 32,000 miles in his Studebaker Lark during the calendar year 1965. The 1959 Renault owned by petitioner's wife in the year 1965 was driven over 5,000 miles during that year. During the year 1965 petitioner and his family would drive to visit his parents one or two times a month. Petitioner's parents lived approximately 10 miles from where petitioner and his family lived. During the year 1965 petitioner and his family made one weekend trip to San Diego and during part of the year when his wife's mother lived at Long Beach, a distance of approximately 15 miles from where petitioner and his family lived, he and his family drove to the home of his wife's mother, usually once a week. Petitioner and his wife drove to the grocery store rather regularly and would also on occasion drive their children to school or to some other place. The parties agree that petitioner is entitled to a deduction of 10 cents a mile for all business mileage driven during 1965 up to 15,000 miles and to 7 cents a mile for all business mileage driven during that year over 15,000 miles. The Mark Costello Company paid petitioner177 in addition to his salary an amount of $75 a month to help defray the costs of operating his automobile for business purposes. The total amount paid to petitioner as automobile expense during the year 1965 was $825. 1 Petitioner on his Federal income tax return did not include the $825 in income. However, he computed as a business cost for automobile expense a total amount of $2,400.20 which he determined by showing business mileage driven of 27,860 miles at 10 cents for the first 15,000 miles and 7 cents for the remaining 12,860 miles, and from the $2,400.20 so computed he deducted $825 under the designation, "car allowance." He claimed $1,575.00 as a deductible business expense under "other deductions" in computing his taxable income. Respondent in his notice178 of deficiency disallowed the entire $1,575 claimed by petitioner as a deduction for automobile expense. Opinion Respondent recognizes that petitioner is entitled to a deduction as a business expense for the cost of driving his personal automobile to call upon his customers. At the trial the parties stipulated that petitioner was entitled to a deduction in the amount of 10 cents a mile for the first 15,000 miles which he drove in calling upon his customers and 7 cents a mile for the remaining mileage so driven. The question left for our decision, therefore, is purely one of fact. It is necessary for us to determine how many miles petitioner drove his automobile for business purposes. From the evidence we conclude that petitioner did drive his automobile for business purposes approximately 28,000 miles and therefore sustain his claimed deduction based on 27,860 miles. Petitioner testified that his average business mileage not counting his long trips was at least 500 miles per week for 52 weeks, a total of 26,000 miles, and that the four or five times a year when he drove to the Imperial Valley, he drove an extra 500 miles a week. From this estimate petitioner has shown that179 he drove approximately 28,000 miles during the year 1965. Other evidence in the record supports petitioner's testimony that he drove approximately 28,000 miles during 1965 in connection with his business as an outside salesman. The stipulated statement of petitioner's supervisor in Mark Costello Company confirms the size of petitioner's sales area and the necessity for petitioner to cover this extensive area in calling upon his customers. The amount of gasoline purchases petitioner is able to substantiate for the last 9 months of the year 1965, added to his estimate of the amount he purchased for cash, and the mileage which he obtained from a gallon of gasoline in driving his car support his estimate of the business miles he drove. Petitioner kept a record of the total mileage driven in his car and in his wife's car during 1965. Subtracting from the total mileage driven in both cars a reasonable estimate of the personal mileage driven by petitioner and his wife in 1965, including petitioner's mileage in commuting to his office on the occasions when he drove from his home directly to his 614 office, indicates a remaining mileage driven in 1965 of approximately 28,000 miles. From*180 all the facts we conclude that petitioner has established that he drove his automobile for business reasons 27,860 miles during the year 1965. Decision will be entered for petitioner. Footnotes1. The record shows that petitioner was employed during the full year 1965 by Mark Costello Company but that this was new employment for him at the beginning of the year. The $825 total automobile expense allowance is stipulated. It would appear, therefore, that petitioner received the automobile expense allowance after the end of the month and did not receive his December allowance until after the end of the year 1965.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623668/	Howard H. Perelman and Carrie K. Perelman, Petitioners, v. Commissioner of Internal Revenue, RespondentPerelman v. CommissionerDocket No. 92182United States Tax Court41 T.C. 234; 1963 U.S. Tax Ct. LEXIS 18; November 20, 1963, Filed 18 Decision will be entered under Rule 50. In the latter part of 1950, Howard H. Perelman and others formed a partnership to sell improved real estate. In 1951 and 1952, certain parcels of real estate were sold. In each case, the purchaser made a cash downpayment and gave a land contract to evidence the remaining balance of the purchase price. The income from the foregoing sales was reported on the basis that the receipts therefrom did not constitute taxable income until the cost or adjusted basis of the property had first been recovered. For the taxable years 1951 through 1956, petitioners reported their income in the foregoing manner where a sale was made and a land contract was received. Sometime in 1957, one of respondent's agents began an audit of the taxable years 1953, 1954, and 1955. After the audit, respondent took the position that where there was a sale of property and a land contract was received the gain therefrom should be reported in the year in which the sale was made. It was respondent's position that the contracts had a fair market value equal to their face value and consequently the entire amount of the gain should have been reported in the year in which19 the sale was made, rather than on a deferred basis. Deficiencies for the foregoing years were agreed to and paid by petitioners. Beginning with the taxable year 1957, petitioners began reporting the entire gain from sales where a land contract was received in the year in which the sale was made. In 1957 and 1958, petitioners attached statements to their Federal income tax returns stating that they had received proceeds from sales made in 1951 and 1952 but had not included any portion of this income in the current years because the Internal Revenue Service had changed their method of accounting. In the notice of deficiency, respondent determined that petitioners omitted income from the 1951 sale which should have been reported in 1957 and omitted income from the 1952 sales which should have been reported in 1958. Held:Whether petitioners' method of accounting was changed or whether there was merely a correction of an error, respondent's determinations were erroneous. (1) If petitioners' method of accounting was changed, respondent initiated the change and any adjustments would be with respect to pre-1954 Code years (1951 and 1952), therefore, no adjustment to petitioners' 20 income is required by section 481(a), 1954 Code, in order to prevent amounts from being omitted. Under the foregoing assumption, section 446(e), 1954 Code, is not applicable since respondent caused petitioners' method of accounting to be changed. (2) If it is assumed that the changes for the years 1953, 1954, and 1955 were merely "adjustments" or correction of errors and not a change in petitioners' method of accounting, petitioners must nevertheless prevail. It was no less an "adjustment" or correction of an error when petitioners excluded the income in question and began reporting the gain from sales under land contracts in the year of sale. The evidence indicates that the land contracts from the 1951 and 1952 sales had a fair market value equal to their face amounts when received in the respective years. Therefore, the income from those sales should have been reported in 1951 and 1952 rather than 1957 and 1958 as determined by respondent. Lewis Perelman, for the petitioners.John F. Papsidero, for the respondent. Train, Judge. TRAIN235 Respondent determined deficiences in the income tax liability of petitioners for the calendar years 1957 and 1958 in the amounts of $ 1,238.24 and $ 447.50, respectively.The sole issue for decision is whether the gain from certain sales made in 1951 and 1952 should be reported in the respective years 1957 and 1958. Other adjustments will be disposed of in the Rule 50 computation.FINDINGS OF FACTPetitioners Howard H. Perelman (hereinafter referred to as Howard) and Carrie K. Perelman are husband and wife and reside in Shaker Heights, Ohio. Their Federal income tax returns for the calendar years 1957 and 1958 were filed with the district director23 of internal revenue in Cleveland, Ohio.In December of 1950, Howard and three other individuals formed a partnership known as Howard King Realty Co. (hereinafter referred to as Realty) to engage in the business of buying and selling improved real estate in the city of Cleveland. By the end of 1953, Howard had purchased the interests of the other partners. Thereafter, he operated Realty as a sole proprietorship.On July 23, 1951, Realty sold improved real estate located at 1255 East 111th Street, Cleveland, Ohio (hereinafter referred to as the Gaines property), to Leroy and Mary Lee Gaines for $ 12,000. The Gaines property had cost Realty approximately $ 7,400.The Gaines property was sold under an executory contract of sale more commonly referred to as a "land contract." A land contract is an evidence of indebtedness in the nature of a bond or note. This type of contract generally provides for a downpayment, in this instance $ 2,000, with the balance of the sales price payable over a period of years together with interest on the deferred payments.In addition to the general provisions requiring the purchasers to keep the property insured and requiring them to pay the taxes thereon, 24 the Gaines land contract provided for interest at the rate of 6 percent per annum compounded quarterly in advance and:payments [on the balance of $ 10,000] to be due and payable in monthly installments, beginning August 23, 1951, in the sum of One Hundred Ten Dollars 236 ($ 110.00), or more which includes interest; said monthly installments of $ 110.00, or more, shall continue on the [23d] day of each and every month until the principal has been reduced to Five Thousand and No/100 Dollars ($ 5,000.00); whereupon first party [Realty] will give second party [Gaines] a good and sufficient Warranty Deed, accompanied by a Title Guarantee in the sum of $ 12,000.00, warranting the title to the within described premises to be free and clear of any and all encumbrances, liens, clouds on title, save and except zoning ordinances, if any; restrictions, conditions, limitations and easements of record, if any; taxes and assessments for the last half of 1951 and thereafter, less those paid in conformity with the provisions set forth below; and encumbrances or liens resulting from acts of commission or omission of the second party.Simultaneously with the delivery of the deed second party25 shall execute and deliver to first party their note or notes, secured by mortgage or mortgages, for the balance then due, which shall be due and payable in monthly installments of $ 110.00 or more, which includes interest, and which monthly installments shall continue until the entire balance of principal and interest has been paid. The said note or notes shall bear interest at the rate of six percent per annum to be computed quarterly in advance.In addition to the abovementioned monthly installments, there shall be paid each month in connection with the land contract, note or notes, one-twelfth of the annual taxes and assessments on the within described premises to establish a reserve account for the payment of taxes and assessments as same become due and payable.In the settlement of the transaction, water rent and taxes and assessments shall be pro-rated as of the 23rd day of July, 1951 and the amount due the second party by way of these pro-rations shall be credited as a principal payment on the land contract, which credit shall not waive or affect in any way the monthly installments provided for in the payment of the balance of the land contract.All policies of insurance covering26 the premises to be issued during the pendency of this contract shall be issued at the instance of the first party and the premiums thereon paid by the second party, said premiums becoming due and payable immediately upon the issuance of the policy.The second party must obtain written permission from first party to make any necessary repairs or major improvements on said premises under an installment plan; otherwise, the balance of principal and interest shall immediately become due and payable. This, however, does not preclude or prevent second party from making any necessary repairs or major improvements on a cash basis.On February 22, 1952, Realty sold improved real estate located at 3304 East 139th Street, Cleveland, Ohio (hereinafter referred to as the Clark property), under a land contract, to Roosevelt and Nora Ila Clark for $ 15,000. The Clark property had cost Realty $ 11,098.10. Pursuant to the provisions of the land contract, Realty received a cash downpayment of $ 4,000. The aforementioned land contract contained essentially the same provisions as the Gaines contract except the Clark contract provided for monthly payments of $ 100 and the deed to the property was 27 to be conveyed only after the balance owed had been reduced to $ 7,500.On May 15, 1952, Realty sold improved real estate located at 1358 East 111th Street, Cleveland, Ohio (hereinafter referred to as the 237 Gregory property), under a land contract, to Sarah Gregory and Joe Gregory for $ 15,000. The Gregory property had cost Realty $ 10,000. Pursuant to the land contract, Realty received a cash downpayment of $ 2,000. The aforementioned land contract contained essentially the same provisions as the Gaines contract except for a lump-sum payment of $ 500 on November 15, 1953, the monthly payments under the Gregory contract were to be $ 130 until December 15, 1956, and $ 105 a month thereafter and a deed was to be conveyed after the balance owed had been reduced to $ 6,500.There was a market in land contracts in the years 1951 and 1952. In the market which existed, land contracts such as those which were received on the Gaines, Clark, and Gregory properties had a fair market value and could have been taken to dealers in the community and converted into cash for at least the face amount of the contracts.Where a piece of property was sold under a land contract, Realty reported28 the income therefrom on the basis that the receipts did not constitute taxable income until the cost or adjusted basis of the particular piece of property had first been recovered. After Howard purchased the interests of the other partners, he continued to report income from sales where a land contract was received in the foregoing manner through the taxable year ended December 31, 1956. With the exception of sales under land contracts, which were reported in the manner set forth above, petitioners reported their income on a cash basis of accounting.Sometime in 1957, one of respondent's agents began an audit of the taxable years 1953, 1954, and 1955. After the audit, respondent took the position that, where there was a sale of property and a land contract was received, the gain therefrom should be reported in the year in which the sale was made. It was respondent's position at the time that the contracts had a fair market value equal to their face and that consequently the entire amount of the gain should have been reported in the year in which the sale was made, rather than on a deferred basis. Respondent's agent told Howard that he was being placed on an accrual method of 29 accounting.For each of the years 1953, 1954, and 1955, respondent included the entire gain from sales where land contracts were received in the year in which the sale was made. Deficiencies for the foregoing years were agreed to and paid by petitioners. Beginning with the taxable year 1957, petitioners began reporting the entire gain from sales where land contracts were received, in the year in which the sale was made.During the taxable year ended December 31, 1957, Realty sold improved real estate located at 3197 East 81st Street, Cleveland, Ohio (hereinafter referred to as the Murray property), under a land contract, to Cassie B. Murray for $ 5,000. The Murray property had 238 cost Realty $ 3,500. Pursuant to the land contract, Realty received a downpayment of $ 1,300. The aforementioned land contract contained essentially the same provisions as the one executed in connection with the Gaines property except interest was payable at the rate of 8 percent, the monthly payments under the Murray contract were $ 65, and a deed was to be conveyed only after the entire indebtedness had been paid.In their income tax return for the taxable year ended December 31, 1957, petitioners30 included in income the entire gain from the sale of the Murray property. This treatment has not been disturbed by the respondent.Neither petitioners nor Realty have ever elected to use the installment method of accounting as provided in section 44 of the 1939 Code or section 453 of the 1954 Code.Petitioners did not report, in 1951, any gain from the sale of the Gaines property nor did they report any gain, in 1952, from the sale of the Clark property or the Gregory property. Petitioners attached statements to their Federal income tax returns for the taxable years 1957 and 1958 stating that they received proceeds in those years from sales made in 1951 and 1952 but did not include these receipts in income --because of a determination by the Revenue Service putting the taxpayer on the accrual basis with respect to sales of real estate. This determination has been accepted and additional income tax paid as a result thereof. Consistent with this determination by the Revenue Service, this income tax return is filed on the accrual basis.In the notice of deficiency, respondent made the following determinations:(a) In your income tax return filed for the taxable year ended December31 31, 1957, you failed to report income of $ 2,476.51 from the sale of real estate located at 1255 East 111th St., Cleveland, Ohio. Accordingly, your taxable income has been increased by this amount.* * * (a) In your income tax return filed for the taxable year ended December 31, 1958, you failed to report income of $ 2,662.41 and $ 2,840.63 from sales of properties located at 3304 E. 139th St., Cleveland, Ohio, and 1358 E. 111th St., Cleveland, Ohio, respectively. Accordingly, your income has been increased by the total amount of $ 5,503.04.OPINIONIn their petition, petitioners alleged that the gain from the sale of the Gaines, Clark, and Gregory properties was not includable in their income for the respective years 1957 and 1958 because respondent had changed their method of accounting. On brief petitioners took somewhat of an alternative approach and contended that the gain from the respective properties should have been reported 239 in 1951 and 1952 when the sales were made. Petitioners argue that they received, in the year of sale, cash and property equal to the total sales price of each piece of property and that this amount was in excess of the adjusted basis of32 each piece of property for determining gain. Therefore, petitioners contend that under sections 111 1 and 112 2 of the 1939 Code the gain in question should have been reported in 1951 and 1952 rather than in 1957 and 1958.33 Respondent contends that the gain from the three sales in question should be reported in 1957 and 1958 as determined in the notice of deficiency. To support his position, respondent contends that petitioners voluntarily changed their method of accounting in 1957. Respondent contends that from 1951 through 1956 petitioners reported on the cash basis and then changed to the accrual method in 1957 to avoid the payment of taxes on the income from the 1951 and 1952 sales. In his opening statement, respondent stated that the changes he himself had made in the earlier years were merely "adjustments" and limited solely to the years involved. Respondent asserted that "the adjustments were such that the respondent felt that the land contracts had value and therefore under a cash basis of accounting, they are properly includable in income" in the year of sale. Respondent stated that, in any event, there had been no requirement that petitioners change their method of accounting. Respondent next contends that the courts have followed the rule that, where deferred payments are evidenced only by a contract, as in this case, and no other evidence of indebtedness, such as a note or bond, is 34 given to the vendor, the amount of the deferred payments should be included in income only when the payment is received. Harold W. Johnston, 14 T.C. 560">14 T.C. 560 (1950). Therefore, respondent contends the gain should be reported in 1957 and 1958. Respondent's final contention is that, in any event, petitioners have failed to prove the land contracts in question had a fair market value in 1951 and 1952.We have concluded that respondent's contentions must be rejected.240 In essence, respondent has taken the position that the changes he made for the years 1953, 1954, and 1955 were merely corrections of errors, whereas, in the later years petitioners voluntarily changed their method of accounting by taking the same action. Then, respondent apparently proceeds to accept the new method for one purpose, i.e., to tax petitioners on the gain from the Murray sale in 1957, and reject it for another, i.e., to include the income from the 1951 and 1952 sales in 1957 and 1958. This position is untenable.Assuming, arguendo, that petitioners' method of accounting was changed, sections 446 and 481 of the 1954 Code 3 are relevant.35 As originally enacted, section 481(a) 436 provided that where taxable income for any year is computed under a method of accounting different from the method under which income was computed for the preceding year, there shall be taken into account those adjustments determined to be necessary solely by reason of the change in order to prevent amounts from being duplicated or omitted. However, an exception was made for any adjustment in respect of any taxable year to which section 481 did not apply; that is, a year not covered by the 1954 Code. Subsequently, the Technical Amendments Act of 1958 retroactively amended section 481(a) 5 to provide that no adjustment in respect to pre-1954 Code years would be taken into account "unless the adjustment is attributable to a change in the method of accounting initiated by the taxpayer."If the petitioners' method of accounting were changed, the crucial inquiry, under section 481(a), is whether the taxpayers "initiated" 638 241 the change. It is readily apparent that they did not. Prior to 1957, petitioners' method of accounting for sales, where a land contract was received, was to report the gain on a deferred basis. Respondent changed this method and compelled petitioners to report the gain from this type of sale in the year in which it was made. Respondent's action in this respect was no mere suggestion that petitioners make a change. Cf. Irving Falk, 37 T.C. 1078">37 T.C. 1078 (1962),37 on appeal (C.A. 5, July 30, 1962). Respondent took the first step to set the change in motion and took overt steps to cause it to be made; therefore, we conclude that petitioners did not initiate the change. United States v. Lindner, 307 F. 2d 262 (C.A. 10, 1962); cf. Fred P. Pursell, 38 T.C. 263 (1962), affirmed per curiam 315 F. 2d 629 (C.A. 3, 1963). Thereafter petitioners merely began using the new method at the first available opportunity -- 1957. 7 It would be unreasonable to expect them to have done otherwise. Having made his decision, respondent must abide by it with all its attendant consequences. Since respondent "initiated" the change and any adjustments would be with respect to pre-1954 Code years (1951 and 1952), no adjustments are required by section 481(a). Consequently, respondent's determination for 1957 and 1958 cannot be sustained under section 481. 839 Respondent has not cited or discussed the applicability of section 446, but he appears to rely on section 446(e) 9 inferentially. If petitioners had changed their method of accounting without first requesting the permission of the respondent, it is possible he could have insisted that they revert to their old method. However, respondent 242 can find no support in section 446(e) for his determinations since he was the one who caused the change to be made. 1040 Finally, if we assume, arguendo, that respondent is correct, and that the changes he made for the years 1953, 1954, and 1955 were merely "adjustments" or a correction of errors and not a change in petitioners' method of accounting, petitioners must still prevail. Certainly, if the change made by respondent in 1953-55 was merely an adjustment or correction, then the identical change made by petitioners in 1957 and 1958 can only be characterized in similar fashion. When, in 1957 and 1958, petitioners began reporting the entire gain from sales, where a land contract was received, in the year in which the sale was made, the change was entirely consistent with the position respondent took for the prior years and the method was supported fully by the evidence of fair market value of the contracts in question.The uncontradicted testimony of petitioners' expert witness, which we accept, was that the land contracts from the 1951 and 1952 sales had a fair market value equal to their face amount in the respective years in which they were received. 11 Therefore, the income from the sales in 1951 and 1952 should have been reported in those years rather than in 1957 and 1958. John W. Commons, 20 T.C. 900">20 T.C. 900 (1953);41 secs. 111 and 112, 1939 Code, supra. The fact that a taxpayer has not paid income tax on income in a previous period does not make it income in a subsequent period if it does not belong in that year. See Security Mills Co. v. Commissioner, 321 U.S. 281">321 U.S. 281 (1944); Welp v. United States, 201 F. 2d 128 (C.A. 8, 1953); Lauinger v. Commissioner, 281 F. 2d 419 (C.A. 2, 1960), remanding on another issue 31 T.C. 934">31 T.C. 934 (1959); Pacific Coast Biscuit Co., 39">32 B.T.A. 39 (1935); Jamieson v. United States, 10 F. Supp. 321 (D. Mass. 1935). Commissioner v. Dwyer, 203 F. 2d 522 (C.A. 2, 1953), affirming a Memorandum Opinion of this Court.42 *243 We conclude that respondent's determinations for 1957 and 1958 were erroneous. Accordingly, we hold for the petitioners on this issue.Decision will be entered under Rule 50. Footnotes1. SEC. 111. DETERMINATION OF AMOUNT OF, AND RECOGNITION OF, GAIN OR LOSS.(a) Computation of Gain or Loss. -- The gain from the sale or other disposition of property shall be the excess of the amount realized therefrom over the adjusted basis provided in section 113(b) for determining gain, and the loss shall be the excess of the adjusted basis provided in such section for determining loss over the amount realized.(b) Amount Realized. -- The amount realized from the sale or other disposition of property shall be the sum of any money received plus the fair market value of the property (other than money) received.(c) Recognition of Gain or Loss. -- In the case of a sale or exchange, the extent to which the gain or loss determined under this section shall be recognized for the purposes of this chapter, shall be determined under the provisions of section 112.↩2. SEC. 112. RECOGNITION OF GAIN OR LOSS.(a) General Rule. -- Upon the sale or exchange of property the entire amount of the gain or loss, determined under section 111, shall be recognized, except as hereinafter provided in this section.↩3. Unless otherwise stated, all references are to the Internal Revenue Code of 1954.↩4. SEC. 481. ADJUSTMENTS REQUIRED BY CHANGES IN METHOD OF ACCOUNTING.(a) General Rule. -- In computing the taxpayer's taxable income for any taxable year (referred to in this section as the "year of the change") -- (1) if such computation is under a method of accounting different from the method under which the taxpayer's taxable income for the preceding taxable year was computed, then(2) there shall be taken into account those adjustments which are determined to be necessary solely by reason of the change in order to prevent amounts from being duplicated or omitted, except there shall not be taken into account any adjustment in respect of any taxable year to which this section does not apply.↩5. The amended paragraph now reads: (2) there shall be taken into account those adjustments which are determined to be necessary solely by reason of the change in order to prevent amounts from being duplicated or omitted, except there shall not be taken into account any adjustment in respect of any taxable year to which this section does not apply unless the adjustment is attributable to a change in the method of accounting initiated by the taxpayer↩. [Emphasis supplied.]6. As used in section 481(a)(2), the word "initiate" has been interpreted to mean "to introduce by a first act; to make a beginning with; to originate; begin." Fred P. Pursell, 38 T.C. 263 (1962), affirmed per curiam 315 F. 2d 629 (C.A. 3, 1963); United States v. Lindner, 307 F. 2d 262 (C.A. 10, 1962). Changes in methods of accounting initiated by the taxpayer include a change in method of accounting which he originates, by requesting permission of the Commissioner to change, and also cases where taxpayer shifts from one method of accounting to another without the Commissioner's permission. A change in the taxpayer's method of accounting required by a revenue agent upon examination of the taxpayer's return would not, however, be considered as initiated by the taxpayer. H. Rept. No. 775, 85th Cong., 1st Sess., p. 20 (1957), 3 C.B. 830">1958-3 C.B. 830; S. Rept. No. 1983, 85th Cong., 2d Sess., p. 45 (1958), 3 C.B. 966">1958-3 C.B. 966↩.7. While it is true that petitioners stated in their returns that they were reporting on an "accrual basis," we are satisfied that they were only referring to the fact that they had changed their method of reporting gain from sales where a land contract was received. The use of the label "accrual basis" was, no doubt, due to the revenue agent's statement that petitioners were being placed on the accrual method of accounting. Respondent made no attempt, at the trial, to refute this view; although the examining agent was present at the trial, he did not testify.↩8. Even if we were to assume, arguendo↩, that a change in petitioners' method of accounting was voluntarily made by petitioners, the amounts respondent determined for the years 1957 and 1958 appear to be erroneous. The adjustments required by section 481(a) are taken into account in the year of change, unless one of the spreading provisions of section 481(b) is applicable. Thus, it is possible that no deficiency could be sustained for 1958 and the determination for 1957 be limited to the amount determined since respondent has not asked for a greater deficiency in 1957, or the deficiencies for each year could be less than determined depending on which one of the spreading provisions of section 481(b) might be applicable.9. SEC. 446. GENERAL RULE FOR METHODS OF ACCOUNTING.(e) Requirement Respecting Change of Accounting Method. -- Except as otherwise expressly provided in this chapter, a taxpayer who changes the method of accounting on the basis of which he regularly computes his income in keeping his books shall, before computing his taxable income under the new method, secure the consent of the Secretary or his delegate.↩10. Even assuming, arguendo↩, that petitioners did change their method of accounting without first seeking the permission of the Commissioner, it is again doubtful that the correct deficiencies were determined for 1957 and 1958. The Gaines contract provided for monthly payments of $ 110 each, yet respondent determined that petitioners had a gain of $ 2,476.51 in 1957. The Clark contract provided for monthly payments of $ 100 each and the Gregory contract provided for monthly payments of $ 105 each in the later years, yet respondent determined that income from the respective contracts was $ 2,662.41 and $ 2,840.63 in 1958. At the very least, it would appear that an adjustment should have been made in petitioners' income for 1957 because of the Murray sale. The entire gain on the sale of the Murray property was taken into account in the year of sale which was contrary to petitioners' prior method.11. Although respondent took the position that in 1953, 1954, and 1955 the land contracts had a fair market value equal to their face value, he apparently now takes the position that as a matter of law the land contracts received in 1951 and 1952 could have no fair market value. Contrary to this latter view, land contracts can and do at times have a fair market value. See Darby Investment Corporation, 37 T.C. 839">37 T.C. 839 (1962), affd. 315 F. 2d 551 (C.A. 6, 1963); sec. 1.1001-1(a), Income Tax Regs.; cf. Nina J. Ennis, 17 T.C. 465">17 T.C. 465↩ (1951). Whether a land contract has a fair market value is a question of fact to be decided after a consideration of all the attendant circumstances.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623670/	Zareh Nubar, Petitioner, v. Commissioner of Internal Revenue, RespondentNubar v. CommissionerDocket No. 9948United States Tax Court13 T.C. 566; 1949 U.S. Tax Ct. LEXIS 62; October 18, 1949, Promulgated 62 Decision will be entered under Rule 50. The petitioner, an alien, was present in the United States continuously from August 1939 until August 1945. He was admitted under a visitor's visa which allowed him a stay of three months, but the time was extended because of difficulties of returning to Europe, and he was allowed to remain until cessation of hostilities in Europe. During the taxable years, large transactions on securities and commodities exchanges in the United States were effected for petitioner by resident brokers. Under the facts, held (1) that petitioner was a nonresident alien, and (2) that he was not engaged in a trade or business within the United States, so that under sections 211 (a) and (b) he was not taxable on income from sources outside the United States or on his capital gains from sources within the United States. Henry Mannix, Esq., and Charles K. Rice, Esq., for the petitioner.William F. Evans, Esq., for the respondent. Harron, Judge. HARRON 567 The Commissioner has 64 determined deficiencies in income tax as follows:1941$ 55,572.111943115,370.401944147,277.75The year 1942 is not involved in this proceeding because of the provisions of the Current Tax Payment Act of 1943. The amounts of various classes of alleged income are not in dispute. Petitioner concedes that the respondent has correctly adjusted the amounts of certain items of income and of deduction.The Commissioner has made the determination that the petitioner was a resident alien of the United States during the years 1941 through 1944, subject to Federal income tax upon all income from all sources, whether outside or inside the United States, and has included in gross income gains realized upon sales which were made in the United States of capital assets located in the United States, and certain income from sources outside the United States.There are two questions for decision: (1) Whether or not the petitioner was a resident alien of the United States during the years 1941 through 1944; and (2) whether or not the petitioner was engaged in trade or business in the United States during the same years. The petitioner contends that he was a nonresident alien, and that, 65 under the provisions of section 211 (b) of the Internal Revenue Code, his transactions in securities and commodities futures did not constitute engaging in trade or business in the United States.The record in this proceeding consists of a stipulation of facts, the testimony of petitioner and several witnesses, and exhibits.The income tax returns of the petitioner for the years involved in this proceeding were filed with the collector of internal revenue for the district of Maryland.FINDINGS OF FACT.The facts which have been stipulated are found as facts, and the stipulation is adopted as part of the findings of fact.568 Zareh Nubar is a native citizen of Egypt, of Armenian descent. He was born in Alexandria in 1884. He is a man of great wealth and comes from a family of wealth and distinction. His grandfather, Nubar Pasha Nubar, was a Prime Minister of Egypt, and is regarded as the first great statesman of modern Egypt. Petitioner's father, Boghos Pasha Nubar, was a philanthropist and founder of the Armenian General Benevolent Union, a charitable organization devoted to alleviating the suffering of Armenians throughout the world.The petitioner attended schools in England. 66 He married an English citizen in 1920. Two daughters born of this marriage are living. Petitioner's wife died in 1944. She was in Switzerland at the time of her death.The petitioner has never practiced any profession or pursued any employment. He received income from his father, and later lived upon and managed his inheritance. He is a man of scholarly interests and pursuits.The petitioner carried on transactions on the stock exchange in France from time to time, beginning in 1907. He carried on operations on foreign stock exchanges in 1917 and 1924, when he suffered losses. After the death of his father in 1930, his stock exchange transactions involved larger sums. In 1930, or at about that time, he opened accounts in New York with H. Hentz & Co., and with White, Weld & Co. through its Paris subsidiary named Quotations Facilities Corporation. In these accounts, the transactions involved American securities.Prior to 1920 petitioner visited the following countries: United States in 1910; Turkey, Greece, Egypt, the Sudan, Russia, Norway, Sweden, Germany and England in 1911; Greece and Macedonia in 1914; and Italy in 1920.Prior to 1915 the petitioner's residence was in 67 Cairo, Egypt, but in 1915 petitioner and his father became residents of Paris. After his marriage, the petitioner leased an apartment in Paris, which he maintained continuously until 1944, when new owners of the property decided to terminate the lease.In 1930 the petitioner's father gave petitioner's daughters property in Geneva, Switzerland, where a family residence was built which was occupied by petitioner and members of his family during summer periods.The petitioner was in the United States from August 1, 1939, until August 15, 1945. After spending a short time with his daughters in Geneva he returned to Paris in March 1946, where he lived thereafter, and he is now a resident of Paris. When this proceeding came on for trial, he came to the United States to give his testimony and then departed.569 After the petitioner left Paris in 1939, his wife and daughters went to Geneva. During the war they were, at various times, in occupied France, unoccupied France, and Switzerland. During the petitioner's absence from Paris, until sometime in 1944, the petitioner kept his Paris apartment, and paid rent for it regularly.The petitioner was admitted to the United States on 68 August 1, 1939, prior to the outbreak of war in Europe on September 1, 1939, on a three-month visitor's visa. His purpose in coming to the United States was to see the New York World's Fair, to talk with Dr. Einstein, and to travel in the United States, and later in Central and South America.Prior to the expiration of his three-month visitor's visa, on November 1, 1939, petitioner applied for an extension of his stay and was granted an additional six months, extending the time of his visit to about April 21, 1940. Thereafter, further extensions were applied for, and the petitioner received two additional stays, which extended his visit until October 21, 1940, and December 31, 1940, respectively. Petitioner did not leave the United States on or after December 31, 1940, and on January 15, 1941, a warrant for his arrest was issued by the Department of Justice, charging that petitioner was in the United States in violation of the immigration laws and was subject to deportation. He was taken into custody and released on a bond which remained in effect until his departure from the United States in August 1945.After his arrest and release on bond in 1941, the petitioner filed several69 requests for delay of his hearings before the Immigration Board, which were granted. Finally, on October 23, 1943, he was again taken into custody and was held at Ellis Island. After hearing and review by the Board of Immigration Appeals, it was ordered that the order of deportation should not be entered at that time, but that petitioner would be required to leave the United States at his own expense within ninety days after the termination of hostilities in Europe.During the deportation hearings in 1943 the petitioner applied for permission to proceed to Canada and to reenter the United States on an immigrant's visa. This application was denied by the Department of State because the petitioner had stated that he desired to rejoin his family in Europe and did not intend to establish permanent residence in the United States.On forms which the petitioner submitted to the Immigration Service, dated October 23, 1943, he stated that his permanent residence address was in Paris.On August 15, 1945, the petitioner departed from the United States to go to Switzerland. He remained there with his daughters until March 1946, when he returned to Paris.570 When the petitioner came70 to the United States in 1939, he brought with him only a small amount of clothing. During the period from August 1, 1939, to August 15, 1945, petitioner lived at the Hotel Piccadilly in New York City, a moderate price hotel. He did not retain a room there during the period when he was traveling in the United States in 1940. He engaged only a single room at the hotel at weekly rates of from $ 8.50 to $ 17.50 a week. It was his custom when he left New York on week ends to check out of the room to which he was assigned and leave his luggage, consisting of one bag, in the check room.During 1940 and 1941 the petitioner made four unsuccessful applications for a Mexican visitor's visa to visit that country, on April 29, 1940; June 4, 1940; July 15, 1940; and February 17, 1941. In his application for permission to enter Mexico which was made on April 29, 1940, the petitioner stated that he desired to visit archeological ruins and then intended to leave Mexico from Vera Cruz or from Suchiate, if he visited Guatemala. At the same time, he applied to the Egyptian consul at San Francisco for an extension of his passport, stating that he wished to go to Central and South America and that71 the Mexican Government wanted validity a year ahead; and that he wished to go to Switzerland via France or Italy. It was petitioner's intention then not to return to the United States if he received admission to Mexico, but to continue on his travels to South America. After the applications to enter Mexico were denied, the petitioner returned to New York City in the summer of 1940, and from there he made his third application for permission to enter Mexico.Petitioner inquired of the French consulate in the summer of 1940 about returning to France, but was told that he could not return to either occupied or unoccupied France.Petitioner visited Florida in the early part of 1941, and from Miami made his fourth application on February 17, 1941, to enter Mexico, which was denied. Petitioner returned to New York City in April 1941.The petitioner applied to the Swiss Consulate in New York City in April 1941, for a Swiss visa, but did not receive it until August, when it was valid for only one month beyond the date of receipt. Petitioner had not been able to secure other necessary visas from either the French, Spanish, or Portuguese Consulates, because they would not issue them. The72 delays in getting other visas, plus the dangers of war time travel and poor health, made the petitioner abandon his plan to return to Switzerland at that time.In several requests which the petitioner made for extensions of his visitor's visas, he requested extension of his stay for "one year or the end of the war" and stated that he could not return to France or Switzerland on account of the war.571 The petitioner frequently expressed his intention and desire of returning to either France or Switzerland to join his family. In applications for extensions of his visitor's visa, he gave his Paris address. He declined to serve as a member of the board of directors of the Armenian General Benevolent Union, with headquarters in the United States, to which he was elected in October 1942, because he was temporarily in the United States and did not wish to undertake any permanent commitments. He told the presiding inspector of the Immigration and Naturalization Service in New York City, during the hearing on deportation in October 1943, that he desired to return to Egypt as soon as the war was over.In 1941, after consulting a heart specialist, the petitioner learned that he was73 suffering from a heart condition. In April 1944 he entered a hospital in New York City for observation. At that time his physician advised him to make his will, and was of the opinion that it would be detrimental, if not fatal, for the petitioner to make a trans-Atlantic trip under war time conditions.The Government of Egypt ended diplomatic relations with the Government of Germany on September 3, 1939; with the Government of Italy on June 12, 1940; and with the Government of Japan on December 9, 1941. It ended diplomatic relations with the Vichy French Government on January 6, 1942. It declared war on Germany and Japan on February 24, 1945. The Anglo-Egyptian Treaty of Alliance was signed at London on August 26, 1936. Under the terms of this treaty, England was allowed, as the ally of Egypt, to maintain armed forces and airplanes in Egypt and was permitted to use Alexandria and Port Said as naval bases and to move her troops over Egyptian territory in the event of war. This treaty was in effect during the period from September 3, 1939, to August 15, 1945.German armed forces occupied northern and northwestern France, including the city of Paris, in June 1940 and occupied 74 all of France on November 11, 1942.The petitioner's wife and daughters were in Switzerland at the outbreak of the European war in 1939. They remained in Geneva until shortly after the commencement of the German offensive in May 1940. Fearing that the Germans would also invade Switzerland, they fled ahead of the German Army to Arcachon, France, near Bordeaux. This territory was soon occupied by the German Army. The petitioner's wife and daughters remained in occupied France until early in 1941. At that time the Germans ordered the petitioner's wife to report to German authorities in Bordeaux. Instead, the petitioner's wife, with her daughters, escaped through the woods across the line into unoccupied France and proceeded to Vichy. They remained in Vichy a short time, due to the illness of one of the daughters, 572 and thereafter made their way back to Switzerland, arriving in the spring of 1941.The petitioner occupied his time while in the United States in several ways. After his arrival in August 1939, he spent a month intensively visiting the New York World's Fair. During the fall and winter of 1939-1940, he did considerable sightseeing in eastern cities visiting 75 universities and other places of interest. Numerous banquets were given in his honor by various chapters of the Armenian General Benevolent Union. He also spent some time in refreshing his knowledge of mathematics in preparation for an interview with Dr. Einstein.In February 1940 the petitioner was granted an interview by Dr. Einstein. Shortly thereafter the petitioner left on a trip to the west coast, visiting Niagara Falls, Detroit, Chicago, the Museum of Dinosaurs in Lincoln, Nebraska, and Salt Lake City en route. He reached Los Angeles in April 1940 and remained in California about a month, returning to New York City in July, after two unsuccessful attempts to obtain a visa to visit Mexico. He then went to Florida for the winter. The petitioner returned to New York in April 1941.During the period from 1941 to 1945, the petitioner occupied much of his time in writing a book based upon his conception of his duty to help prevent future wars. He had no intention of making a profit from the book. He submitted this manuscript, which consisted of 323 typewritten pages, to the Yale and Harvard University Presses in 1945, but they refused to accept it for publication.The petitioner76 also traded on American security and commodity exchanges during his stay here.In June and July of 1938, prior to his coming to this country, he transferred $ 165,000 to his account with White, Weld & Co. This money was immediately used to purchase securities on margin. About three-quarters of the amount purchased was sold two days later, and the remainder liquidated shortly thereafter.When he arrived here in August 1939, petitioner had brokerage accounts open with White, Weld & Co., with whom he had a credit balance of approximately $ 202,709, and with H. Hentz & Co., with whom he had a credit balance of approximately $ 32,000. He also had securities valued at about $ 100,000 deposited in a custodian account with the Chase National Bank in New York City.During 1939 and 1940 the petitioner's accounts with his brokers in the United States remained relatively inactive.From 1941 through 1944, inclusive, the taxable years in question, petitioner's accounts with his brokers were very active. In addition to the accounts with White, Weld & Co. and H. Hentz & Co., he opened accounts with the firm of Merrill, Lynch, Pierce, Fenner & Beane, with Ira Haupt & Co., with Herbert E. Stern77 & Co., with Thomson & McKinnon, and with W. R. K. Taylor & Co. The largest trading 573 accounts were with White, Weld & Co. and H. Hentz & Co. The transactions which the brokerage accounts reflected were chiefly purchases of stocks and bonds, and sales thereof. A large volume of transactions was handled on margin. In addition, petitioner had special accounts for arbitrage and straddle transactions, and dealings in commodities. The commodities futures accounts were chiefly with White, Weld & Co. and Ira Haupt & Co.All of the transactions in the various accounts of the petitioner were effected through brokers to whom petitioner gave orders. At White, Weld & Co. the broker who handled the transactions was Nicholas Molodovsky, whom the petitioner had known in Europe, where Molodovsky had been engaged in the brokerage business. Molodovsky came to the United States in 1939. At H. Hentz & Co., the broker who handled the transactions was E. Milo Greene. Both men were personal friends of the petitioner. Greene and Molodovsky telephoned the petitioner almost daily about market conditions when he was in New York City. The petitioner visited the offices of these two firms about78 once a week when he was in New York City.When the petitioner came to the United States in August 1939, his total assets in the United States, consisting of securities and cash, had a value of about $ 334,709.The following schedule indicates the volume of purchases and sales of stocks and bonds during 1941 through 1944 which were made by brokers for petitioner and the amount of the net capital gains:Number of transactions Number of securities PurchasesSalesYearPurchasesSalesStocksBondsStocksBonds(shs)(M)(shs)(M)1941776024,95098221,40053419422436026,1002,4306,200874194318511172,2001,91934,1351,11419441259787,8011,04147,1751,569Number of transactions Value NetYearPurchasesSalesPurchasesSalescapitalgain19417760$ 317,253.44$ 347,643.27$ 62,795.05194224360930,508.86361,160.3962,281.1419431851111,399,207.44990,535.72229,244.671944125971,126,309.181,053,240.62209,823.7379 The petitioner realized capital gains and losses from the transactions in commodities futures as follows:1941$ 62,795.051942(loss)4,162.8619432,775.3019441,660.00The petitioner executed Treasury Department Form 1044 Alien's Questionnaire, under oath, on August 9, 1945, prior to leaving the United States, in which he stated that his total assets were $ 100 in cash and $ 2,496,952 in securities. He stated that his liabilities included a loan of $ 721,423.53.574 The petitioner received dividends and interest during 1941 through 1944, as follows:SourcesForeignwithinsourcesU. S.1941$ 29,051$ 5,069.00194239,0788,693.71194358,20313,881.05194466,03034,506.40The petitioner was a nonresident alien during the period he was in the United States, and in the years 1941 to 1944, both inclusive.The petitioner did not have an office or place of business in the United States through which or by the direction of which transactions in commodities were effected. The petitioner's transactions in the United States in stocks, securities, and commodities during the taxable years in question were effected through resident brokers. 80 The petitioner was not engaged in trade or business in the United States at any time during the taxable years in question.Subsequent to the filing of the petition in this proceeding, the petitioner, in order to avoid accumulation of interest, paid the deficiencies in income tax, plus interest to February 4, 1946, which the Commissioner has determined in the following amounts:1941$ 68,678.741943128,687.331944155,205.53Total352,571.60OPINION.The questions for decision are (1) whether or not petitioner was a resident alien during the periods in question, and (2) whether or not he was engaged in a trade or business in the United States during the periods in question, so as to be taxable on capital gains and on income from sources outside the United States.Petitioner contends that he was a nonresident alien within the meaning of section 211 (a) of the Internal Revenue Code, 1 that he 575 was not engaged in any business in the United States during the taxable years 1941 through 1944 inclusive, and that, therefore, he is not taxable on the capital gains which he realized from the transactions which were carried on in the United States in the security81 and commodity futures markets through brokerage accounts.82 The respondent has determined that the petitioner was a resident alien during the taxable years and, therefore, that he is taxable on all his net income including capital gains from all sources. Respondent also contends that the petitioner was engaged in a trade or business in the United States and is, therefore, taxable on all his income from sources within the United States.Whether or not a person is a "resident" of a country is a question to be determined by all of the facts and circumstances present in each individual case. See J. P. Schumacher, 32 B. T. A. 1242. The intention of an individual is a highly important factor. See Beale, Conflict of Laws, vol. 1, p. 109, sec. 10.3, where the following is stated: * * The difference between three conceptions, that of sojourn, residence, and domicil (not now including domicil by operation of law) is one purely of intention. To become a sojourner, no intention whatever is necessary, merely the fact of personal existence in the place. For residence there is an intention to live in the place for the time being. For the establishment of domicil the intention must be not merely to live in the place 83 but to make a home there. * * A residence may continue to exist in spite of a temporary absence from it, although the absence may be long continued. A mere temporary sojourn in the state cannot be taken to be residence. If a man is sojourning in a place, he becomes a resident thereof at the moment of his intending to become a resident, in the same way that a resident becomes domiciled at the moment of forming an intention to fix a home in the place. * * The meaning of the term "residence" in statutes has been the subject of much interpretation. With respect to its meaning in revenue laws, the following observation is made by Beale, supra, p. 111, sec. 10.4, quoting from Barhydt v. Cross, 136 N. W. 525: * * This consideration requires that a man should have a residence somewhere, but that he should have one residence only since otherwise he would bear a double burden. "Courts endeavor to construe revenue laws so that each one will share his just burden of taxation; and he should pay his taxes somewhere. Hence it is the universal rule, in construing revenue statutes, that, as a man must have a domicile or taxing residence somewhere, 84 his old residence will be deemed his present one until a new one is acquired. If this were not the rule, a man might escape taxation altogether." It is therefore very generally agreed that the words "resident" or "inhabitant," in statutes referring to taxation, are synonymous with the legal term "domiciled"; and that a man must pay his taxes as a "resident" at his place of domicil * .The pertinent provisions of the statute, sections 211 (a) and (b), refer to "nonresident" aliens, but the term "nonresident" in the above statutory provisions has been construed to apply to those who are 576 physically present in the United States as well as to those who are not. See Florica Constantinescu, 11 T. C. 37, 42, where we said:* * * Of course, during all of the time in question she was physically present in the United States, but mere physical presence in a foreign country, even though it is considerably prolonged, is not of itself sufficient to establish residence. Cf. Michael Downs, 7 T.C. 1053">7 T. C. 1053; affd., 166 Fed. (2d) 504; certiorari denied, 334 U.S. 832">334 U.S. 832; Arthur J. H. Johnson, 7 T. C. 1040.85 Upon consideration of all of the evidence in this proceeding and careful scrutiny of all of the facts and circumstances, it has been found as a fact that the petitioner was a nonresident alien during the taxable years in question, 1941 through 1944.The petitioner's testimony and that of his witnesses are that the petitioner's intention in coming to the United States was to see the New York World's Fair, to speak with Dr. Einstein, and to travel, first in the United States and then in Central and South America. There is considerable evidence in this proceeding which corroborates the petitioner's testimony that his intent was to be a sojourner, or visitor, in the United States rather than a resident. For example, the petitioner came to the United States with no other possessions than the minimum amount of clothing ("he traveled light"), and his living arrangements in a hotel were that of a transient. His family was in Europe, all of his household goods were there in a residence which he maintained and intended to maintain during his entire absence, and all of his personal possessions were in Europe. He had a home in Switzerland, to which he could return. He expressed the intention86 to various officials, friends, and immigration authorities that he desired to return to Europe to his family as soon as it was possible to do so. The petitioner carried out his intentions with respect to his visit to the United States, as set forth above. He traveled across the United States, visiting many places and endeavored to continue his journey into Mexico, but was unable to do so. War conditions frustrated his efforts to fully carry out his plans to travel in the western hemisphere. Almost all of the affirmative acts of the petitioner confirm his testimony that he did not intend to become a resident of the United States.It is true that the petitioner remained in the United States after the expiration of extensions of his visitors' permit, and that he was arrested as a violator of the immigration laws on January 15, 1941. However, the fact that he was allowed to remain in the United States from the time of his arrest on January 15, 1941, until the date of his voluntary departure on August 15, 1945, by the immigration officials shows that war time conditions made his return to either France or Switzerland or Egypt either impossible or hazardous. Otherwise, since he was87 in the custody of the immigration officials, released upon his bond only, they would have executed their duties by either forcible 577 deportation or by refusing to allow him to remain longer, and then to depart voluntarily. Under these circumstances, and upon consideration of the evidence, we are satisfied with the petitioner's testimony that he remained in the United States after January 15, 1941, because of the obstacles which war time conditions put in the way of his leaving this country and going to another one into which he could be admitted. Therefore, it has been found as a fact that the petitioner was a nonresident alien during the taxable years.The above conclusion is based upon the particular facts of this proceeding, and it is not premised upon any presumption that the limitation of an alien's stay in the United States by the immigration laws is determinative of the alien's status as that of a nonresident. See Florica Constantinescue, supra, p. 41.There remains to be decided the question of whether or not petitioner, even though he was a nonresident alien individual, was engaged in a trade or business within the United States because88 extensive speculative transactions in securities and commodity futures were effected by resident brokers for him. We think that section 211 (b) of the Internal Revenue Code, which is set forth in the margin, 2 clearly provides that transactions in the United States in commodities, or in stocks or securities of a kind customarily dealt in on an exchange, if effected through a resident broker, do not constitute carrying on a trade or business.89 Before the Revenue Act of 1936 was enacted, profits realized by a nonresident alien trading on the security or commodity exchanges of the United States were taxable as income derived from sources within the United States. This was changed by section 211 of the Revenue Act of 1936, similar to the present section 211. House Report No. 2475, 74th Cong., 2d sess., to accompany the Revenue Bill of 1936, explains the change (pp. 9-10):A nonresident [alien] will not be subject to the tax on capital gains, including gains from hedging operations, as at present, it having been found impossible 578 to effectually collect this latter tax. It is believed that this exemption from tax will result in additional revenue from the transfer taxes and from the income tax in the case of persons carrying on the brokerage business. * * It is believed that the proposed revision of our system of taxing nonresident aliens * * * will be productive of substantial amounts of additional revenue since it replaces a theoretical system impracticable of administration in a great number of cases.Nonresident aliens who are not engaged in trade or business within the United States are subject to a withholding90 tax at the source imposed upon their gross income from certain enumerated types of income derived from sources within the United States. Capital gains from the sale of securities or commodities on regulated commodity exchanges are not one of the enumerated sources in section 211 (a).Section 211 (b), in defining the term "engaged in a trade or business within the United States," specifically exempts trading on the security or commodity exchanges through a resident broker, commission agent, or custodian. This is consistent with section 211 (a), which does not include gains from such transactions in the enumerated sources subject to the withholding tax. While Congress was concerned primarily with transactions effected by nonresident aliens from abroad through resident brokers, it did not so limit the exemption in section 211 (b), nor is there any reference to any such limitation in the committee reports. It is doubtful that Congress would have wanted to discourage travel in the United States by making any differentiation between nonresidents who visited the United States during the taxable year and those who did not. When section 211 was enacted in 1936, conditions under which 91 a person could live in the United States for a considerable length of time and still be classified as a nonresident for tax purposes apparently were not envisaged.Congress, however, did distinguish in section 211 (b) between those nonresident aliens "temporarily present in the United States for a period or periods not exceeding a total of ninety days during the taxable year and whose compensation for such service does not exceed in the aggregate $ 3,000," and those who were here for longer periods in defining "engaged in a trade or business within the United States." But no similar distinction was made between nonresident aliens effecting stock or commodity exchange transactions from abroad through a resident broker, commission agent, or custodian, and nonresident aliens physically present in the United States and effecting similar transactions. 392 579 Respondent invites our attention to the case of Fernand C. A. Adda, 10 T. C. 273; affd., 171 Fed. (2d) 457. In that case Adda, a nonresident alien who was not in the United States, had empowered his brother, who resided in the United States, to deal in commodity futures at his own discretion through resident brokers for Adda's account. We held that the petitioner in that proceeding was engaged in a trade or business within the United States and was taxable as a nonresident alien so engaged. Our decision was based on the fact that Adda had not complied with the letter of the statute, that he was effecting his transactions not through a resident broker, but through an agent who was resident in the United States. Analogy was made to section 219 of the Internal Revenue Code, which provides that a nonresident alien individual member of a partnership shall be considered as engaged in a trade or business within the United States if the partnership is so engaged, since each partner is the agent of each other partner within the scope of the partnership business.The facts in the instant case are different. All transactions93 were carried on through a resident broker in conformity with the statute, and the petitioner in the instant proceeding made all decisions as to the purchase and sale of securities and commodities himself. In the Adda case we pointed out that the resident agent, Adda's brother, was using his own discretion in the operations which he conducted and that Adda was taking advantage of "decisions made in the United States by one who is not a resident broker, commission agent, or custodian." This fact was pointed out to show that Adda was engaging, through his agent, in business in the United States. If Adda had made all the decisions from abroad, with the agent a mere conduit to convey them to the broker, the facts would have presented a different question. Such question was not decided in the Adda case; but, without deciding such question here, it is apparent that a strong contention could be made that such transactions would come within the exemption of section 211 (b). See Scottish American Investment Co., 12 T.C. 49">12 T. C. 49.It is clear by virtue of the specific provisions and legislative history of section 211 (b) that the activities of the petitioner, 94 despite his physical presence in the United States, were not such as to constitute engaging in a trade or business in the United States within the intendment of section 211 (b) of the Internal Revenue Code.It is held that the respondent erred in including in the petitioner's income for the taxable years income from sources outside the United States; and that he erred in including in the income derived from sources within the United States the capital gains realized from the sales of capital assets.Decision will be entered under Rule 50. Footnotes*. These figures are only approximated due to the fact that the exhibits are not clear. The number of transactions in each year are not shown clearly by the exhibits and are only estimated in the above schedule.↩1. SEC. 211. TAX ON NONRESIDENT ALIEN INDIVIDUALS [as amended by Revenue Act of 1942].(a) No United States Business or Office. --(1) General rule. --(A) Imposition of Tax. -- There shall be levied, collected, and paid for each taxable year, in lieu of the tax imposed by sections 11 and 12↩, upon the amount received, by every nonresident alien individual not engaged in trade or business within the United States, from sources within the United States as interest (except interest on deposits with persons carrying on the banking business), dividends, rents, salaries, wages, premiums, annuities, compensations, remunerations, emoluments, or other fixed or determinable annual or periodical gains, profits, and income, a tax of 30 per centum of such amount, except that such rate shall be reduced, in the case of a resident of any country in North, Central, or South America, or in the West Indies, or of Newfoundland, to such rate (not less than 5 per centum) as may be provided by treaty with such country.2. SEC. 211. TAX ON NONRESIDENT ALIEN INDIVIDUALS.(b) United States Business or Office. -- A nonresident alien individual engaged in trade or business in the United States shall be taxable without regard to the provisions of subsection (a). As used in this section, section 119, section 143, section 144, and section 231↩, the phrase "engaged in trade or business within the United States" includes the performance of personal services within the United States at any time within the taxable year, but does not include the performance of personal services for a nonresident alien individual, foreign partnership, or foreign corporation, not engaged in trade or business within the United States, by a nonresident alien individual temporarily present in the United States for a period or periods not exceeding a total of ninety days during the taxable year and whose compensation for such services does not exceed in the aggregate $ 3,000. Such phrase does not include the effecting, through a resident broker, commission agent, or custodian, of transactions in the United States in commodities (if of a kind customarily dealt in on an organized commodity exchange, if the transaction is of the kind customarily consummated at such place, and if the alien, partnership, or corporation has no office or place of business in the United States at any time during the taxable year through which or by the direction of which such transactions in commodities are effected), or in stocks or securities.3. An attempt was made in Congress in 1948 to narrow the exemption allowed by the last sentence of section 211 (b)↩ by distinguishing between nonresident aliens physically present in the United States for 90 days or more and those who were not. In the Revenue Revision Act of 1948 which passed the House of Representatives, there is a provision which dealt with this loophole by imposing a 30 per cent tax on net capital gains derived from sources within the United States by nonresident aliens not engaged in trade or business in the United States but temporarily present here. This bill was never acted upon by the Senate and failed to become law.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623671/	O. J. MORRISON DEPARTMENT STORE COMPANY, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT. MORRISON DEPARTMENT STORE COMPANY, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.O. J. Morrison Dep't Store Co. v. CommissionerDocket Nos. 31247, 39590.United States Board of Tax Appeals23 B.T.A. 895; 1931 BTA LEXIS 1802; June 29, 1931, Promulgated 1802 Upon cash retail sales of merchandise the petitioners issued to customers sales slips redeemable in merchandise. The merchandise thus given as premiums in the redemption of the sales slips was included in the cost of merchandise and in the merchandise inventories at the beginning and close of the year; when sales slips were redeemed, retail sales were not affected thereby; the cost of the premium merchandise was deducted from gross income in obtaining the taxable income.Held, that the petitioners are not entitled to a further deduction from gross income of any amount representing the liability of the petitioners to redeem the sales slips issued. Michael M. Doyle, Esq., and J. S. Wolfe, Esq., for the petitioners. L. W. Creason, Esq., for the respondent. SMITH 895 These proceedings, consolidated for hearing, are for the redetermination of deficiencies as follows: PetitionerYearDocket No.O. J. Morrison Department Morrison Department Store Co.Store Co.192331247$750.0019243124794.0019253124777.99192639590$333.80896 The petitioner in Docket No. 31247 alleges1803 that the Commissioner erred in failing to allow premium expense as follows: 1923$15,352.00192413,576.83192512,426.87 The petitioner in Docket No. 38590 alleges that the Commissioner erred in failing to allow expense incurred in the issue of premiums or trading stamps in the amount of $2,475.58 for the year 1926, which was set up as a reserve at the close of the year. FINDINGS OF FACT.O. J. Morrison, a man who has been in the department store business in West Virginia for 39 or 40 years, owns interests in a number of corporations and/or partnerships in the State of West Virginia, among which are the two petitioners involved herein, the O. J. Morrison Department Sotre Company, charleston, W. Va., Docket No. 31247, and the Morrison Department Store Company, Huntington, W. Va., Docket No. 39590. The former was organized in 1910; the latter on November 14, 1914. Each of these stores or corporations has from the beginning followed a practice of giving premiums in merchandise under certain specified conditions in redemption of its sales slips issued to customers in connection with cash sales of merchandise. The petitioners never issued trading stamps1804 or coupons in the usual meaning of the term, but issued ordinary sales slips, which, in order to be valid for premiums, were validated by being stamped in the cash register. The sales slips show on their face the amount of the sale and contain a statement on their back that under certain conditions they are good for premiums, but they do not show on their face what, if anything, is their value in exchange for premiums. The customers of the petitioners knew that the sales slips would be redeemed in the petitioner's premium departments. It was their custom to save up the sales slips until their purchases totaled a given amount and then to exchange them for premium merchandise. Except in rare instances the minimum amount of sales for which premiums were issued was $25. Articles of merchandise which were given out as premiums were purchased in the same manner as other merchandise. The cost of the merchandise was included in the total cost of merchandise reported by the petitioners on their tax returns. The premium merchandise was included in the petitioners' inventories at the beginning and close of the year the same as other merchandise. The costs of all premium merchandise1805 were automatically reflected as a deduction through the inventories. When premium articles were 897 given to customers the petitioner's retail sales for those years, as shown by their books of account, were not affected. The amount of the net cash retail sales of the Charleston store, Docket No. 31247, for the years 1923, 1924, and 1925 were $928,314.12, $807,501.21, and $849,067.14, respectively. The net cash retail sales of the Huntington store, Docket No. 39590, for 1926, were $314,359.47. The amount of sales slips redeemed in any of the taxable years is not known and can not now be determined. The retail slips were destroyed as soon as they were redeemed. Sales slips are often redeemed which have been outstanding for a period of one day to a period of 15 years. The record does not show and there is no way to determine what part of the total amount of the sales slips redeemed in any one year applied to sales slips issued in such particular year. The amount of unredeemed sales slips outstanding at the close of any year is not known. The O. J. Morrison Department Store Company does not have on its books of account, as reflected by its balance sheets for the1806 years 1923, 1924, and 1925, any account in the nature of a premium liability account or a premium reserve account. The Morrison Department Store Company did not have any such account at the beginning of 1926, but its balance sheet submitted with its income-tax return for the calendar year 1926 shows an account as at December 31, 1926 entitled "Premium Reserves," with a credit balance of $2,475.58. OPINION. SMITH: The sole issue involved in these proceedings is the allowance as a deduction from gross income of the taxable years involved of certain alleged premium expense on sales made in each of the years involved on account of certain premiums which it is anticipated will be given out in the future upon presentation by the customers of sales slips representing sales made in said years. The petitioners contend that under their method of merchandising they have a liability at the close of each year to redeem certain sales slips outstanding which have been issued to customers upon cash sales; that they have always held themselves out to the public as ready and willing the redeem these sales slips in merchandise regardless of the year in which issued; and that in point of fact1807 sales slips are redeemed in many cases which have been outstanding many years. The petitioners admit that their records do not show the total amount of the sales slips redeemed during each of the taxable years, but they do contend that in subsequent years the amount 898 redeemed is approximately 57 per cent of the cash retail sales made in those years and they further contend that they should be entitled to deduct from gross income a reserve based upon their total cash sales upon the belief that approximately 100 per cent of the sales slips issued will be redeemed. Petitioners rely upon article 91 of Regulations 62, 65, and 69, which provides in part as follows: Subtraction for redemption of trading stamps. - Where a taxpayer, for the purpose of promoting his business, issues with sales trading stamps or premium coupons redeemable in merchandise or cash, he should in computing the income from such sales subtract only the amount received or receivable which will be required for the redemption of such part of the total issue of trading stamps or premium coupons issued during the taxable year as will eventually be presented for redemption. This amount will be determined1808 in the light of the experience of the taxpayer in his particular business and of other users engaged in similar businesses. The taxpayer shall file for each of the five preceding years, or such number of these years as stamps or coupons have been issued by him, a statement showing (a) the total issue of stamps during each year, (b) the total stamps redeemed in each year, and (c) the percentage for each year of the stamps redeemed to the stamps issued in such year. * * The petitioners admit that they can not strictly comply with the requirements of the regulations, inasmuch as they can not show the total sales slips redeemed in each year and the percentage for each year of the sales slips redeemed to the sales slips issued. They contend, however, that this should not deprive them of the right to deduct from their gross incomes an amount representing their liability in respect of the outstanding sales slips. When the petitioners sold a bill of goods to any customer and issued a sales slip for the cash paid therefor the petitioners could not know that the particular sales slip would ever be redeemed in merchandise. 1809 The liability of the petitioners for the sales slips outstanding at the close of any taxable year was purely contingent upon whether the customers would elect to present them for redemption. The decisions of the Board and the courts have been consistent that liabilities set up to provide for contingencies are not deductible from gross income unless clearly authorized by the taxing statute. In , we said: "Reserves for future incurred expenses are not allowable as deductions under the Revenue Act of 1918." In , we said: * * but when a taxable corporation in the course of its business of making profits receives contractual compensation for work done and material furnished, it can not contend that a part of the amount received is not income because the taxpayer is subject to a collateral obligation the fulfillment of which may require it to spend some of the amount. * * * this result is not changed because in the light of a general experience the taxpayer feels reasonably certain of the necessity to expend the amount and is impelled by business prudence to set up a reserve therefor. 1810 * * 899 In , we said: * * Since the statute does not permit a taxpayer to deduct as an expense an amount which he fears he may some day be called upon to spend, there can be no sanction for such a deduction. In , we said: "Reserves are not allowable deductions from gross income unless specifically provided for by statute." In , the Court of Claims of the United States held that the amounts set up in publishing corporations' books as reserve for return of magazines from distributors were not deductible in determining income tax. It stated: * * * Whether the plaintiff's books were kept on an accrual or cash basis, deductions to be allowed must be absolute to character. The reserves claimed by the plaintiff do not represent any fixed or determinable obligation but only a possible liability that would accrue, if ever, in some future year. * * * See also in this connection 1811 ; ; ; . There is a further reason why the petitioners' claims for the allowance of a deduction in respect of their contingent liabilities on outstanding sales slips must be denied and this point is stressed by the respondent. Under the petitioners' method of accounting premium merchandise is included with other merchandise purchased. During the taxable years the cost of such merchandise was included in purchases of merchandise and in inventories at the beginning and end of each year. When the premium merchandise was issued to customers in redemption of the sales slips the retail sales were not affected.The record distinctly shows that the cost of premium merchandise given out by the petitioners was automatically reflected as deductions from gross income through the method of handling the inventories. The petitioners contend that regardless of this method of keeping their books of account they should, nevertheless, be entitled to deduct amounts representing their liability1812 on the outstanding sales slips. But if this method were permitted the petitioners would very clearly obtain a double deduction from gross income of the cost of the premium merchandise. The taxing statutes do not permit such double deduction. There is nothing in the record to show that petitioners' books of account as kept overstate their net income. There is no evidence before us which shows that a larger percentage of the sales slips issued in each of the taxable years will be ultimately redeemed than *900 the amount which was actually redeemed in each of the taxable years. The petitioners, having obtained a deduction from the gross income of each year of the cost of the merchandise issued as premiums, are not entitled to any additional deduction. Judgments will be entered for the respondent.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623672/	APPEAL OF THE NILES FIRE BRICK CO. APPEAL OF MARGARETTA T. CLINGAN. APPEAL OF MARY T. WADDELL. APPEAL OF W. AUBREY THOMAS. APPEAL OF ESTATE OF THOMAS E. THOMAS.Niles Fire Brick Co. v. CommissionerDocket Nos. 2628, 4227-4230.United States Board of Tax Appeals6 B.T.A. 8; 1927 BTA LEXIS 3621; February 2, 1927, Promulgated 3621 1. PARTNERSHIPS. - When the heirs of John R. Thomas, under the terms of his will, acquired the property known as The Niles Fire Brick Co. and continued the operation of the same as a going business, they thereby became, in the view of the law, a partnership. 2. Although these same heirs later joined in some of the acts required for the formation of a corporation, the property and the business of the partnership were not conveyed to the corporation, and the evidence does not support the Commissioner's claim that the income of the business should be taxed as the income of a corporation or association. W. W. Spalding, Esq., for the petitioners. E. C. Lake, Esq., for the Commissioner. TRUSSELL 8 These appeals were consolidated at the hearing by agreement of counsel. They involve the following determinations by the Commissioner: Deficiency.Overassessment.Name.Year.Amount.YearAmount.The Niles Fire Brick Co.1919$2,416.23Margaretta T. Clingan19189,548.311919$492.15Mary T. Waddell191811,066.301919367.86W. Aubrey Thomas191820,608.881919651.43Estate of Thomas E. Thomas191822,133.5019191,470.92Jan. 1 to Nov. 101920260.47Nov. 10 to Dec. 31192083.313622 9 The sole question involved in these appeals is whether The Niles Fire Brick Co. was a corporation during the years in question and the distributions made by it were dividends, or whether the business was a partnership and the profits therefrom should be taxed to the individual members as partnership profits. FINDINGS OF FACT. The Niles Fire Brick Co. was organized as a partnership in 1872 by John R. Thomas and Lizzie B. Ward, for the purpose of engaging in the manufacture of fire brick. The business is located at Niles, Ohio, where it has operated since the date of organization. In 1879, John R. Thomas acquired the interests of his partner and, thereafter, until the date of his death, January 25, 1898, owned and conducted the business as an individual enterprise. So much of the will of John R. Thomas as relates to the issues here involved reads as follows: Item 6th After payment of the charges and legacies as provided in the prior items of my will have been made, I give and devise all the rest and residue of my estate, of every kind and wherever situate, including the one-third devised as aforesaid to my wife, on the termination of her interest in the use thereof3623 by death or marriage to my five children, viz: John M. Thomas, Thomas E. Thomas, William A. Thomas, Mary A. Thomas and Margaretta Thomas Clingan, and their heirs, share and share alike; and in case of the death of either of them, their children to take the parents share. In the division of my estate under my will, amongst my said children, I direct that no account or charge be made against either of them for any moneys or property heretofore received from me. It is further my wish and I so direct that so far as practicable, all my property, except that part given to my wife, for her life or so long as she remains my widow, be divided amongst my said children within two years after my decease. Item 7th I do hereby nominate and appoint my wife Margarett Thomas, and my sons John M. Thomas, Thomas E. Thomas and William A. Thomas, Executors of this my last Will and testament. I hereby authorize and empower my said Executors to carry on my business of operating the furnace in the City of Niles, Ohio, known as The Thomas Furnace Company, and my business of manufacturing fire brick known as The Niles Fire Brick Company, for a period of not to exceed two years after my 10 3624 decease, Hereby authorizing my said Executors to employ in said business the capital that I have invested and employed therein at my decease, but no more. It being my desire and I hereby direct that my estate shall be fully settled up within two years after my decease. Under this will the five children named therein acquired the business known as The Niles Fire Brick Co. and the assets thereof in equal shares. In December, 1900, they filed with the Secretary of State of Ohio the following articles of incorporation: THESE ARTICLES OF INCORPORATION OF THE NILES FIRE BRICK COMPANYWITNESSETH, That we, the undersigned, a majority of whom are citizens of the State of Ohio, desiring to form a corporation, for profit, under the general corporation laws of said State, do hereby certify: FIRST. The name of said corporation shall be The Niles Fire Brick Company. SECOND. Said corporation is to be located at Niles in Trumbull County, Ohio, and its principal business there transacted. THIRD. Said corporation is formed for the purpose of mining, quarrying, manufacturing, buying, and selling fire clay, coal and stone and products of clay, coal and stone contracting to build and3625 repair furnaces of various kinds and all things incident to either or all of the foregoing objects and purposes. FOURTH. The capital stock of said corporation shall be sixty thousand dollars, ($60,000.00), divided into six hundred (600) shares of one hundred dollars, ($100.00) each. IN WITNESS WHEREOF, We have hereunto set our hands, this twenty-eighth day of December, A.D. 1900. JOHN M. THOMAS THOMAS E. THOMAS W. AUBREY THOMAS MARGARETTA T. CLINGAN MARY A. THOMAS No further steps were taken to complete a corporate organization. No stock was issued and there is no record that any payments were made for stock. Nor is there any record of transfer or attempted transfer of property for stock. No directors or officers were elected and no by-laws were adopted until 1918. There were no meetings or pretended meetings of stockholders until March 30, 1918, when a formal meeting of the heirs of John R. Thomas was held and by-laws were adopted. The minutes of this meeting were designated as minutes of the meeting of the stockholders and minutes of the meeting of the directors of The Niles Fire Brick Co. Upon the death of John R. Thomas, management of the business passed3626 to Thomas E. Thomas. From that time until his death in 1920 he had absolute control over the business and conducted it as he saw fit. John M. Thomas, Who had been known as treasurer of the company during the period of his father's proprietorship, went into business in Duluth, Minn., in 1899, and later in Milwaukee, 11 Wis., while W. Aubrey Thomas was first in business in Milwaukee and later at Jenifer, Ala. Neither of these men took an active part in the management of The Niles Fire Brick Co. during the lifetime of Thomas E. Thomas. The remaining heirs of John R. Thomas were daughters and have never at any time participated in the conduct of the business. From 1898, Thomas E. Thomas assumed the title of general manager and was designated on some of the company stationery as president. David S. Parry, who was first employed in 1917, was known as secretary and treasurer and became manager upon the death of Thomas E. Thomas in 1920. These were the only official titles used in connection with the business. The company ledger for 1894 to 1906 was labelled "Ledger - Niles Fire Brick Company," while the ledger for the years 1906 to 1913 was designated "Ledger A - The Niles3627 Fire Brick Company." The word "Incorporated" was never at any time used in connection with the name of the company. Letterheads have practically all been in the following form "The Niles Fire Brick Company." In some instances the words "Established 1872" have been added. When money was borrowed for use in the business, notes were signed by Thomas E. Thomas, as general manager, and then endorsed by him personally. At times notes were also endorsed by John M. Thomas. Capital stock and surplus accounts were opened on the books in 1894. On April 20, 1899, a notation explanatory of the capital stock account was made on the books to the effect that it had been contemplated that the company should be incorporated "which was not done as contemplated." At the time the capital stock account was opened, $60,000 was credited to that account. In 1899 this account was reduced in the amount of $23,202.46, and in December, 1906, it was restored in that amount and has since remained at $60,000. Since the death of John R. Thomas, it has been customary for his heirs to withdraw money from the business whenever they desired. No specific authorization was deemed necessary and when the drafts3628 or checks were presented for payment they were always honored and the individual account of the person making the withdrawal was charged with the amount. There was never any regularity or uniformity in connection with such withdrawals. The company books for 1909 show an entry of $2,000 on account of salary. The explanation is "Directors salary for 1909." Similar entries appear on the books for the years 1910, 1911, and 1912. For the years involved in these appeals, corporation forms were used in making income-tax returns for The Niles Fire Brick Co. 12 A power of attorney filed with the Bureau of Internal Revenue authorizing an accounting firm to represent the company in tax matters was executed in the manner of a corporation, thereby conforming to the form of the return previously filed. On the estatetax return of Thomas E. Thomas appears an item of 120 shares of stock in The Niles Fire Brick Co. valued at $72,000. The basis of this valuation was the net worth of the business. Prior to January 1, 1918, there had been no distribution of the profits of the business among the owners and, with the exception of the withdrawals referred to above, they had received3629 nothing from the company. The accumulated earnings were used in purchasing certain stock in the Trumbull Steel Co., the Youngstown Sheet & Tube Co., the Niles Trust Co., the Brier Hill Steel Co. and the Mahoning Valley Steel Co. These purchases were made prior to January 1, 1918, and the stocks so purchased were distributed in 1918 equally among the owners of the business in the amount of $77,600 each. OPINION. TRUSSELL: In the case of , the court said: The mere fact of the bequest to them, by will, of the net estate in question, and of the business, did not constitute them partners, but merely made them joint owners; but their election to continue the business, each contributing thereto his share of the property so bequeathed to him, rendered the relation between them that of copartners, and the property copartnership property. This rule of law has been long established and is supported by many decided cases. It must therefore be taken as established that when the heirs of John R. Thomas acquired, under his will, the properties and the going business known as The Niles Fire Brick Co. and continued to operate3630 the same they thereby became a partnership and continued in the relation of partners until such time as they, by definite and specific acts, changed their relation of partners to some other legal relationship. Has such a change been made, and, if so, when? It has been shown that in December, 1900, nearly three years after the partnership relation became established, these same heirs of John R. Thomas joined in the execution of articles of incorporation and filed the same with the proper officers of the State of Ohio. The statutes of the State of Ohio, as then existing, required that persons forming a corporation must do certain acts and things, among which are subscriptions for capital stock; the payment of not less than 10 per cent of such subscriptions; the holding of corporate meetings; and the election of directors and officers. None of these things were done by the parties connected 13 with the business here under consideration. In ; 3631 , the court held that the making and filing of articles of incorporation in the office of the Secretary of State did not make an incorporated company, and that no company existed within the meaning of the statute until the requisite stock had been subscribed and paid in and the directors chosen. In the case of , the court said: * * The Ohio law differs from the law of many states, in that the mere filing of articles of incorporation in due form does not create or bring into existence a corporation, notwithstanding the provision of G.C. § 8629, that a certified copy of articles of incorporation shall be prima facie evidence of the existence of the corporation therein named. * * * And in the same case the court, referring to these specific requirements of the Ohio statutes, continued: That these are not merely directory provisions of law, but are mandatory, and must be complied with before a corporation can come into existence under Ohio law, is sufficiently established by 3632 [1905] * . It thus seems that The Niles Fire Brick Co., by virtue of the action of its owners in December, 1900, did not thereby become a corporation. The only other act of the owners of The Niles Fire Brick Co. in respect to the formation of a corporation was taken some time in the year 1918 when such owners apparently held a meeting and went through the form of adopting corporate by-laws. This action in connection with the previous action in December, 1900, was equally ineffective of establishing a corporation within the view of the Ohio statutes. After carefully considering all the facts shown in the record of this case and the provisions of the statutes of the State of Ohio governing the organization of corporations and the interpretation placed upon such statutes by the courts, we are forced to the conclusion that the owners of The Niles Fire Brick Co. never perfected an organization as a corporation. Furthermore, if it could be held that the form of articles of incorporation executed by the five heirs of John R. Thomas and filed with the Secretary of State of Ohio in December, 1900, 3633 together with the other things done in respect thereto, did actually create and bring into being a corporation, can it be found that such corporation was, during the years 1918, 1919, and 1920, a living entity engaged in carrying on any business and producing income and profits subject to tax under the then existing income-tax legislation? The record of this proceeding shows clearly that the answer to that question is in the negative. No going business and no property of 14 any nature whatsoever was ever transferred or conveyed to such a corporation. No shares of such a corporation were ever issued, and no person ever became a bona fide stockholder of such a corporation. No one was ever elected a director and no one was ever elected an officer of such a corporation. If then in fact such a corporation was created and existing, it was a mere empty shell, with no capital, with no stockholders, with no directors, and with no officers. It did no business of any nature or kind whatever and produced no income subject to any income-tax law. The record is equally silent respecting any act or thing done by the owners of The Niles Fire Brick Co. which could be construed to3634 bring them within the category of an association within the meaning of paragraph 2 of section 1 of the Revenue Act of 1918. We are thus brought irresistibly to the conclusion that the partnership, made up of the heirs of John R. Thomas, when they acquired the business known as The Niles Fire Brick Co. in 1898, has never changed its character; has never become a corporation; has never been merged into a corporation or an association; that the partnership relation between the owners of this business has never changed; that the duties, responsibilities, and liabilities of partners still rest upon each member of that partnership; and that both the partnership organization and the partners individually were, during the years here under consideration, required to comply with those provisions of the Revenue Act of 1918 imposing duties and responsibilities upon partnerships or the members of partnerships, and that they are equally entitled to the benefits, if any such exist, under such Act in respect to partnerships and members thereof, and that during said years the gains and profits and income produced by the business of The Niles Fire Brick Co. must be taxed as the income of the members3635 of such partnership. Our attention has been called to the case of the , in which case the decision of the District Court has been affirmed by the United States Circuit Court of Appeals for the Third Circuit. . The McDonald Coal Co. was in court suing to recover income and profits taxes paid by it under the corporate tax provisions of the Revenue Acts of 1917 and 1918, claiming that during the years in question the McDonald Coal Co. was a partnership and not a corporation. The trial court found that in 1906 three persons formed a partnership and procured leases on certain coal lands; that they operated these leases as a partnership until 1909, when the same three persons became the incorporators of a corporation known as the McDonald Coal Co., and that from 1909 until the time when the case was on trial the corporation had operated the same coal 15 land leases procured by the former partnership; that said leases had never been assigned to the corporation for the reason that the lessor refused to consent to the assignment, although the lessees had persistently tried to procure such3636 consent. The court further found that at the organization of the McDonald Coal Co. the incorporators paid in to the company an operating plant said to have cost $50,000, and received in exchange therefor capital stock of the corporation of a par value of $6,000. During the years in question the McDonald Coal Co. reported the income from the operations of the coal land leases as its income; paid corporate taxes thereon; made various representations concerning the corporate records, and at one time secured an abatement of taxes based upon a showing of certain corporate actions in respect to officers' salaries. The corporation had continually held itself out to the world as a corporation carrying on the business of operating these coal leases, and it had permitted itself to be sued as a corporation in a damage suit in the state courts of Pennsylvania and raised no question as to its corporate existence or liability. The record of the instant case is very different from that disclosed by the reported decision in the case of the McDonald Coal Co. In the case of The Niles Fire Brick Co. it is established that no corporate stock was ever issued; nothing was ever paid in for any such3637 stock; it never held itself out to the world as a corporation; and, so far as the record discloses, the only thing which it ever did in the guise of a corporation was the making of its income and profits-tax returns upon corporate forms. We are, therefore, of the opinion that for the year 1919 there is no deficiency in income taxes against The Niles Fire Brick Co. as an organization, and that the deficiencies and overassessments recited in the deficiency letters as against the other four petitioners herein must be recomputed in accordance with the foregoing opinion. An order of redetermination in each case will be made upon 15 days' notice, pursuant to Rule 50, and judgment will be entered in due course.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623673/	Norman Titcher and Marjorie Titcher, Petitioners v. Commissioner of Internal Revenue, Respondent; Estate of Harris B. Goldberg, Deceased, Wendy Goldberg, Administratrix, and Wendy Goldberg, Petitioners v. Commissioner of Internal Revenue, RespondentTitcher v. CommissionerDocket Nos. 2519-69, 2751-69United States Tax Court57 T.C. 315; 1971 U.S. Tax Ct. LEXIS 16; December 8, 1971, Filed 16 Decisions will be entered for the respondent. Held, In accordance with the terms of an agreement of sale in respect of certain real property, $ 100,000 paid to the seller at the time of the execution of the agreement and labeled "prepaid interest" was in fact merely a downpayment and not bona fide deductible interest. There was no existing obligation at that time on which interest could accrue and there was therefore no existing "indebtedness" upon which "interest" was payable. A note for the purchase price payable to the seller and delivered to the escrow agent did not create any indebtedness until the date of closing when the escrow agent was to deliver it to the seller and when it was to be fully discharged simultaneously by payment in cash. There was never a moment in time when the purchaser was actually indebted in respect of the note, and the escrow never in fact closed as a consequence of subsequently discovered defects in the property with the result that the purchaser never became liable to pay the purchase price. Willard C. Williams, for the petitioners.H. Lloyd Nearing, for the respondent. Raum, Judge. RAUM315 OPINIONThe Commissioner determined deficiencies in petitioners' income tax as follows:PetitionerYearDeficiencyNorman and Marjorie Titcher1964$ 17,032.68Estate of Harris B. Goldberg, Deceased, Wendy Goldberg,Administratrix, and Wendy Goldberg196434,945.30316 The sole remaining issue is whether $ 100,000 paid by a subchapter S corporation pursuant to a land sale contract was deductible as18 "interest" under section 163, I.R.C. 1954. The facts have been stipulated.Norman and Marjorie Titcher, petitioners in docket No. 2519-69, are husband and wife. They filed a joint Federal income tax return for the calendar year 1964 with the district director of internal revenue at Los Angeles, Calif., and resided in Encino, Calif., at the time of the filing of their petition herein.Petitioners in docket No. 2751-69 are the Estate of Harris B. Goldberg and Wendy Goldberg, Harris's wife. Harris B. and Wendy Goldberg filed a joint Federal income tax return for the calendar year 1964 also with the district director of internal revenue at Los Angeles, Calif. Harris B. Goldberg died on November 23, 1965, and Wendy is the administratrix of his estate. She resided in London, England, at the time her petition was filed herein.On December 1, 1964, Harris B. Goldberg (Goldberg) entered into an "Agreement of Sale" with the Devereux Foundation (Devereux or the foundation), in which he contracted to purchase certain land in Santa Barbara, Calif., referred to as parcel No. 1, consisting of approximately 215 acres. In the same agreement, certain provisions were also made with respect to 19 a second tract referred to as parcel No. 2, consisting of approximately 32 acres. The "Agreement of Sale" provided in part as follows:The sale of the above premises shall be upon the following terms and conditions, to wit:1. The consideration for Parcel No. 1 shall be at the rate of TWENTY FIVE THOUSAND DOLLARS ($ 25,000.00) per acre, which shall include ONE HUNDRED THOUSAND DOLLARS ($ 100,000.00) prepaid interest, which shall be paid to the Seller by the Buyer in the following manner: (The said consideration shall be adjusted in accordance with the certified acreage herein provided).ONE-HUNDRED THOUSAND DOLLARS ($ 100,000.00) in each [cash?] upon the execution of this Agreement, and the balance in cash at the close of escrow, i.e. the date of recordation of the Deed and delivery of the consideration and the delivery of the Policy of Title Insurance.As to Parcel No. 2, the price shall be TWENTY-FIVE THOUSAND DOLLARS ($ 25,000.00) per acre, which shall be paid to the Seller by the Buyer in the following manner:TWO THOUSAND FIVE HUNDRED DOLLARS ($ 2,500.00) in each [cash?] upon the execution of this Agreement, and the balance in cash at the close of escrow, i.e. the date of recordation20 of the Deed and delivery of the consideration and the delivery of the Policy of Title Insurance.2. Parcels Nos. 1 and 2 are to be conveyed in accordance with a preliminary Title Report issued by Title Insurance and Trust Company dated November 18, 1964, and bearing Order No. 105147-LP, and title insurance shall be in accordance therewith, with the exceptions noted thereon, except for items 3 and 4, which shall be the responsibility of the Seller to have removed prior to closing.317 3. Closing hereunder as to Parcel No. 1 shall be completed September 30, 1965.Closing as to Parcel No. 2, subject to the conditions hereinafter set forth, shall take place not later than September 30, 1970. * * [Several provisions of the "Agreement of Sale" were in respect of the continued use of parcel No. 2 by the Devereux Foundation prior to the closing of the sale of such parcel and after the completion of the sale of parcel No. 1. By one such provision the foundation retained an easement over parcel No. 1 as a means of access to parcel No. 2.]17. If for any reason the title shall not be in accordance with paragraph 2 hereof, Buyer shall have the option, in lieu of all other remedies, 21 of taking such title as the Seller can give without abatement of price, or of being repaid all monies paid on account by Buyer to Seller.Seller should offer said Parcel No. 2 to Buyer and Buyer agrees to purchase the same at a price of TWENTY-FIVE THOUSAND DOLLARS ($ 25,000.00) per acre. Buyer shall have 120 days from the date of notice within which to complete closing.19. Upon the expiration of five years 1 from the date of closing, of Parcel No. 1, and in the event that all or any part of the property shall be offered for sale or lease by Seller, the parties shall endeavor to agree upon the purchase price before it is offered by Seller to any other party. If no agreement can be reached with respect to the price, Seller shall deliver to Buyer a form of Agreement of Sale to purchase the property offered for sale at a price and upon terms which are acceptable to Seller and which have been received from any other bona fide purchaser, and Buyer shall have 60 days from and after the receipt of said Agreement to accept or reject the same, and another 90 days after acceptance to deposit funds or to close.* * * 23. Wherever the word "Buyer" is used herein, it is understood to mean22 the Buyer and his nominee and successive nominee which may be appointed hereunder.24. This Agreement is conditioned upon receiving the approval of the Board of Trustees of the Devereux Foundation, and shall not be binding upon said Foundation until a Resolution is properly passed by the Board of Trustees approving the terms hereof. If said approval is not received on or before December 12, 1964, this Agreement shall be deemed to be cancelled and of no effect.Under the terms of the "Agreement of Sale" the purchase price for parcel No. 1 was to be paid at the time of the closing of the escrow of the property, which was to occur by September 30, 1965.Also on December 1, 1964, and pursuant to paragraph 23 of the "Agreement of Sale," Goldberg assigned all of his rights under23 the agreement to Boniday, Inc. ("Boniday" or the "corporation"), and nominated Boniday as the buyer of parcels Nos. 1 and 2 in lieu of himself. Boniday was a California corporation, organized under the laws of 318 that State on December 11, 1964. 2 At all relevant times Goldberg or his estate was the owner of 50 percent of the capital stock of Boniday. Petitioners Norman and Marjorie Titcher at all relevant times were the owners of the remaining 50 percent of the capital stock of the corporation.On the same date as the "Agreement of Sale" and Golberg's assignment of his interests therein to Boniday -- December 1, 1964 -- separate escrow instructions pertaining to parcels Nos. 1 and 2 were executed by Boniday and the Devereux Foundation. The escrow instructions for parcel No. 24 1 provided as follows:On or before September 30, 1965, I will hand you five million two hundred ninety thousand and twenty five dollars ($ 5,290,025.00) and hand you herewith the sum of $ 100.00 which you will deliver when you obtain Grant Deed and when you can issue your usual form of CLTA Standard policy of title insurance with liability not exceeding $ 5,290,125.00 on 248.037 [sic] acres of land being a portion of the land described in your preliminary report * * showing title vested in BONIDAY, INC., a California corporation or nominee Subject Only to. (1) * * ** * * The sum of $ 100,000.00 has heretofore been paid to the sellers, which sum represents prepaid interest on the promissory note hereinafter referred to, and the sum of $ 100.00 deposited herewith shall be paid to sellers without further instructions if this escrow is not closed on or before September 30, 1965 and the prepaid interest and said deposits of $ 100.00 shall be considered liquidated damages and Harris Goldberg shall have no further liability herein.The purchaser herewith deposits an unsecured promissory note payable to the seller in the sum of $ 5,290,125.00 due on or before September 30, 1965 with25 interest at 2.26837 percent per annum, payable in advance. Said note to be held in the within escrow and cancelled on September 30, 1965 or on the date of closing the escrow, which ever is sooner.* * * If for any reason the title shall not be in accordance with the within instructions, Buyer shall have the option, in lieu of all other remedies, of taking such title as the Seller can give without abatement of price, or of being repaid all monies paid on account by Buyer to Seller.The escrow instructions stated that Boniday deposited the amount of $ 100 with the escrow agent at the time such instructions were executed.In addition Boniday executed and deposited with the escrow agent on December 1, 1964, an unsecured promissory note payable to the order of Devereux on or before September 30, 1965, in the amount of 319 $ 5,290,125 "with interest from date until paid, at the rate of 2.26837 per cent per annum, payable in advance."The escrow instructions in respect of parcel No. 2 provided in part as follows:On or before 25 years after the closing date of * * * [the escrow of parcel No. 1], I will hand you $ 808,300.00, the sum of $ 2,500.00 having been paid to seller outside26 of escrow, which you will deliver when you obtain Grant Deed and when you can issue your usual form of CLTA Standard policy of title insurance with liability not exceeding 810,800.00 on 32,432 [sic] acres of land being a portion of the lands described in your Preliminary Report dated November 18, 1964, No. 105147-LP and shown as Parcel No. 2 in the attached map, showing title vested in BONIDAY, INC., a California Corporation or nominee. * * Should the Buyer fail to complete closing hereunder, then and in that case all sums paid by the Buyer on account of the purchase price may be retained by the Seller as liquidated damages for such breach, and the Seller shall be released from all liability or obligation and the purchaser and Harris Goldberg shall have no further liability or obligation hereunder.The $ 100,000 described as "prepaid interest" in the "Agreement of Sale" and the escrow instructions for parcel No. 1, and the $ 2,500, which was part of the purchase price of parcel No. 2, were paid by Boniday directly to the Devereux Foundation (and not deposited with the escrow agent) sometime in December, 1964.Sometime in 1965 but before September 30, 1965, the date fixed for the27 closing of the escrow relating to parcel No. 1, Boniday became aware of certain theretofore unforeseen difficulties in connection with the instability of the soil and special requirements of governmental agencies in respect thereto. Because of these factors the escrow arrangements relating to parcels Nos. 1 and 2 never closed, and the promissory note in the amount of $ 5,290,125 pertaining to parcel No 1 was never delivered to the Devereux Foundation as seller.Thereafter, on September 11, 1965, a new "Agreement of Sale" was entered into by the Devereux Foundation and Goldberg "or his nominee or nominees," providing for the purchase of parcel No. 1 and for an option on parcel No. 2. Boniday was again designated and appointed Goldberg's nominee under this new "Agreement of Sale," and escrow instructions dated September 10, 1965, were executed by Boniday and the Devereux Foundation. The new escrow instructions called for performance by the parties and the closing of the escrow on or before October 15, 1965. An "Amendment to Agreement of Sale" was entered into by Goldberg and the Devereux Foundation bearing the date September 28, 1965, modifying the "Agreement of Sale" of September28 11, 1965, but the record does not disclose the nature of these modifications. A "Second Amendment to Agreement of Sale" 320 bearing the date November 8, 1965, was entered into by Goldberg, Boniday, and the Devereux Foundation, further modifying the September 11, 1965, "Agreement of Sale." The second amendment provided for a new closing date of the escrow on January 15, 1967. It also provided for other modifications but the record does not disclose the nature of these changes. In respect of the $ 2,500 and $ 100,000 payments already made by Boniday to the foundation in connection with parcels Nos. 1 and 2, these new agreements provided: (1) That the $ 2,500 would be credited to the purchase price, and (2) that the $ 100,000 would be credited to interest due on a promissory note to be executed by Boniday at the closing date of the escrow. The record does not disclose any similar provision in respect to the $ 100 paid into escrow by Boniday in connection with parcel No. 1 at the time the original escrow instructions were executed.The escrow under the instructions dated September 10, 1965, also never closed, and a dispute developed between Boniday and the Devereux Foundation29 concerning the various payments originally made by the corporation to the foundation in December, 1964. Boniday commenced proceedings in the U.S. District Court for the Central District of California, and an amended complaint was filed on September 20, 1967, consisting of several claims in respect of the agreements with the foundation for the purchase of the two parcels of land and the payments made in connection with such agreements. In its amended complaint Boniday alleged in respect of such payments as follows:Goldberg paid to DEVEREUX the sum of one hundred two thousand six hundred dollars ($ 102,600.00) [($ 100,100.00 for parcel 1) and ($ 2,500.00 for parcel 2)] as down payment on the contract.The $ 100,100 referred to above as paid in connection with parcel No. 1 consisted of the $ 100,000 described as "down payment" in the amended complaint and as "prepaid interest" in the December 1, 1964, "Agreement of Sale" and escrow instructions, and the $ 100 paid by Boniday into escrow at the time such escrow instructions were executed.The foregoing litigation was settled sometime in October or November 1967, when a "Release And Indemnification Agreement" was entered into by Boniday, 30 Wendy Goldberg, and the Titchers, which provided in part as follows:3. "Claimants" [Boniday, Wendy Goldberg, and the Titchers], and each of them, do hereby forever release and waive any and all claim, right, title and interest in or to the real property owned by DEVEREUX in the County of Santa Barbara including, but not limited to, those arising out of the Agreement of Sale dated September 11, 1965 (and amendments thereto) and the said escrow instructions dated September 10, 1965 and the purported option rights to purchase the said 32.66 acre parcel referred to therein.4. "Claimants", and each of them, do hereby release DEVEREUX from any and all claims for the refund or return of the said sum of ONE HUNDRED TWO 321 THOUSAND FIVE HUNDRED DOLLARS ($ 102,500.00), or any amount thereof and agree that said monies shall be retained by DEVEREUX. * * 11. This release and the agreements contained herein shall become effective and binding upon the payment by or on behalf of DEVEREUX of the settlement sum in accordance with separate instructions to be given concurrently herewith to Title Insurance and Trust Company, Santa Barbara, California.The "settlement sum" referred to in31 paragraph 11, which the Devereux Foundation paid in connection with the "Release And Indemnification Agreement" was $ 50,000.Boniday had duly made an election to be treated for tax purposes as a U.S. small business corporation, and it filed an information return of income for 1964 with the district director of internal revenue at Los Angeles, Calif. The return reflected that the corporation had total assets of $ 100 as of December 31, 1964. Boniday reported no income for 1964. Its return, however, disclosed an "Interest" deduction in the amount of $ 100,000 in respect of the amount paid to the Devereux Foundation in connection with parcel No. 1. The return also reported a total net operating loss for 1964 in the amount of $ 100,100. On their tax return for 1964 the Titchers claimed a deduction in respect of one-half (or $ 50,050) of the $ 100,100 as their "share of net operating loss from Boniday, Inc., a U.S. small business corporation." The Goldbergs likewise claimed a deduction in respect of one-half (or $ 50,050) of the $ 100,100 on their 1964 tax return.In his deficiency notices to the petitioners the Commissioner made the following determination in connection with the32 $ 100,000 claimed as an interest deduction on Boniday's return:The amount of $ 100,000.00 deducted as interest is not allowed because it has not been established that the sum represented interest or was paid by Boniday, Inc., in the taxable year ended December 31, 1964, or was paid on a bona fide indebtedness, or did not distort taxable income.Accordingly, the Commissioner disallowed the deductions claimed by petitioners in respect of their one-half portions of the $ 100,000 of Boniday's net operating loss for 1964 which was attributable to such interest deduction.The issue for decision is whether the $ 100,000 payment made by Boniday to the Devereux Foundation in respect of parcel No. 1 is deductible by petitioners under section 163, I.R.C. 1954, 3 which provides 322 that "There shall be allowed as a deduction all interest paid or accrued within the taxable year on indebtedness" (emphasis supplied). Interest, as the term is used in section 163 and defined in the cases, is that which one contracts to pay for the use of borrowed money, or the compensation paid for the use or forbearance of money. Old Colony R. Co. v. Commissioner, 284 U.S. 552">284 U.S. 552, 560;33 Deputy v. DuPont, 308 U.S. 488">308 U.S. 488, 498; L-R Heat Treating Co., 28 T.C. 894">28 T.C. 894, 896; George T. Williams, 47 T.C. 689">47 T.C. 689, 692, affirmed 409 F. 2d 1361 (C.A. 6), certiorari denied 394 U.S. 997">394 U.S. 997; Rufus C. Salley, 55 T.C. 896">55 T.C. 896, 900. Moreover, the "indebtedness" upon which such a payment is made must be an "existing, unconditional, and legally enforceable obligation'" ( Lael Kovtun, 54 T.C. 331">54 T.C. 331, 338, affirmed per curiam 448 F. 2d 1268 (C.A. 9)) in order for the payment to be deductible under section 163. Autenreith v. Commissioner, 115 F. 2d 856, 858 (C.A. 3), affirming 41 B.T.A. 319">41 B.T.A. 319; George T. Williams, 47 T.C. at 692, affirmed 409 F. 2d 1361, certiorari denied 394 U.S. 997">394 U.S. 997; Rufus C. Salley, 55 T.C. at 900. It is also well settled that in determining whether a payment constitutes "interest34 * * * on indebtedness" economic realities govern over the form in which a transaction is cast. Knetsch v. United States, 364 U.S. 361">364 U.S. 361; Jack E. Golsen, 54 T.C. 742">54 T.C. 742, 753-754, affirmed 445 F. 2d 985 (C.A. 10), certiorari denied 404 U.S. 940">404 U.S. 940; Rufus C. Salley, 55 T.C. at 900-901.As we view the record before us, 35 the $ 100,000 involved herein was not in fact paid as "interest" on an "indebtedness" in December 1964, but rather represented in substance the major part of the downpayment on the purchase price and was merely dressed up to look like "interest." We are fully satisfied that the $ 100,000 together with the $ 100 payment in fact represented the true downpayment for parcel No. 1. It overtaxes the imagination to accept the view that the downpayment on a contract to purchase over $ 5 million worth of real estate was only $ 100. Moreover, until the sale was actually consummated by transfer of title at the closing and until the Boniday note held by the escrow agent was in fact delivered to the seller at such closing there was no existing indebtedness running to it. Indeed the materials before us make clear that no such indebtedness was ever intended to be created, for the escrow instructions establish that the purchaser was to pay the full remaining balance of the purchase price in cash at the closing at the very time when the note was to be delivered to the seller. Thus, the note was to be fully discharged at the moment it was scheduled to be handed over to the seller. There was plainly36 not even a split second in time when it was contemplated that the purchaser would be obligated to pay the principal amount of the note and when bona fide interest could accrue thereon. The note was merely a prop in a charade that was obviously staged to enable the $ 100,000 payment to masquerade as "interest" on an "indebtedness."323 In arguing that the $ 100,000 payment was made upon an unconditional and legally enforceable debt, petitioners contend that the "Agreement of Sale" of December 1, 1964, was an "unconditional agreement" for the purchase of parcel No. 1, and that such agreement thereby worked an equitable conversion vesting Boniday -- as Goldberg's nominee -- with equitable title to the property. They further argue that Boniday was able to defer payment of the $ 5,290,125 purported purchase price, for which it had executed an unsecured promissory note, until the planned closing of the escrow on September 30, 1965, 10 months later. According to the petitioners "It was for the forebearance, for the right to defer payment of the principal portion of the consideration that this sum of $ 100,000.00 was paid." We do not find this argument convincing.The simple answer37 to petitioners' position is that the doctrine of equitable conversion is a "mere fiction" which operates in certain limited situations to determine who, between the buyer and seller, has "equitable" title to property. See Parr-Richmond Industrial Corp. v. Boyd, 43 Cal. 2d 157">43 Cal. 2d 157, 165-166, 272 P.2d 16">272 P.2d 16, 22. For the purposes of this case, we think it far more significant that all the benefits and responsibilities associated with legal ownership of parcel No. 1 remained in the Devereux Foundation. The foundation, and not Boniday, was to be in possession of the parcel until the escrow closed, and was to be responsible for real estate taxes in respect of property. Any rents forthcoming from the property would presumably also have accrued to the foundation, and any liabilities arising from the property, whether in tort or otherwise, would have fallen upon the foundation. In such circumstances, we think Boniday never received a sufficient interest in the property which could be said to give rise to an "indebtedness" on its part.Moreover, even if petitioners' argument in respect of "equitable conversion" were relevant, the very nature of 38 the "equitable conversion" which they suggest took place was conditional and as such not sufficient to raise an "indebtedness." The purchaser had no obligation to pay the purchase price until the time for closing had arrived and the seller was able and willing to transfer title in accordance with the agreement. Under California law the equitable conversion, which occurs as a result of entering into a valid contract for the sale of land, does not become "absolute" until the date that the contract calls for conveyance of the property (i.e., the date of closing), and until one of the parties has performed or offers to perform its obligations under the contract. Estate of Dwyer, 159 Cal. 664">159 Cal. 664, 675, 115 P. 235">115 P. 235, 240. Similarly, "there is no equitable conversion where the contracting parties demonstrate an intention to the contrary" by setting conditions upon performance under the contract. Parr-Richmond Industrial 324 v. Boyd, 43 Cal. 2d at 166, 272 P.2d at 22. By the terms of the December 1, 1964, "Agreement of Sale" Boniday's obligation to pay the "principal sum" ($ 5,290,125) 39 was contingent in nature. Pursuant to paragraph 24 of the "Agreement of Sale" the entire agreement was conditioned upon the approval of the board of trustees of the Devereux Foundation which was to be received on or before December 12, 1964. Thereafter, under paragraphs 2 and 17 the sale was conditioned upon the ability of the foundation to convey such title to the property as had been agreed upon in accordance with a preliminary title report. Cf. Parr-Richmond Industrial Corp. v. Boyd, 43 Cal. 2d at 164-167, 272 P. 2d at 20-33. The $ 5,290,125 "principal sum" was not due until the closing of the escrow and compliance with these conditions. Since the escrow never closed and the land was never conveyed to Boniday no unconditional and legally enforceable obligation existed during 1964 or at any other time for the payment of the principal sum. In such circumstances, the $ 100,000 cannot be said to have been paid upon an existing "indebtedness" in 1964. Lael Kovtun, 54 T.C. at 337-338, affirmed 448 F. 2d 1268 (C.A. 9).Petitioners also argue that the unsecured promissory40 note which Boniday delivered into escrow on December 1, 1964, constituted the underlying "indebtedness" required by section 163. They contend that by depositing the note in escrow Boniday parted with possession and control, including control over whether the note matured. Under California law, however, until the note matured and while it was held in escrow title to it remained in Boniday. Cf. Hildebrand v. Beck, 196 Cal. 141">196 Cal. 141, 145-146, 236 P. 301">236 P. 301, 303; Norris v. San Mateo County Title Co., 37 Cal. 2d 269">37 Cal. 2d 269, 273, 231 P. 2d 493, 495; Hastings v. Bank of America, 79 Cal. App. 2d 627">79 Cal. App. 2d 627, 629, 180 P. 2d 358, 359; Kellogg v. Curry, 101 Cal. App. 2d 856">101 Cal. App. 2d 856, 859, 226 P.2d 381">226 P. 2d 381, 383; Vineland Homes, Inc. v. Barish, 138 Cal. App. 2d 747">138 Cal. App. 2d 747, 750, 292 P. 2d 941, 945. Also, amounts deposited in escrow are deemed to be as much under the "control" of the depositor as the other party to the escrow inasmuch as the escrow holder is considered the agent of both parties; 41 consequently, as a matter of California law "interest" on such deposit cannot arise during the period in which the amounts are held in escrow. Riff v. Mayhew, 90 Cal. App. 2d 712">90 Cal. App. 2d 712, 718, 203 P.2d 812">203 P. 2d 812, 816.Furthermore, regardless of whether Boniday itself could exercise any control over the note until it matured, its liability on the note was nevertheless still contingent upon the closing of the escrow. In fact, the escrow never did close because of certain unforeseen difficulties in connection with the soil composition and stability of the property and certain regulations of governmental agencies in respect thereto. Boniday therefore never did become liable on the note.325 Boniday's note, moreover, was a straight promissory note, unsecured by any property or personal guarantee, and the balance sheet on its 1964 return disclosed total assets of only $ 100. Concerned as we must be with economic realities ( Knetsch v. United States, 364 U.S. at 365-366; Jack E. Golsen, 54 T.C. at 753-754, affirmed 445 F. 2d 985 (C.A. 10); Rufus C. Salley, 55 T.C. at 900-901),42 and considering the unsecured nature of the promissory note together with Boniday's meager financial position, we think such circumstances at least cast grave doubt on whether the note was intended to evidence the existence of an actual indebtedness. Cf. Tampa & Gulf Coast Railroad Company, 56 T.C. 1393">56 T.C. 1393. 443 In turn, we think these same economic considerations also cast doubt on whether the payment was in fact "interest" within the meaning of section 163. In the amended complaint filed in the action it commenced against the Devereux Foundation in 1967, Boniday, in fact, described the $ 100,000 payment made directly to the foundation as well as the $ 100 paid into escrow in respect of parcel No. 1 as a "down payment." We note also that under the terms of the December 1, 1964, "Agreement of Sale" and the escrow instructions relating to parcel No. 2, Boniday made a $ 2,500 downpayment on parcel No. 2, the purchase of which was not to close, if at all, until some years after the closing of the escrow of parcel No. 1. It seems unlikely to us that the contingent purchase of some 32 or 33 acres of land at some remote time required a downpayment of $ 2,500 whereas -- as petitioners would have us believe -- the immediate purchase of 215 acres of land required a mere $ 100 payment into escrow. We think the $ 100,000, which was paid to the foundation at the same time and in the same manner as the $ 2,500, was a payment of similar character, meant to secure purchase of the property, and not interest44 on a fictitious "indebtedness." Petitioners, however, argue that the payment was referred to as "prepaid interest" in both the December 1, 1964, "Agreement of Sale" and escrow instructions, and as "interest * * payable in advance" in the promissory 326 note executed by Boniday on the same date. They contend that dispositive weight should be given to the characterization of the $ 100,000 payment in these documents. But such is not the law. Of primary importance is the true nature of the payment made and not the label affixed thereto, or the form in which it is cast. Autenreith v. Commissioner, 115 F. 2d at 858 (C.A. 3), affirming 41 B.T.A. 319">41 B.T.A. 319; Dorzback v. Collison, 195 F. 2d 69, 72 (C.A. 3), affirming 93 F. Supp. 935">93 F. Supp. 935; Court Holding Co., 2 T.C. 531">2 T.C. 531, 536, reversed on another point 143 F.2d 823">143 F. 2d 823, reversed 324 U.S. 331">324 U.S. 331; L-R Heat Treating Co., 28 T.C. at 897; James A. Collins, 54 T.C. 1656">54 T.C. 1656, 1664.Because we 45 think that the payment in issue was not "interest" and that there was no valid existing "indebtedness" owed by Boniday in 1964, we find it unnecessary to consider the other basis of the Commissioner's determination that the "prepayment," in any event, distorted income. Cf. Rev. Rul. 68-643, 1968-2, C.B. 76; Michael Asimow, "Principle and Prepaid Interest," 16 U.C.L.A. L.Rev. 36 (1968-1969); Lewis R. Kaster, "Prepaid Interest Purchase Method Still Useful Despite IRS Attack," 30 J. Taxation 16 (Jan. 1969). Petitioners have not raised any issue or presented any argument to support the deductibility of the payment in controversy for 1964 under any other section of the Code, nor is any taxable year other than 1964 involved in these proceedings. 5 We accordingly approve the Commissioner's determination.*46 Decisions will be entered for the respondent. Footnotes1. Although these provisions refer to a date 5 years after the closing in respect of parcel No. 1, the escrow instructions in respect of parcel No. 2 (infra↩ p. 319) contemplate a closing for parcel No. 2 on or before the expiration of 25 years.2. Although the parties have stipulated that Boniday was organized on Dec. 11, 1964, the stipulated materials also include various transactions in which Boniday participated on Dec. 1, 1964. The discrepancy in dates is unexplained.↩3. Sec. 221(a) of the Tax Reform Act of 1969, 83 Stat. 574-576, added a new subsection (d) to sec. 163 concerning "Limitations on Interest on Investment Indebtedness." Sec. 163(d)(4)(C) now also provides special rules in respect of investment indebtedness of a corporation electing to be taxed as a small business corporation under secs. 1371 and 1372, I.R.C. 1954↩. However, by sec. 221(b), Tax Reform Act of 1969, 83 Stat. 576, the amendments are effective for taxable years beginning after Dec. 31, 1971, and therefore do not apply to the taxable year here in issue.4. We similarly find little merit in petitioners' argument based on L-R Heat Treating Co., 28 T.C. 894">28 T.C. 894, and Rev. Rul. 69-188, 1 C.B. 54">1969-1 C.B. 54, that under sec. 163 an indebtedness need not be in existence at the time the payment of interest is made. The taxpayer in L-R Heat Treating Co. executed certain notes in return for loans of amounts less than the face value of the notes. The differences between the amounts of the loans and the face value of the notes were "premiums" the taxpayer paid in order to obtain the borrowed capital. Consequently, such premiums were held to constitute "interest". L-R Heat Treating Co., 28 T.C. at 896-897. The payments there in question occurred simultaneously with the creation of the indebtedness inasmuch as the amounts were merely withheld from the loans giving rise to such indebtedness. Rev. Rul. 69-188 similarly concerned a situation where the loan giving rise to the indebtedness was forthcoming upon payment which was made, although the indebtedness was not "already in existence" when the payment was made and did not arise simultaneously with the interest payment as in L-R Heat Treating Co. Rev. Rul. 69-188, 1 C.B. 54">1969-1 C.B. 54↩. Such is not the situation in the case before us. Boniday's obligation was still uncertain and conditional after the $ 100,000 payment was made, and, in fact, never did arise.5. To the extent that any deduction (other than as interest) might be allowable in respect of the $ 100,000 payment or a portion thereof, it would seem that the proper year would be 1967 when the litigation regarding that payment was settled on an approximately 50-50 basis.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623674/	Gertrude Louise Ashforth v. Commissioner.Ashforth v. CommissionerDocket No. 80212.United States Tax CourtT.C. Memo 1961-140; 1961 Tax Ct. Memo LEXIS 214; 20 T.C.M. (CCH) 702; T.C.M. (RIA) 61140; May 17, 1961Gertrude Louise Ashforth, pro se, 11 E. 63rd St., New York, N. Y. Paul D. Barker, Esq., for the respondent. FORRESTERMemorandum Findings of Fact and Opinion FORRESTER, Judge: Respondent has determined a deficiency in petitioner's income tax for the year 1957 in the amount of $1,648 and an addition thereto under section 6651(a) of the Internal Revenue Code of 19541 in the amount of $412. Respondent has now conceded the addition, and the only issue remaining is whether petitioner received $8,400 in 1957 under a decree effectuating a legal separation. Findings of Fact Petitioner is an individual residing in New York, New York. She filed no Federal income tax return for the year 1957. On February 8, 1954, petitioner215 secured a judgment of separation from her husband, Albert Blackhurst Ashforth, Jr., in a Special Term of the Supreme Court of New York. Said judgment provided as follows: At a Special Term, Part V, of the Supreme Court of the State of New York, held in and for the County of New York, at the County Court House, Pearl and Centre Streets, in the Borough of Manhattan, City of New York, on the 8 day of February, 1954. PRESENT: HON. EDGAR J. NATHAN, JR., JUSTICE. … x GERTRUDE LOUISE ASHFORTH, Plaintiff, against ALBERT B. ASHFORTH, JR., Defendant. … x Judgment of Separation. Index No. 30799-1953. The plaintiff above named having brought this action against the defendant for a judgment of separation upon the grounds of inadequate support, cruel and inhuman treatment and abandonment, and the defendant having interposed an answer, together with a counterclaim for a separation on the grounds of abandonment and cruel and inhuman treatment, and the case having regularly come on for trial before this Court at a Special Term, Part V thereof, on the 4th, 5th and 6th days of January, 1954, the parties having duly appeared in person by their respective counsel, * * and the parties216 and the witnesses having testified and the Court having heard and considered their proofs and allegations and after due deliberation, the Court having rendered a decision in writing, dated February 8, 1954, and further separately stating findings of fact and conclusions of law, directing judgment in favor of the plaintiff for a separation from the bed and board of the defendant forever, on the ground of abandonment, and for a dismissal on the merits, of the defendant's counterclaim, NOW, on motion of * , attorneys for the plaintiff, * * it is ORDERED, ADJUDGED AND DECREED, that the plaintiff, Gertrude Louise Ashforth, be and she hereby is separated from the defendant Albert B. Ashforth, Jr., his bed and board forever, as prayed for in the complaint, upon the ground of the abandonment of said plaintiff by the said defendant; and it is further ORDERED, ADJUDGED AND DECREED, that the counterclaim interposed by the defendant herein, for a separation from the bed and board of the plaintiff forever, be and the same hereby is dismissed on the merits, and it is further ORDERED, ADJUDGED AND DECREED, that the defendant pay to the plaintiff, the sum of Seven Hundred ($700.00) Dollars217 per month, as and for her support and maintenance, said payments to commence from the 6th day of January, 1954, and monthly thereafter, * * Albert filed an appeal from this decree, but withdrew it within 30 days. Petitioner filed a cross-appeal asking for a higher allowance and for increased attorney fees, but did not appeal from that part of the judgment decreeing separation. The crossappeal has been neither prosecuted nor withdrawn. After the autumn of 1954, petitioner did not see Albert again. He died in January 1958. Pursuant to the February 8, 1954, decree, petitioner received periodic payments in 1957 in the total amount of $8,400. Respondent determined that this amount represented taxable alimony income. Opinion As is too often true when a taxpayer is his own advocate, the legal argument of petitioner is unclear. Despite her failure to file a brief and the rambling nature of her testimony, we believe her position to be that the payments were support payments under a decree dated prior to the effective date of section 71(a)(3), 2 and are therefore not taxable to her. 218 This Court has decided a series of cases in which we found no legal separation but merely a decree of support and maintenance, which, if entered prior to March 1, 1954, resulted in no taxation to the wife of payments made thereunder. Respondent distinguishes the results of these and similar cases by claiming that petitioner obtained a legal separation, and that support payments pursuant to that decree are taxable income to her under section 71(a)(1). 3In John B. Keleher, 25 T.C. 1154">25 T.C. 1154 (1956), we defined a legal219 separation (p. 1158): In order that periodic payments of separate maintenance be includible in the income of a wife and deductible from that of the husband, they must be imposed upon the husband by virtue of a decree of separate maintenance which has the legal effect of sanctioning or legitimizing the living apart of a husband and wife. * * * And in Russell W. Boettiger, 31 T.C. 477">31 T.C. 477 (1958), we added (p. 483): The term "sanctioning or legitimizing" indicates that a court decree, in order to be construed as one that effectuates a "legal separation," must expressly and affirmatively provide that the parties live apart in the future, and thereby alter the original and normal marital relationship. We agree with respondent. Although petitioner testified that she intended to get only support and maintenance and did not know she had obtained a separation decree, the "JUDGMENT OF SEPARATION Index No. 30799," supra, is susceptible of but one interpretation, which is that it made petitioner legally separated from Albert. Therefore, periodic payments received thereunder in discharge of Albert's legal obligation to support petitioner are taxable to her under section 71(a)(1). 220 Petitioner has not shown that the decree of February 8, 1954, was not final, and her cross-appeal, even if successful, could only increase Albert's payments and would not alter the separate status of the spouses. Because of respondent's concession of the section 6651(a) addition, Decision will be entered under Rule 50. Footnotes1. All Code references are to the Internal Revenue Code of 1954.↩2. SEC. 71. ALIMONY AND SEPARATE MAINTENANCE PAYMENTS. (a) General Rule. - * *(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 [August 16, 1954] 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.↩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.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623676/	DOROTHY LOUISE GREEN, Petitioner, v. COMMISSIONER OF INTERNAL REVENUE, RespondentGreen v. CommissionerDocket No. 20556-90United States Tax CourtT.C. Memo 1992-439; 1992 Tax Ct. Memo LEXIS 457; 64 T.C.M. (CCH) 369; August 3, 1992, Filed As Corrected August 17, 1992. 457 Decision will be entered under Rule 155. Petitioner and another purchased a residence in Los Angeles in 1975. In 1979, petitioner moved to Baltimore, Maryland. Until 1982, she returned frequently to Los Angeles. In 1982, she moved out of the Los Angeles residence permanently. Petitioner attempted to sell the residence in 1982, but the joint owner refused to sell. Petitioner began legal proceedings for partition, which were not completed until 1986. Petitioner sold the residence in 1986. 1. Held: Petitioner need not recognize gain on the sale of her interest in the old residence except to the extent that the adjusted sales price of her interest in the old residence exceeds the cost of her new residence. Sec. 1034, I.R.C.2. Held, further, petitioner is ineligible to exclude gain on sale of the residence under sec. 121, I.R.C.3. Held, further, petitioner is liable for additions to tax under secs. 6653(a)(1)(A) and (B) and 6661, I.R.C.For Dorothy Louise Green, pro se. For Respondent: Alan R. Peregoy. HALPERNHALPERNMEMORANDUM OPINION HALPERN, Judge: Respondent determined a deficiency in petitioner's Federal income tax and additions to tax as follows: 458 Additions to TaxYearDeficiencySec. 6653(a)(1)(A)Sec. 6653(a)(1)(B)Sec. 66611986$ 23,979$ 1,1991$ 5,995Unless otherwise indicated, all section references are to the Internal Revenue Code in effect for the taxable year at issue, and all Rule references are to the Tax Court Rules of Practice and Procedure. After a concession by respondent, 1 the issues for decision are: (1) Whether certain gain from the sale of property may be excluded from gross income by petitioner pursuant to section 121; (2) whether all or a portion of such gain is not recognized to petitioner pursuant to section 1034; (3) whether petitioner is liable for additions to tax for negligence pursuant to section 6653(a)(1)(A) and (B); and (4) whether petitioner is liable for an addition to tax for substantial understatement pursuant to section 6661. 459 BackgroundSome facts have been stipulated and are so found. The stipulation of facts filed by the parties and accompanying exhibits are incorporated herein by this reference. At the time of filing her petition, petitioner resided in Baltimore, Maryland. In 1975, petitioner and her boyfriend, Warren Hollier (Hollier), purchased a house and lot in Los Angeles, California (the Los Angeles residence). 2 The purchase price was $ 75,000. A down payment of $ 16,000 was made, of which $ 12,000 was paid by petitioner and $ 4,000 by Hollier. Payment of the remainder of the purchase price was secured by two deeds of trust. By agreement, Hollier was to pay the first trust deed note and petitioner was to pay the second; taxes and insurance were to be shared. From July 1975 to December 1979, petitioner and Hollier resided together in the Los Angeles residence. 460 By December 1979, petitioner's relationship with Hollier had become strained. Petitioner, a Social Security Administration (SSA) employee, moved to Baltimore, renting an apartment there, but leaving furniture and other belongings in the Los Angeles residence. Hollier did not move. Within 2 months of arriving in Baltimore, petitioner asked the SSA to transfer her back to Los Angeles. The SSA would not do so. From 1980 to mid-1982, petitioner returned to Los Angeles and stayed at the Los Angeles residence periodically for periods ranging from 2 weeks to 2 months. She continued to vote and pay taxes in California. She made all mortgage, tax, and insurance payments for the Los Angeles residence, as Hollier would not do so. Petitioner moved her remaining belongings from the Los Angeles residence in June 1982. In August 1982, Hollier married again and moved his wife and her child into the Los Angeles residence. Hollier agreed to a sale of the Los Angeles residence, and petitioner listed it with a real estate agent in September 1982. Nevertheless, when a potential buyer was found shortly thereafter, Hollier changed his mind and blocked the sale by refusing to show the house. 461 Petitioner began legal action for a partition and an accounting in the Superior Court of California, County of Los Angeles (the Superior Court). In October 1983, the Superior Court ordered Hollier to make payments on the first trust deed note. Petitioner treated Hollier's payments as rental income on her income tax returns and deducted depreciation and other rental-related expenses. Petitioner did so in her 1983 through 1986 tax returns, in each year claiming a net loss. In July 1986, the Superior Court ordered a partition of the Los Angeles residence, and Hollier bought petitioner's interest in the property for $ 262,500, pursuant to a right of first refusal granted him by the court. Petitioner did not report any gain from the sale of the Los Angeles residence on her 1986 return. In April 1987, petitioner purchased a house in Baltimore, Maryland (the Baltimore residence), for $ 135,000. During 1987 and 1988, petitioner made various improvements to the Baltimore residence. Petitioner was born on November 7, 1930. DiscussionPetitioner sold her interest in the Los Angeles residence in 1986, realizing a substantial gain, but reporting none of it in her 1986 Federal income462 tax return. Petitioner argues that a portion of the gain was excludable from gross income pursuant to section 121 and the remainder was subject to nonrecognition pursuant to section 1034. Respondent argues that neither section is applicable because the Los Angeles residence was not petitioner's principal residence in 1986, at the time of the sale. We agree with respondent that section 121 is inapplicable. We agree with petitioner that the nonrecognition rule of section 1034 applies, although we disagree with petitioner that all of the gain realized by her on the sale of the Los Angeles residence qualifies for nonrecognition pursuant to that rule. 3 We sustain respondent's additions to tax. Section 1034 ExclusionIn pertinent part section 1034 provides: (a) Nonrecognition of gain. -- If property (in this section called "old residence") used by the taxpayer as his principal residence is sold by463 him and, within a period beginning 2 years before the date of such sale and ending 2 years after such date, property (in this section called "new residence") is purchased and used by the taxpayer as his principal residence, gain (if any) from such sale shall be recognized only to the extent that the taxpayer's adjusted sales price (as defined in subsection (b)) of the old residence exceeds the taxpayer's cost of purchasing the new residence. The regulations accompanying section 1034 provide that use as a principal residence is determined based on all the facts and circumstances in each case, including the good faith of the taxpayer. Sec. 1.1034-1(c)(3)(i), Income Tax Regs. Petitioner sold her interest in the Los Angeles residence in December 1986 and purchased the Baltimore residence in April 1987. The Baltimore residence was used by petitioner as her principal residence. It is clear that the purchase of the Baltimore residence occurred within 2 years of the sale by petitioner of her interest in the Los Angeles residence. The question is whether, given the facts and circumstances here established, the Los Angeles residence was "used" by petitioner as her "principal residence", 464 as those terms are used in section 1034, so that some or all of the gain realized to petitioner on the sale of her interest in the Los Angeles residence is subject to nonrecognition pursuant to that section. Respondent argues that petitioner abandoned the Los Angeles residence as her principal residence no later than June 1982 and at such time established a new principal residence in Baltimore. Thus, respondent argues, the Los Angeles residence was not her principal residence at the time of the sale of her interest therein. Respondent cites Biltmore Homes, Inc. v. Commissioner, 288 F.2d 336">288 F.2d 336, 342 (4th Cir. 1961), affg. T.C. Memo 1960-53">T.C. Memo. 1960-53, Stolk v. Commissioner, 40 T.C. 345">40 T.C. 345 (1963), affd. per curiam 326 F.2d 760">326 F.2d 760 (2d Cir. 1964), and Houlette v. Commissioner, 48 T.C. 350">48 T.C. 350 (1967), in support of her position. Before addressing the authority cited by respondent, we wish to dispose of one point. The parties agree that the Los Angeles residence was petitioner's principal residence until she moved to Baltimore in December 1979. With regard to the period from December 1979 until June 1982 (when petitioner465 removed the remainder of her belongings from the Los Angeles residence), respondent's position is uncertain. Respondent has requested findings of fact that, no later than June 1982, petitioner left the Los Angeles residence with no intent to return to it and established a new principal residence in Baltimore. We conclude that petitioner's absence from the Los Angeles residence from December 1979 until June 1982 was only temporary; she intended to return. We so conclude because of, among other factors, the circumstances of her leaving in 1979 (viz, the deterioration of her relationship with Hollier), her immediate request for a transfer back to Los Angeles from Baltimore, and her periodic, extended visits to Los Angeles, during which she stayed in the Los Angeles residence. We conclude that her absence became more than temporary in June 1982 when (we assume) she learned of Hollier's impending marriage and removed the remainder of her belongings from the Los Angeles residence. During the period of her temporary absence from the Los Angeles residence, from December 1979 until June 1982, that absence did not change the status of the Los Angeles residence as her principal residence. 466 Cf. Trisko v. Commissioner, 29 T.C. 515">29 T.C. 515, 518-520 (1957); Andrews v. Commissioner, T.C. Memo. 1981-247, affd. without published opinion 685 F.2d 429">685 F.2d 429 (4th Cir. 1982); Barry v. Commissioner, T.C. Memo 1971-179">T.C. Memo. 1971-179. We now turn to petitioner's removal from the Los Angeles residence in June 1982. All three of the cases cited by respondent ( Biltmore Homes, Inc. v. Commissioner, supra, Stolk v. Commissioner, supra, and Houlette v. Commissioner, supra) concern a taxpayer who leaves a residence, rents a home elsewhere for a period of time (in Houlette the taxpayer lived in military quarters provided for him), eventually sells the old residence, and purchases a new one. In each case, section 1034 was found inapplicable. The common denominator is that, in each case, following the taxpayer's removal from the residence, the court concluded that the taxpayer no longer intended to use the residence as a principal residence. The consequence was that, upon the eventual sale of the residence, it could not qualify as the taxpayer's "old residence" 467 within the meaning of section 1034(a). In Stolk and Houlette, we expressed the results of our analyses of the facts in terms of the conclusion that, in each case, the taxpayer had "abandoned" the property in question as his principal residence when he moved out. Stolk v. Commissioner, supra at 353; Houlette v. Commissioner, supra at 358. We do not reach the same conclusion here. Biltmore Homes, Inc. v. Commissioner, supra, Houlette v. Commissioner, supra, and Stolk v. Commissioner, supra, are distinguishable. When petitioner removed the remainder of her belongings from the Los Angeles residence in June 1982, she intended to sell her interest immediately. That was not the case in either Biltmore Homes or Stolk. Petitioner listed the property with a real estate agent and expressed no reservations about selling the Los Angeles residence once a buyer was found. Nevertheless, petitioner was prevented from selling the Los Angeles residence because of Hollier's refusal to sell his interest and later because of the partition proceedings in California468 State court. The taxpayers in Houlette also intended to sell as soon as they moved out, and attempted to do so. When initial sales efforts failed, however, the taxpayers leased the residence on five separate occasions over nearly 6 years. The first and last leases were for 2-year periods; none of the leases included options to buy, and sales efforts were confined to periods between leases. Because of the taxpayers' apparent intention not to occupy the house again, we concluded that such efforts evidenced a business purpose, and they had abandoned the property as a principal residence. Houlette v. Commissioner, supra at 356. We find Clapham v. Commissioner, 63 T.C. 505 (1975), to be closer to the instant facts. In Clapham, the taxpayers moved and immediately listed their home for sale with a broker. Due to a slow real estate market, they received no immediate offer. Eventually, financial circumstances forced them to accept an offer to lease with an option to purchase. When the lessee moved out without exercising the option, the taxpayers resumed efforts to sell and, except for one more short rental, left the house vacant469 to facilitate sale. The taxpayers eventually succeeded in selling their home 3 years after they had moved out. In Clapham, we stated the following: Under the facts and circumstances before us we do not believe the failure of petitioners to occupy their home or the absence of an intention to return is of any significance. They vacated their old residence with no intention of returning, wishing only to sell the property as soon as a reasonable offer could be obtained. When a reasonable offer was not forthcoming, financial circumstances required them to rent the property temporarily pending sale, although their primary wish was always to sell. [Fn. ref. omitted.] Clapham v. Commissioner, supra at 510. We further stated that: "There is nothing in the legislative history [of section 1034] to indicate * * [that the] clearly expressed remedial purpose [of the section] is inapplicable when a poor real estate market or the unavailability of mortgage money requires an individual to lease his old premises for a temporary period concurrent with and ancillary to sales efforts." Id. at 511. We concluded that, under the facts and circumstances470 of the case, the taxpayers were entitled to the benefits of section 1034. Id. at 512. In Clapham, where the taxpayers' intent not to return was clear, we considered the lack of a ready market to be a fact or circumstances to be taken into account in determining whether the property there in question remained the taxpayers' principal residence after they moved out. Respondent would distinguish Clapham by denying that petitioner faced anything other than a ready market. On brief, respondent concedes that petitioner's intentions were to sell her interest in the Los Angeles residence as soon as she could. Nevertheless, respondent argues that: The litigation in the California court was litigation she [petitioner] instituted over a personal relationship and a joint venture property ownership arrangement that was entered into of her own accord. Circumstances of an individual's own making and under the control of the individual are not the type of "market exigencies" addressed by the Court in Clapham. We take respondent's argument to be that, in 1982, there was nothing unusual about the market for houses similar to the Los Angeles residence, viz, 471 that such market was not depressed, nor was there a dearth of buyers. Although there is no evidence to that effect, we will accept that was so. Nevertheless, petitioner did not have ready access to that market. Hollier's possession and refusal to cooperate in selling the house effectively blocked petitioner's access to the market. To be sure, petitioner could have sold her interest in the Los Angeles residence at some price, but undoubtedly that also was true of the taxpayers in Clapham. There is a similarity between the situation of petitioner here and the taxpayers in Clapham. In Clapham, the taxpayers had no market in which to sell their house. In this case, petitioner could not gain access to the market. The existence of a bar to her selling her interest in the Los Angeles residence is a circumstance that we take into account in determining whether the Los Angeles residence remained petitioner's principal residence after she moved out with no intent to return. See Clapham v. Commissioner, supra.Respondent also argues that petitioner's deduction of rental losses and depreciation from 1983 to 1986 indicates that petitioner no longer472 considered the property her principal residence, but an investment. In the instant case, petitioner did not rent the property in a conventional sense. She reported as rental income the payments that, pending resolution of the action for partition, Hollier was ordered by the Superior Court to make on the mortgage, insurance, and taxes. She then claimed depreciation deductions and other rental expenses, which produced the net loss she claimed on her returns. Petitioner's tax treatment of the property may have been motivated by reasons of tax avoidance. Nevertheless, respondent's emphasis on the rental deductions is misplaced. The regulations state: "The mere fact that property is, or has been, rented is not determinative that such property is not used by the taxpayer as his principal residence." Sec. 1.1034-1(c)(3)(i), Income Tax Regs. Petitioner's efforts to sell the Los Angeles residence and the commencement of partition proceedings by her demonstrate that her dominant motive was to sell that property at the earliest possible date rather than to hold it for rental income. We do not consider her rental treatment of the Los Angeles residence for tax purposes determinative that, 473 in 1983, when she first so treated it, it ceased to qualify as her personal residence. See Clapham v. Commissioner, supra at 512. In light of the facts and circumstances here present, and based on the holding of Clapham v. Commissioner, supra, we conclude that the Los Angeles residence remained petitioner's principal residence at all times here relevant and that, accordingly, petitioner is entitled to the benefits of section 1034. Section 121 ExclusionSection 121 provides a special one-time exclusion of gain realized on the sale of a principal residence. In pertinent part, section 121 provides: (a) General Rule. -- At the election of the taxpayer, gross income does not include gain from the sale or exchange of property if -- (1) the taxpayer has attained the age of 55 before the date of such sale or exchange, and (2) during the 5-year period ending on the date of the sale or exchange, such property has been owned and used by the taxpayer as his principal residence for periods aggregating 3 years or more. Section 1.121-3(a), Income Tax Regs., states that the "term 'principal residence' has the same meaning as in section474 1034 * * and the regulations thereunder (see paragraph (c)(3) of § 1.1034-1)." As previously stated, section 1.1034-1(c)(3)(i), Income Tax Regs., provides that use as a principal residence is determined based on all the facts and circumstances in each case. With regard to the application of section 1034, we have concluded that the existence of a bar to petitioner's selling her interest in the Los Angeles residence was "a circumstance that we [would] take into account in determining whether the Los Angeles residence remained petitioner's principal residence after she moved out with no intent to return." See supra p. 12 (emphasis added). Implicit in our analysis is the assumption that section 1034 would have been available to petitioner had she sold her interest in the Los Angeles residence (and otherwise complied with the requirements of section 1034) in June 1982, when she moved out of the Los Angeles residence with no intention to return. In contradistinction, had petitioner sold her interest in the Los Angeles residence in June 1982, section 121 would not have been available to petitioner, because she had not then attained the age of 55. See sec. 121(a); 475 sec. 1.121-1(c), Income Tax Regs. Accordingly, the bar to her selling her interest in the Los Angeles residence, which was a circumstance that we took into account for purposes of determining whether the Los Angeles residence remained her old residence for purposes of section 1034, after she moved with no intention to return, is not a circumstance that we may here take into account for purposes of section 121, since no sale by her of her interest in the Los Angeles residence at the time she so moved could have qualified for relief under section 121. Accordingly, we conclude that the gain-exclusion rule of section 121 is unavailable to petitioner. We need not determine whether, under different facts and circumstances, the rule of Clapham v. Commissioner, 63 T.C. 505">63 T.C. 505 (1975), would be applicable for purposes of section 121. Section 6653(a)(1)(A) and (B)Respondent determined that petitioner is liable for additions to tax under section 6653(a)(1)(A) and (B). Section 6653(a)(1) provides for a two-part addition to tax if any part of the underpayment is due to negligence or disregard of the rules or regulations (both hereinafter referred to as negligence). 476 Negligence has been defined as a lack of due care or the failure to do what a reasonable and ordinarily prudent person would do under the circumstances. Crocker v. Commissioner, 92 T.C. 899">92 T.C. 899, 916 (1989); Neely v. Commissioner, 85 T.C. 934">85 T.C. 934, 947-948 (1985). Section 6653(a)(1)(A) imposes an addition to tax equal to 5 percent of the underpayment. Section 6653(a)(1)(B) imposes an addition to tax equal to 50 percent of the interest payable under section 6601 on that portion of the underpayment attributable to negligence. Petitioner bears the burden of proof. Rule 142(a). Petitioner reported no gain from the sale of her interest in the Los Angeles property in her return for 1986. She argues that she failed to report any gain because she thought that she was entitled to the benefits of sections 121 and 1034. That may be. We do not disbelieve that, prior to filing her 1986 return, petitioner became aware of the beneficial tax treatment of home sales provided in sections 121 and 1034. Nevertheless, petitioner has not convinced us that she had more than a vague understanding that some relief was available under some circumstances. She has not477 convinced us that she took any steps to determine whether such relief was applicable to her particular circumstances, or whether some or all of the gain realized to her would be sheltered from tax. Section 121 requires an election by the taxpayer. Petitioner made no attempt until the trial of this case to comply with the requirement of that election. Based on the record as a whole, we conclude that petitioner has not carried her burden of showing that she exercised due care or acted as a reasonable and ordinarily prudent person would under the circumstances. Accordingly, we sustain respondent's addition to tax for negligence under section 6653(a)(1)(A) and (B), with whatever adjustment is necessary on account of our redetermination of the deficiency. Section 6661Respondent also determined that petitioner substantially understated her income tax liability and is liable for the addition to tax provided for in section 6661. The addition to tax for a substantial understatement of income tax for a taxable year equals 25 percent of the amount of any underpayment attributable to such substantial understatement. Sec. 6661(a); Pallottini v. Commissioner, 90 T.C. 498">90 T.C. 498, 500-503 (1988).478 There is a substantial understatement of income tax for a taxable year if the amount of the understatement for the taxable year exceeds the greater of 10 percent of the tax required to be shown on the return or $ 5,000. Sec. 6661(b)(1)(A). As with section 6653(a), petitioner has the burden of proof. Nevertheless, she has submitted no evidence nor any argument as to why section 6661 should not apply. Accordingly, we sustain respondent's determination of an addition to tax for a substantial understatement to the extent that the redetermined deficiency continues to qualify as a substantial understatement under section 6661(b)(1)(A). Decision will be entered under Rule 155. Footnotes1. 50 percent of the interest due on the portion of the underpayment attributable to negligence.↩1. Respondent conceded that charitable cash contributions in the amount of $ 1,333 are deductible.↩2. The grant deed by which the residence was acquired shows petitioner as the sole grantee. The California Superior Court, County of Los Angeles (whose actions are discussed below), found that petitioner and Hollier jointly purchased the Los Angeles residence and that title was taken solely in petitioner's name because Hollier was married at the time. We accept those findings.↩3. Computation of the amount of gain to be recognized to petitioner will be left to the parties. See Rule 155.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623677/	SAMUEL EWER EASTMAN AND FRANCES G. EASTMAN, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, RespondentEastman v. CommissionerDocket No. 5927-88.United States Tax CourtT.C. Memo 1989-288; 1989 Tax Ct. Memo LEXIS 288; 57 T.C.M. (CCH) 698; T.C.M. (RIA) 89288; June 14, 1989. Samuel Ewer Eastman, pro se. Karen A. Rose, for the respondent. PANUTHOSMEMORANDUM OPINION PANUTHOS, Special Trial Judge: This case was heard pursuant to the provisions of section 7443A of the Code. 1Respondent determined a deficiency in petitioners' Federal income tax for the taxable year 1984 in the amount of $ 2,482.97 and additions to tax under section 6653(a)(1) in the amount of $ 124.15 and under section 6653(a)(2) 290 in an amount equal to 50 percent of the interest due on the deficiency. The deficiency stems from respondent's determination that petitioners were not entitled to claim deductions for home office expenses, and travel and entertainment expenses. After concessions by both parties, the issues for decision are: (1) whether petitioners are entitled to a deduction for expenses incurred in connection with an office in their residence; (2) whether petitioners are entitled to deductions for travel and entertainment expenses; and (3) whether petitioners are liable for additions to tax under section 6653(a)(1) and (2). Some of the facts have been stipulated and are so found. The stipulation of facts and related exhibits are incorporated herein by this reference. Petitioners are husband and wife. They filed a joint Federal income tax return for the taxable year 1984. During 1984 and at the time of filing the petition herein, petitioners resided at Washington, D.C. For convenience, we will discuss the facts and applicable law as to each issue separately. 1. Home OfficeDuring the year in issue Samuel Ewer Eastman (hereinafter referred to as petitioner) was a transportation consultant.291 He has written a book and had numerous papers published in his field of expertise. Prior to 1970 petitioner operated a consulting business. Petitioner was employed by the Department of Transportation from 1970 through 1976. In September 1976 petitioner reopened his consulting business under the name Economic Services Corporation (ESC). Early in 1984, petitioner was continuously seeking business for ESC but was unsuccessful. On April 9, 1984, petitioner was hired as a consultant by the Department of Energy to review, analyze and evaluate a large computer simulation involving coal supply and the transportation industry. Petitioner was considered an independent contractor. Petitioner went to the Department of Energy periodically to utilize the computer and to meet with computer programmers and other employees. Petitioner had use of a desk in a room used by several consultants at the Department of Energy, and he was able to come and go at his convenience. Petitioner generally utilized his office at home for research and writing reports. Petitioner spent approximately one-half of his time at his home office, with the remainder spent either in the field or at the Department of292 Energy. In September 1984, petitioner was hired as a full time employee by the Interstate Commerce Commission. During this period, petitioner was permitted to continue his consulting business; however, because he was a new full-time employee on probation, he did very little, if any, consulting work. On their 1984 Federal income tax return, petitioners claimed deductions for costs incurred in connection with the use of a home office. After concessions by both parties, the amounts in dispute with respect to the home office deductions are $ 1,287 for depreciation, $ 35 for laundry, and $ 1,349 for utilities and telephone expenses. Section 162(a) allows a deduction for all ordinary and necessary business expenses paid or incurred during the taxable year. However, section 280A(a) provides as a general rule that "no deduction * * shall be allowed with respect to the use of a dwelling unit which is used by the taxpayer during the taxable year as a residence." There are several exceptions to the general rule which are set forth in section 280A(c)(1): (c) Exceptions for Certain Business or Rental Use; Limitation on Deductions for Such Use. -- (1) Certain business use. -- Subsection293 (a) shall not apply to any item to the extent such item is allocable to a portion of the dwelling unit which is exclusively used on a regular basis -- (A) [as] the principal place of business for any trade or business of the taxpayer, (B) as a place of business which is used by patients, clients, or customers in meeting or dealing with the taxpayer in the normal course of his trade or business, or (C) in the case of a separate structure which is not attached to the dwelling unit, in connection with the taxpayer's trade or business. In the case of an employee, the preceding sentence shall apply only if the exclusive use referred to in the preceding sentence is for the convenience of his employer. Petitioner bears the burden of proving that respondent's determinations are incorrect. Rule 142(a). Because respondent conceded that petitioner was an independent contractor and not an employee from January through September 1984, petitioner argues that section 280A(c) (1)(A) is the applicable exception at least for part of the year. Under that exception, petitioner must establish that he used a portion of his residence exclusively, on a regular basis, as his principal place294 of business. Petitioner contends that his home office was his principal place of business for the entire year. Respondent argues that while petitioner was an independent contractor his principal place of business was at the Department of Energy. In the alternative, respondent contends that if we find petitioner's home office to be his principal place of business, petitioner's home office deduction should only be allowed for the period of time that he was an independent contractor with the Department of Energy. The legislative history and the income tax regulations offer little guidance as to the scope of "principal place of business" as that term is used in section 280A. Baie v. Commissioner,74 T.C. 105">74 T.C. 105, 109 (1980). It is established, however, that a taxpayer can have only one principal place of business for each business in which he is engaged. Curphey v. Commissioner,73 T.C. 766">73 T.C. 766 (1980). "We therefore take it that what Congress had in mind was the focal point of a taxpayer's activities." Baie v. Commissioner, supra at 109. See also Jackson v. Commissioner,76 T.C. 696">76 T.C. 696, 700 (1981). The "focal" point is295 not dependent solely on the number of hours spent at a particular place of business. It is, rather, that location which is most essential to carrying on the taxpayer's business. Williams v. Commissioner,T.C. Memo. 1987-308; Cristo v. Commissioner,T.C. Memo 1982-514">T.C. Memo 1982-514. We note that we have been reversed on three occasions by courts of appeals which have criticized the focal point test. Meiers v. Commissioner,782 F.2d 75">782 F.2d 75 (7th Cir. 1986), revg. a Memorandum Opinion of this Court; Weissman v. Commissioner,751 F.2d 512">751 F.2d 512 (2d Cir. 1984), revg. and remanding a Memorandum Opinion of this Court; Drucker v. Commissioner,715 F.2d 67">715 F.2d 67 (2d Cir. 1983), revg. and remanding 79 T.C. 605">79 T.C. 605 (1982). According to the courts of appeals, the focal point test places too much emphasis on where the taxpayer's work is most visible, not where the dominant portion of the taxpayer's work is accomplished. Pomarantz v. Commissioner,T.C. Memo. 1986-461, affd. 860 F.2d 960">860 F.2d 960 (9th Cir. 1988). In Pomarantz, an emergency care physician sought to deduct expenses related to maintenance of296 a home office, even though he treated patients at a hospital. We held in Pomarantz that under either standard the result would be the same, that is, that the taxpayer's principal place of business was not his home office. On the facts of this case, we find that under either standard the principal place of business of petitioner was his home office. Petitioner has established that he conducted a consulting business as a sole proprietor during the year in issue. As a sole proprietor, he was retained by the Department of Energy to review, analyze and evaluate a computer simulation which provided an annual assessment of energy produced from coal. While under contract with the Department of Energy as a consultant, petitioner spent approximately fifty percent of his time at his home office. All of petitioner's research and writing was accomplished at his home office. This was the only reasonable place where these activities could be conducted. Furthermore, the report researched and written by petitioner in his home office was the final product for which he was being paid. Petitioner conducted his consulting business out of his home office. We therefore conclude that petitioner's297 principal place of business was his home office. We must now determine for what period of time in 1984 petitioner's home office was his principal place of business. Petitioner was engaged in the trade or business of a consultant. We are satisfied that petitioner had the honest objective of carrying on his business for profit during the period January 1, 1984 through September 1, 1984. Dreicer v. Commissioner,78 T.C. 642">78 T.C. 642 (1982), affd. without opinion 702 F.2d 1205">702 F.2d 1205 (D.C. Cir. 1983). We therefore reject respondent's contention that petitioner may not deduct expenses of his home office incurred prior to the date he was retained by the Department of Energy. Petitioner, however, did not present any evidence as to the extent of any consulting activity after he commenced employment at the Interstate Commerce Commission in September 1984. Therefore, we find that petitioner is not entitled to a deduction for expenses incurred in connection with an office in his residence from September 1, 1984 through December 31, 1984. 2. Travel and Entertainment ExpensesPetitioners operated a rental business under the name of Mountain Top M & M Homes (M&M). The298 properties were located in Garrett County, Maryland. Petitioners claimed travel and entertainment expenses in connection with M&M in the amounts of $ 1,299 and $ 1,567, respectively. Respondent disallowed entirely the deductions for travel and entertainment expenses. Section 162(a) allows a deduction for ordinary and necessary expenses paid or accrued during the taxable year in carrying on a trade or business. However, section 274(d) imposes additional requirements for the substantiation of expenses for travel, entertainment and gifts. Under section 274(d), the taxpayer is required to substantiate by "adequate records or by sufficient evidence corroborating his own statement" the amount of the expense, the time and place of the travel and entertainment, and the business relationship to the taxpayer of the persons entertained. 2299 The regulations under section 274(d) provide clarification and explanation of the substantiation requirements. Sec. 1.274-5, Income Tax Regs. In order to meet the "adequate records" requirement, a taxpayer must maintain "an account book, diary, statement of expense or similar record * * and documentary evidence * * * which, in combination, are sufficient to establish each element of an expenditure" specified in the statute and regulations. Sec. 1.274-5(c)(2)(i), Income Tax Regs.In the absence of adequate records to substantiate each element of an expense, a taxpayer must establish such element by "his own statement, whether written or oral, containing specific information in detail as to such element," and by "other corroborative evidence sufficient to establish such element." Sec. 1.274-5(c)(3), Income Tax Regs.Petitioner did not maintain an account book, diary or statement of expense that set forth the business purpose of any travel and entertainment expense. Petitioner failed to present specific corroborating information regarding the amount of the expense, the place of the travel and entertainment, and the business purpose. Sec. 1.274-5(c)(3), Income Tax Regs.; sec. 300 274(d). Petitioner thus failed to qualify under either the "adequate records" test of section 1.274-5(c)(2), Income Tax Regs., or by other sufficient evidence under section 1.274-5(c)(3), Income Tax Regs. Accordingly, we disallow the claimed travel and entertainment expenses. 3. Additions to Tax Under Section 6653(a)(1) and (2)Section 6653(a)(1) imposes an addition to tax if any part of an underpayment is due to negligence or disregard of rules and regulations. Section 6653(a)(2) further imposes an addition to tax in the amount of 50 percent of the interest due on the portion of an underpayment attributable to negligence. Negligence is defined as the lack of due care or failure to do what a reasonable and ordinarily prudent person would do under the circumstances. Neely v. Commissioner,85 T.C. 934">85 T.C. 934, 947 (1985). Petitioner has the burden of proving he is not liable for the additions to tax. Bixby v. Commissioner,58 T.C. 757">58 T.C. 757, 791-792 (1972). Petitioners failed to establish that they were not negligent and we sustain respondent's determination on these additions to tax. To reflect the foregoing, Decision will be entered under Rule301 155.Footnotes1. All section references are to the Internal Revenue Code as amended and as in effect for the year at issue. All Rule references are to the Tax Court Rules of Practice and Procedure.↩2. Sec. 274(d) provides: (d) Substantiation Required. -- No deduction shall be allowed -- (1) under section 162 or 212 for any traveling expense (including meals and lodging while away from home), (2) for any item with respect to an activity which is of a type generally considered to constitute entertainment, amusement, or recreation, or with respect to a facility used in connection with such an activity, (3) for any expense for gifts, or * * * unless the taxpayer substantiates by adequate records or by sufficient evidence corroborating his own statement (A) the amount of such expense or other item, (B) the time and place of the travel, entertainment, amusement, recreation, or use of the facility or property, or the date and description of the gift, (C) the business purpose of the expense or other item, and (D) the business relationship to the taxpayer of persons entertained, using the facility or property, or receiving the gift. * * *↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623678/	MILTON A. FRIED, ET AL., 1 Petitioners v. COMMISSIONER OF INTERNAL REVENUE, Respondent Fried v. CommissionerDocket Nos. 3533-83; 1454-85; 1455-85; 15390-85United States Tax CourtT.C. Memo 1989-430; 1989 Tax Ct. Memo LEXIS 428; 57 T.C.M. (CCH) 1300; T.C.M. (RIA) 89430; August 15, 1989David Berman and Jan Neiman, for the petitioners. Bonnie Rosner, for the respondent. SCOTT MEMORANDUM FINDINGS OF FACT AND OPINION SCOTT, Judge: This case was heard by Special Trial Judge Peter J. Panuthos pursuant to the provisions of section 7443A of the Code. 2 The Court agrees with and adoptsy430 the Special Trial Judge's opinion, which is set forth below. OPINION OF THE SPECIAL TRIAL JUDGE PANUTHOS, Special Trial Judge: Respondent determined deficiencies in and additions to the Federal income tax of Milton A. Fried (hereinafter petitioner) and his wife, Glenn Fried, 3 as follows: Addition to TaxSec. 6653(b),YearDeficiencyI.R.C. 19541973$ 19,380.50$ 9,690.251974$ 79,434.00$ 39,717.001975$ 97,247.00$ 48,623.001976$ 131,500.05$ 65,750.031977$ 41,211.15$ 20,605.631981$ 46,837.76-- 431 Petitioner has conceded the deficiencies in tax for the years in question except as set forth below. After concessions by both parties, the issues remaining for decision are: (1) Whether petitioner is entitled to claim a deduction related to his investment in a movie partnership called Nap Properties, Ltd. for 1973. (2) Whether capital was a material income-producing factor in the business conducted by petitioner's partnership during taxable years 1974 and 1975 so as to limit to 30 percent the percentage of income from the partnership subject to the 50-percent maximum tax rate on personal service income provided in section 1348; (3) Whether petitioner is liable for the additions to tax under section 6653(b) for 1973, 1974, 1975, 1976, and 1977; and (4) Whether assessment of the tax for the years 1973 and 1977 is barred by the statute of limitations. FINDINGS OF FACT At the time the petitions were filed in these cases, petitioners resided in Miami Beach, Florida. The stipulation of facts and attached exhibits are incorporated herein by this reference. Petitioner began promoting tax shelters in 1974. From 1974 through 1976, petitioner's major source of income432 was the tax shelter promotion business. Petitioner reported income from a partnership formed by him and Marvin Popkin (the Popkin-Fried partnership) on Schedules C attached to his Forms 1040 for his taxable years 1974 and 1975. The Popkin-Fried partnership received fees for services performed by its partners in promoting various limited partnerships, specifically, selling partnership interests in the other partnerships. Although Popkin-Fried held interests in some of the partnerships it promoted, Popkin-Fried did not maintain an "inventory" of partnership interests that it sold on its own account. Petitioner, individually and through Popkin-Fried, promoted and participated in movie and coal shelters during the years in issue, and we address these two categories separately. MoviesIn 1973, petitioner invested in a movie limited partnership called Nap Properties, Ltd. Petitioner's involvement in that venture was strictly as an investor. On his 1973 Federal income tax return, petitioner deducted $ 27,818 as his distributive share of the loss incurred by Nap Properties, Ltd. for its taxable year 1973. Petitioner substantiated his investment in NAP properties to the extent433 of $ 9,000 paid by check in February 1974. From 1974 through 1980, petitioner and Popkin purchased movies through limited partnership vehicles and sold limited partnership interests to investors. Petitioner promoted and was the general partner, directly or indirectly, 4 of the following movie ventures: 1. Lakeview Properties, Ltd. 2. Parkview Properties, Ltd. 3. Islandview Properties, Ltd. 4. Oceanview Properties, Ltd. 5. Dorian Properties, Ltd.6. River Properties, Ltd. 7. Wolf Properties, Ltd. 8. Sea Properties, Ltd. 9. Bijoux Properties, Ltd. The purchase price of each of the movies was financed largely (over 80 percent) with nonrecourse notes. All of the partnerships showed substantial losses on their partnership returns. The partners claimed the losses on their individual tax returns and claimed investment tax credits based on the purchase price of the movies. The partnerships had nominal amounts of gross income. Although the partnerships apparently obtained appraisals of the movies in which they invested, the appraisals434 were not relied on by the partnerships for investment purposes. Rather, the appraisals were after-the-fact estimates for the purpose of supporting tax deductions, since they are dated after the movie partnerships were formed. Well-known actors and actresses, however, starred in the movies, and even respondent's expert conceded that two appraisals of one of the films varying by 500 percent could be considered "accurate." CoalIn late 1976, petitioner and Popkin began promoting coal mining tax shelters. The coal ventures were undertaken to salvage two movie partnerships adversely affected by the Tax Reform Act of 1976. Petitioner had no experience in the coal business. Petitioner promoted and was a general partner of Mountainview Properties, Ltd., one of the two movie partnerships he and Popkin sought to salvage with coal investments. On October 29, 1976, Popkin, as president of Financial Advisory Group, Inc. (his wholly owned corporation), executed a lease to a coal-bearing tract of land in Kentucky known as the Bodenheimer tract. The lessor of the property was Cannel Log, Inc., a corporation of which Walter Childers was president. Although the lease was not executed435 by Childers before October 30, 1976, the lease was dated October 26, 1976. Petitioner notarized, on a separate sheet attached to the lease, Popkin's signature dated October 26, 1976. This lease provided that Cannel Log, Inc., would receive $ 50,000 cash as an advance royalty payment on or before December 31, 1976. Financial Advisory Group, Inc. in turn executed a lease on the Bodenheimer tract with Mountpine Properties, a partnership comprising Alpine Properties, Ltd., Mountainview Properties, Ltd., and the Popkin-Fried partnership. Under the terms of this lease, the three entities were to pay Financial Advisory Group the sum of $ 3,000,000 as an advance royalty as follows: $ 50,000 in cash and a $ 2,950,000 nonrecourse promissory note to be secured by "a pledge of this lease." Petitioner signed this lease as general partner of Mountainview Properties. The lease between Financial Advisory Group and Cannel Log was not complete when executed by Childers (i.e., he executed the document in blank) and was backdated. No mining ever took place, or was attempted, on the Bodenheimer tract. Mining was never commenced because the necessary funds were not provided to Childers' firm, which436 had contracted to conduct the operation. On October 29, 1976, the Internal Revenue Service issued News Release IR-1687. The release announced a proposed amendment to the regulations providing that advanced royalties could be deducted only in the year that a mineral product is sold. The amendment was effective October 29, 1976, unless the royalties were paid pursuant to a lease or written contract binding prior to that date. Petitioner requested that tax attorney Ben Schwartz prepare a tax opinion in connection with the Bodenheimer coal investment for inclusion in the Mountainview Properties, Ltd., and Alpine Properties, Ltd., movie promotions. The information relied upon by Schwartz in preparing the opinion came solely from petitioner and Popkin. Had attorney Schwartz been aware of the backdated lease, he would have issued a different tax opinion with regard to the Bodenheimer tract venture. Mountpine Properties' partnership return for 1976 reflected a deduction for the entire advance royalty of $ 3,000,000. The partnership's return for 1977 showed interest expense of $ 177,000 on the promissory note and $ 5,000 in royalty deductions. Petitioner claimed his distributive437 share of the losses of Mountpine Properties, Ltd., on his 1976 and 1977 Federal income tax returns by virtue of his interests in the Popkin-Fried partnership, Mountainview Properties, Ltd., and Alpine Properties, Ltd. Petitioner carried back portions of the losses to his taxable years 1973, 1974, and 1975, 5 and carried portions of the losses forward to his taxable years 1977 and 1978. These deductions resulted in underpayments of tax for petitioner's 1976 and 1977 taxable years. Realty Marketing Group, Inc. (Realty), one of Popkin's wholly owned corporations, was the general partner of another coal promotion known as Arnett Mining Co., Ltd. (Arnett). Petitioner was a limited partner in Arnett. Petitioner invested in Arnett with a recourse note of $ 37,500. Arnett conducted no mining operations on the property it leased, and petitioner never made any payment on that note. Nevertheless, on his 1976, 1977, and 1978 Federal income tax returns, petitioner claimed his distributive share of partnership loss from Arnett in the amounts of $ 141,659, $ 7,647, and $ 7,697, respectively. OPINION Admissibility438 of Helen Popkin's TestimonyHelen Popkin, wife of Marvin Popkin, testified at trial as to statements made by her husband concerning his and petitioner's tax shelter promotion activities. Petitioner objected to her testimony on the ground that it was hearsay. Helen Popkin's testimony was admitted subject to petitioner's objection, and the parties presented argument on this issue in their briefs. Respondent contends that the statements by Popkin to his wife were not hearsay under Rule 801(d)(1)(A), Federal Rules of Evidence, and, alternatively, that her testimony is admissible under the exception to the hearsay rule for statements by co-conspirators. Rule 801(d)(2)(E), Federal Rules of Evidence. We reject respondent's contentions regarding Mrs. Popkin's testimony and have not considered her testimony in reaching our decision in this case. It is incorrect to assert that Mrs. Popkin's testimony was not hearsay under Rule 801(d)(1)(A), Federal Rules of Evidence. That rule permits introduction of the prior inconsistent statement of a witness as substantive evidence only if the439 prior statement was made under oath. While Mr. Popkin appeared as a witness in this case, his out-of-court statements to his wife were not made under oath. Accordingly, Mrs. Popkin's testimony concerning Mr. Popkin's statements is hearsay. As hearsay, Mrs. Popkin's testimony is inadmissible unless it falls under an exception to the hearsay rule. Under Rule 801(d)(2)(E), Federal Rules of Evidence, a statement made by a co-conspirator during the course and in furtherance of a conspiracy is admissible. Respondent cited several cases standing for the proposition that the "in furtherance of the conspiracy" requirement of the rule should be interpreted broadly. See, e.g., United States v. Bentley, 706 F.2d 1498 (8th Cir. 1983); United States v. Rodriguez, 689 F.2d 516 (5th Cir. 1982); United States v. McGuire, 608 F.2d 1028">608 F.2d 1028 (5th Cir. 1979). Respondent has failed, however, to show how Mr. Popkin's statements to his wife were in furtherance of a conspiracy between Popkin and petitioner, even assuming for the sake of argument that such a conspiracy existed. The statements allegedly made by Mr. Popkin440 to Mrs. Popkin can in no way be construed as an attempt by him to further a conspiracy, or even to enlist his wife as a co-conspirator. We hold, therefore, that Mrs. Popkin's testimony was inadmissible. Deduction Related to Petitioner's Investment in Nap Properties, Ltd.Petitioner concedes that the deduction in 1973 of his distributive share of the loss of Nap Properties, Ltd., is not allowable. He nevertheless argues that he should be allowed to deduct the loss to the extent of his actual investment in the limited partnership, as were other limited partners who settled their cases with respondent. In the alternative, he maintains that he is entitled to a deduction for a theft loss under section 165(c)(3) in the amount of his investment, since the promoters of Nap Properties, Ltd., were convicted of fraud. 6Petitioner's averments on brief are not supported by the record. No evidence was presented relating to the settlement of cases, including petitioner's, involving Nap Properties, Ltd. In any event, petitioner would not necessarily be entitled to the same settlement441 terms as other investors in Nap Properties, Ltd. See Nicklo v. Commissioner, T.C. Memo. 1988-235; Avers v. Commissioner, T.C. Memo. 1988-176. Neither was evidence relating to any theft or embezzlement loss presented by petitioner. Petitioner has therefore failed to carry his burden of proving entitlement to a theft loss deduction. See Marine v. Commissioner, 92 T.C. 958">92 T.C. 958, 978-980 (1989); Viehwig v. Commissioner, 90 T.C. 1248">90 T.C. 1248, 1254 (1988); Horn v. Commissioner, 90 T.C. 908">90 T.C. 908, 940 (1988). Accordingly, we sustain the deficiency for 1973 determined by respondent with regard to the deduction of petitioner's share of the loss of Nap Properties, Ltd. 50-Percent Maximum Rate on Earned IncomeFormer section 13487 provided a maximum tax rate of 50 percent on "earned income." Under old section 1348(b), "earned income" means any income which is earned income within the meaning of section 401(c)(2)(C) or section 911(b), with certain exceptions not relevant here. Section 911(b) defines442 earned income as wages, salaries, professional fees, and other amounts received as compensation for personal services actually rendered. Section 911(b) further provides: In the case of a taxpayer engaged in a trade or business in which both personal services and capital are material income-producing factors, under regulations prescribed by the Secretary or his delegate, a reasonable allowance as compensation for the personal services rendered by the taxpayer, not in excess of 30 percent of his share of the net profits of such trade or business, shall be considered as earned income. Under section 1.1348-3(a)(3)(i), Income Tax Regs., if both personal services and capital are material income-producing factors, not more than 30 percent of the net profits a taxpayer receives from his business (including guaranteed payments under section 707(c) received from a partnership) can be considered "earned income" for purposes of the maximum tax provisions of former section 1348. Respondent argues that the income petitioner received from the Popkin-Fried partnership during 1974 and 1975 was derived from the sale of tax shelter packages and not from fees for personal services performed443 by petitioner. Accordingly, respondent argues, no more than 30 percent of the income received by petitioner from Popkin-Fried was earned income qualifying for the 50-percent maximum rate, since the income was derived from the sale of products, not services, to investors for a fee. Petitioner maintains that capital was not a material income-producing factor in the movie promotion business. Rather, petitioner argues, all amounts received were for services provided by petitioner or his partner on behalf of Popkin-Fried to the various movie partnerships. We agree with petitioner. Whether capital is a material income-producing factor in a business is determined by reference to all the facts in a case. Sec. 1.1348-3(a)(ii), Income Tax Regs. Capital is not a material income-producing factor where the activity generating the income is essentially personal services. Bruno v. Commissioner, 71 T.C. 191">71 T.C. 191, 200-201 (1978). The Popkin-Fried partnership and its partners were engaged in the business of promoting tax-sheltered investments. Fees were received from the partnerships in exchange for promotional and sales services rendered by the partners of Popkin-Fried. Accordingly, 444 capital was not a material income-producing factor in the business of the partnership. See Bruno v. Commissioner, supra; Crowell v. Commissioner, T.C. Memo. 1988-305. In Crowell, respondent argued that capital was a material income- producing factor in the business of a partnership which conducted a securities brokerage business. We rejected that argument, finding that the partners were paid for services rendered in arranging sales and purchases of securities. The brokerage partnership, the Court observed, maintained no "inventory" of securities that it sold to clients, even though the brokerage maintained small accounts on its own behalf. Similarly, the tax shelter packages sold by Popkin-Fried were neither "inventory" nor capital investments of Popkin-Fried. Petitioner's partnership income for 1974 and 1975 therefore qualifies for the 50-percent maximum rate on earned income provided for in section 1348. Additions to Tax for FraudThe 50-percent addition to tax in the case of fraud is a civil sanction provided primarily as a safeguard for the protection of the revenue and to reimburse the Government for the heavy expense of445 investigation and the loss resulting from the taxpayer's fraud. Helvering v. Mitchell, 303 U.S. 391">303 U.S. 391, 401 (1938). Respondent has the burden of proving, by clear and convincing evidence, that for each year, there was an underpayment of tax, and that some part of the underpayment was due to fraud. Sec. 7454(a); Rule 142(b). This burden is met if it is shown that the taxpayer intended to evade taxes known to be owing by conduct intended to conceal, mislead, or otherwise prevent the collection of such taxes. Stoltzfus v. United States, 398 F.2d 1002">398 F.2d 1002, 1004 (3d Cir. 1968); Rowlee v. Commissioner, 80 T.C. 1111">80 T.C. 1111, 1123 (1983). The existence of fraud is a question of fact to be resolved upon consideration of the entire record. Gajewski v. Commissioner, 67 T.C. 181">67 T.C. 181, 199 (1976), affd. without published opinion 578 F.2d 1383">578 F.2d 1383 (8th Cir. 1978). Fraud will never be presumed. Beaver v. Commissioner, 55 T.C. 85">55 T.C. 85, 92 (1970). Fraud may, however, be proved by circumstantial evidence because direct proof of the taxpayer's intent is rarely available. The taxpayer's entire course of conduct may establish446 the requisite intent. Stone v. Commissioner, 56 T.C. 213">56 T.C. 213, 223-224 (1971); Otsuki v. Commissioner, 53 T.C. 96">53 T.C. 96, 105-106 (1969). A fraudulent understatement of income can be accomplished by an overstatement of deductions. Drobny v. Commissioner, 86 T.C. 1326">86 T.C. 1326 (1986); Professional Services v. Commissioner, 79 T.C. 888 (1982); Hicks Co. v. Commissioner, 56 T.C. 982">56 T.C. 982 (1971), affd. 470 F.2d 87">470 F.2d 87 (1st Cir. 1972); Neaderland v. Commissioner, 52 T.C. 532">52 T.C. 532 (1969), affd. 424 F.2d 639">424 F.2d 639 (2d Cir. 1970). We must decide whether the losses reflected on petitioner's 1973 through 1977 returns attributable to the tax shelter activities were claimed with the willful intent to evade tax. Respondent relies on circumstantial evidence to prove petitioner's fraudulent intent. In this regard, respondent argues that petitioner engaged in a systematic scheme employing illusory nonrecourse notes to maximize mythical losses against earned and taxable income. Respondent has attempted to show one indicium of fraud by proving a pattern of understating income. 447 Respondent contends that investment in a series of tax shelters, all of which produce tax losses, is per se fraudulent. We do not accept respondent's argument. See Popkin v. Commissioner, T.C. Memo. 1988-459. Respondent, by concession, has proven an understatement of income for each of the years 1973 through 1977. Popkin v. Commissioner, supra.Understating income is one indicium of fraud. Bradford v. Commissioner, 796 F.2d 303">796 F.2d 303 (9th Cir. 1986), affg. a Memorandum Opinion of this Court; Archer v. Commissioner, 227 F.2d 270">227 F.2d 270 (5th Cir. 1955), affg. a Memorandum Opinion of this Court. We discuss the other indicia of fraud separately as they relate to petitioner's movie and coal activities. MoviesPetitioner claimed losses with respect to a number of movie shelters from 1973 to 1977. Respondent contends that because the movies were purchased with nonrecourse financing, because petitioner obtained inflated appraisals, and because the movies did not show a profit, the deals were without substance or profit objective. These are relevant factors, see, e.g., 448 Soriano v. Commissioner, 90 T.C. 44 (1988), and Beck v. Commissioner, 85 T.C. 557 (1985), but we are not convinced that petitioner's activities with respect to the movie shelters were fraudulent. Petitioner's participation in Nap Properties, Ltd., was strictly as an investor, and respondent has failed to demonstrate that the underpayment of tax resulting from petitioner's deduction in 1973 of his distributive share of the loss of Nap Properties, Ltd., was attributable to fraud. Well-known actors starred in the movies promoted by petitioner in subsequent years. Although estimates of the films' value were inflated and apparently obtained after the deals were entered into, respondent's expert admitted that the valuation of a movie is highly subjective. Even though we have found that understatements of income resulted from petitioner's movie promotions, the evidence presented relating to the movie tax shelters does not prove fraud. Accordingly, we do not sustain the additions to tax for fraud for petitioner's taxable years 1973 through 1975. CoalRespondent has proved fraud, however, with respect to petitioner's coal shelter activities in449 1976 and 1977. Although petitioner was fully aware that he had never made a payment on the note given for his investment in the Arnett Mining coal shelter and would not be required to do so, he nevertheless claimed his distributive share of losses from the venture on his 1976, 1977, and 1978 Federal income tax returns. In addition to establishing an underpayment, this is also substantial evidence of fraud. The most telling indicia of fraud relate to the Bodenheimer tract. The lease between Cannel Log and Financial Advisory Group could not have been executed prior to October 29, 1976. Accordingly, no advance royalty deduction was available. Sec. 1.612-3(b)(3), Income Tax Regs. Petitioner, however, purported to notarize the signature on the lease of his partner, Popkin, on October 26, 1976. He thus was a party to the backdating of the lease in order to qualify for the advance royalty deduction. Manipulation of records to mislead or conceal is another indicium of an intent to evade tax. Bradford v. Commissioner, 796 F.2d 303">796 F.2d 303, 307 (9th Cir. 1986). No attempt was made at trial to explain the apparent backdating of the lease, and we thus conclude that no explanation450 favorable to petitioner exists. Wichita Terminal Elevator Co. v. Commissioner, 6 T.C. 1158">6 T.C. 1158 (1946), affd. 162 F.2d 513">162 F.2d 513 (10th Cir. 1947). Although petitioner argues that he relied on the advice of tax counsel in taking the deductions to negate the inference of fraudulent intent, he did not provide all material facts relating to the transactions to his advisers. Among other things, he did not inform them that the promissory note he gave for his investment in Arnett was illusory, and that the Bodenheimer lease was backdated. Accordingly, petitioner cannot negate the attribution to him of fraudulent intent. United States v. Drape, 668 F.2d 22">668 F.2d 22 (1st Cir. 1982); United States v. Jett, 352 F.2d 179">352 F.2d 179 (6th Cir. 1965). Based on all the evidence in the record in this case, we find that respondent has shown by clear and convincing evidence that a part of the understatements in petitioner's Federal income tax liability for 1976 and 1977 is attributable to fraud. As in Popkin v. Commissioner, T.C. Memo. 1988-459, we stress that our holding is not based on mere promotion of "tax shelters." We have found actual, 451 intentional wrongdoing by petitioner in his participation in the backdating of the Bodenheimer lease and his claiming losses on his return based upon information he knew to be incorrect. It is on this that we largely rely in determining that the underpayments were due to fraud. We also conclude that petitioner has been disingenuous in attempting to portray himself as a tyro in the investment field who invested, on the advice of tax and other "advisers," in a series of deals which never yielded a profit, but, coincidentally, produced enormous tax benefits and large sums of money for petitioner as their promoter. Petitioner was an experienced attorney, albeit not a tax lawyer, with more than a passing familiarity with 22 the Internal Revenue Code. As a promoter, he had considerable experience with tax shelters, and we reject his depiction of himself as simply an unlucky investor. Period of Limitations for Taxable Years 1973 and 1977Petitioner raised the statute of limitations as a defense to the deficiencies determined for 1973 and 1977. We have found that the underpayment for 1977 was attributable in part to fraud, and thus the normal 3-year statute of limitations is not452 a bar to assessment of the tax for that year. Sec. 6501(c). Meier v. Commissioner, 91 T.C. 273">91 T.C. 273, 303 (1988). We have held, however, that the deficiency determined by respondent for petitioner's taxable year 1973 did not involve fraud. Respondent relies on a series of Forms 872 executed by petitioner extending the period of limitations on assessment for petitioner's taxable year 1973. The consents are expressly limited to adjustments or corrections to petitioner's distributive share of partnership items of Nap Properties, Ltd. Petitioner argues on brief that the consents were obtained from him under false pretenses and are thus invalid. Specifically, he maintains that respondent represented that additional time was needed to determine the merits of the claimed deductions, when in fact respondent's investigation of Nap Properties, Ltd., was complete, and respondent simply "did not want the civil aspects of the case to interfere with the criminal case." It is unnecessary for us to consider the merits of this argument, since there is no evidence in the record to support it. Accordingly, we find that the period of limitations on assessment for petitioner's taxable453 year 1973, with respect to items related to petitioner's investment in Nap Properties, Ltd., remains open. To reflect the foregoing and concessions by the parties, Decisions will be entered under Rule 155. Footnotes1. The following cases are consolidated herewith: Milton A. Fried and Glenn C. Fried, docket No. 1454-85; Milton A. Fried, docket No. 1455-85; and Milton A. Fried and Glenn C. Fried, docket No. 15390-85.↩2. This case was assigned pursuant to section 7443A and Rule 180. All section references are to the Internal Revenue Code, and all Rule references are to the Tax Court Rules of Practice and Procedure.↩3. Notices of deficiency were issued to Milton Fried and Glenn Fried jointly for their tax years 1973 through 1975 and 1981. For tax years 1976 and 1977, notices of deficiency were issued only to Milton Fried. Petitioner Glenn Fried and respondent stipulated to her correct tax liability for 1973, 1974, 1975, and 1981 in stipulations filed with the Court on May 9, 1988.↩4. The general partner of these ventures was usually the Popkin-Fried partnership or the Popkin-Fried-Rolnick partnership.↩5. Petitioner filed amended Federal income tax returns for these years.↩6. The promoters of Nap Properties, Ltd., were convicted of crimes relating to tax↩ fraud.7. Repealed by Pub. L. 97-34, the Economic Recovery Tax Act of 1981 (ERTA), for tax years beginning after 1981.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623679/	EUGENE J. MAY and LOUISE S. MAY, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, RespondentMay v. CommissionerDocket No. 8006-78.United States Tax CourtT.C. Memo 1981-119; 1981 Tax Ct. Memo LEXIS 625; 41 T.C.M. (CCH) 1097; T.C.M. (RIA) 81119; March 16, 1981. Eugene J. May, pro se. Thomas E. Ritter, for the respondent. HALL MEMORANDUM FINDINGS OF FACT AND OPINION HALL, Judge: Respondent determined an $ 11,980.17 deficiency in petitioners' 1974 income tax. The issues for decision are: (1) whether petitioners are entitled to business, rental and itemized expenses in excess of the amounts allowed by respondent; (2) whether petitioners established626 their basis in a capital asset sold in 1974; and (3) whether petitioners are liable for damages under section 6673 1 for instituting proceedings before this Court merely for delay. FINDINGS OF FACT Eugene J. May ("May") and Louise S. May resided in Roseville, Michigan, at the time they filed their petition. In 1974 May owned and operated E.J. May Real Estate Company and E.J. May Tax Service, and his principal business activity was that of a tax return preparer. May kept his knowledge current in the tax area by reading publications of the Internal Revenue Service. Petitioners timely filed a joint 1974 income tax return. On the first page of hat return petitioners typed the following statement: This return is submitted subject to the following reservations and conditions: That the burden or proof is upon the United States [sic] That the mathematical digits inserted herein are only representative of Federal Reserve evidences of debt and not statutory money; That any and all declarations made herein are made without waiver of 4th and 5th amendment rights, anything627 contained herin [sic], heron [sic], or hereafter, to the contrary not withstanding [sic]. On September 16, 1976, Elaine Schmidt, an Internal Revenue agent, mailed an appointment letter to petitioners regarding, interalia, an audit of their 1974 income tax return. As a result of this letter petitioners met with Schmidt on September 29, 1976, but failed to furnish any documentation concerning their 1974 taxes. On November 26, 1976, a summons was issued to petitioners directing them to appear before Schmidt on December 21, 1976, and to bring with them all of their books and records relating to 1974. In December 1976 petitioners met with Schmidt and indicated that they would comply with the summons, but petitioners requested that Schmidt review their records at May's office due to the volume of the records. On January 12, 1977, Schmidt and another agent went to the office but were not shown any books or records. Respondent then sought enforcement of the summons from the United States District Court for the Eastern District of Michigan. On August 20, 1977, the District Court ordered May to appear before it on September 26, 1977, to show cause why he should not be628 compelled to comply with the summons. May failed to appear and the District Court ordered May arrested, and May was arrested. The District Court ordered May to appear before it on November 14, 1977, to show cause why he should not be held in contempt of court and compelled to comply with the summons. At a hearing held on November 14, 1977, the Court found May in criminal contempt and ordered May to comply with the summons on or before November 21, 1977. May requested a stay of the District Court's order from the Sixth Circuit which request was denied. On November 22, 1977, petitioners appeared before the District Court and, under threat of incarceration of her husband, Mrs. May turned certain documents over to the government. These documents, however, were scattered records (including some checks and monthly bank statements) and were inadequate to permit Schmidt to complete an audit. Mrs. May indicated, however, that she would attempt to deliver additional documentation necessary to complete the audit. Based on Mrs. May's representations, respondent sought no further action from the District Court. In December 1977, Mrs. May wrote Schmidt a letter stating that the state of629 Michigan had all the requested books and records. Schmidt then contacted the state authorities and reviewed the documents they held. The only documents held by the state which were relevant to petitioners' income tax were some real estate tax receipts. On April 10, 1978, respondent mailed his notice of deficiency to petitioners in which he disallowed certain business expenses, rental expenses and itemized deductions because petitioners failed to show that the claimed deductions were expended for the purposes designated or were otherwise deductible under the Internal Revenue Code. Respondent did allow petitioners a deduction for the real estate taxes for which he had seen receipts. Respondent also increased petitioners' gain on the sale of a capital asset because of their failure to establish any adjusted basis in the asset sold. Finally, respondent allowed petitioners a $ 2,000 standard deduction and increased their self-employment tax to reflect the increase in their self-employment income. In their petition, petitioners raise a plethora of constitutional and statutory arguments and affirmative defenses, and a claim for a $ 5,000,000 judgment against respondent and his630 agents under section 7214. The petition does not allege any facts supporting any of petitioners' claims or allegations of errors. 2 Following the filing of the petition, this case was assigned to an appeals officer in the Appellate Division of the Internal Revenue Service for purposes of settlement. After several attempts to meet with petitioners proved unsuccessful, this case was forwarded to District Counsel for trial preparation. On April 20, 1979, this Court granted respondent leave to file an amended answer. Respondent filed an amended answer in which he requested damages under section 6673. On May 3, 1979, respondent served upon petitioners a Request for Production of Documents pursuant to Rule 72, Tax Court Rules of Practice and Procedure. Petitioners failed to comply. On October 4, 1979, respondent filed a Motion to Compel Compliance with Respondent's Request for Production of Documents. At a hearing held on November 7, 1979, this Court granted respondent's motion and directed petitioners to produce the631 requested documents or show cause at the call of calendar of this Court to be held on January 15, 1980, in Detroit, Michigan, why sanctions should not be imposed under Rule 104(c), Tax Court Rules of Practice and Procedure. Petitioners failed to produce any documents pursuant to this Court's order, and at the call of calendar on January 15, 1980, failed to show cause why sanctions under Rule 104(c) should not be imposed. Accordingly, at the commencement of trial sanctions were imposed precluding petitioners from introducing any documents not previously produced under the motion to produce. Trial of this case took place on January 15, 1980. At trial May, acting pro se, failed to present any evidence bearing on respondent's deficiency calculation despite repeated requests to do so. Instead, May chose to rely solely on various constitutional arguments. OPINION The first issues are whether petitioners are entitled to business, rental and itemized expenses in excess of the amounts allowed by respondent, and whether petitioners established their basis in a capital asset sold in 1974. Respondent's deficiency notice is based almost entirely on petitioners' failure to substantiate632 claimed deductions and adjusted basis. These issues are all factual, and the burden of proof is on petitioners. Welch v. Helvering,290 U.S. 111">290 U.S. 111 (1933); Rule 142(a), Tax Court Rules of Practice and Procedure.Petitioners have failed to carry their burden of proof. In fact, petitioners did not present any evidence or specific details which would support any of the disallowed deductions or the adjusted basis. Rather, petitioners chose to rely solely on various constitutional contentions. The multitude of constitutional and statutory arguments and affirmative defenses advanced by petitioners are frivolous and without merit. Wilkinson v. Commissioner,71 T.C. 633">71 T.C. 633, 637-639 (1979). All such contentions have been fully considered by this and other courts and decided adversely to the taxpayers. 3 We see no reason to reiterate the well established principles of those cases. I addition, this Court lacks jurisdiction to award punitive damages to petitioners of $ 5,000,000 under section 7214. French v. Commissioner,T.C. Memo. 1981-9 (1981); sec. 7442. Accordingly, respondent's deficiency calculation is sustained. 633 The next issue is whether petitioners are liable for damages under section 6673 for instituting proceedings before this Court merely for delay. Section 6673 provides: Whenever it appears to the Tax Court that proceedings before it have have instituted by the taxpayer merely for delay, damages in an amount not in excess of $ 500 shall be awarded to the United States by the Tax Court in its decision. Damages so awarded shall be assessed at the same time as the deficiency and shall be paid upon notice and demand from the Secretary and shall be collected as a part of the tax. In light of May's tactics of delay and his consistent refusal to address the merits, we hereby award damages to the United States. In the present case, May repeatedly refused to produce his records to respondent. His primary business activity was that of a tax preparer. He testified that he kept up with developments in the tax law area by reading the "information" distributed by the Internal Revenue Service. We can only conclude from this testimony that May was aware of his obligation to produce his books and records, the voluminous number of cases holding that his statutory and constitutional arguments634 were frivolous and meritless, and the possibility of having damages awarded under section 6673. Nevertheless, in spite of May's knowledge he steadfastly refused to produce any of the books and records necessary for respondent's agents to conduct an audit and he deliberately ignored a District Court order requiring him to do so. He filed his petition in the present case without making any allegations of error or assertions of facts which, if proven, would affect respondent's deficiency calculation, but rather chose to rely on statutory and constitutional assertions he must have known to be patently frivolous. During pretrial proceedings he again refused to produce any documents requested by respondent and deliberately ignored an order of this Court to produce documents. At trial he failed to introduce any testimony or evidence bearing on respondent's deficiency calculation.We are convinced that May's course of conduct, both before he filed his petition in this Court and afterwards, indicates that he filed his petition with the intent to delay paying his taxes. We therefore award damages of $ 500 to the United States for the reasons stated in Wilkinson v. Commissioner,supra at 643:635 When he costs incurred by this Court and respondent are considered, the maximum damages authorized by law ($ 500) do not begin to indemnify the United States for the expenses which petitioner's frivolous position has occasioned. Finally, considering the waste of limited judicial and administrative resources caused by petitioner's contumacious actions, even the maximum damages authorized by Congress are wholly inadequate to compensate the United States and other taxpayers. These costs must eventually be borne by all of the citizens who honestly and fairly participate in our tax collection system. An appropriate order and a decision for the respondent will be entered.Footnotes1. All statutory references are to the Internal Revenue Code of 1954, as in effect during the year in issue.↩2. We note that petitions of this type may be ripe for summary judgment. See e.g.,French v. Commissioner,T.C. Memo. 1981-9↩ (1981).3. See the cases cited in Bowser v. Commissioner,T.C. Memo. 1980-483 (1980); Hergott v. Commissioner,T.C. Memo. 1980-283 (1980); Brobeck v. Commissioner,T.C. Memo. 1980-239↩ (1980).	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623681/	HARVEY HAYUTIN, Transferee, ET AL., 1 Petitioners v. COMMISSIONER OF INTERNAL REVENUE, Respondent Hayutin v. CommissionerDocket Nos. 4390-69, 4391-69, 4392-69, 4393-69, 4394-69.United States Tax CourtT.C. Memo 1973-16; 1973 Tax Ct. Memo LEXIS 274; 32 T.C.M. (CCH) 58; T.C.M. (RIA) 73016; January 23, 1973, Filed 274 Held, transferee liability not proved by respondent. Gene F. Reardon, for the petitioners. Ralph V. Bradbury and Arthur B. Bleecher, for the respondent. DRENEN MEMORANDUM FINDINGS OF FACT AND OPINION DRENNEN, Judge: Respondent determined that petitioners, as transferees of assets of the estates of their parents, 2 Jacob and Ida Hayutin, are liable for the $65,000 deficiency in the 1956 income tax of Jacob and Ida Hayutin, plus statutory interest. The liability of each petitioner was determined as follows: Docket No.PetitionerTransferee liability 4390-69Harvey Hayutin$25,000.004391-6924,159.664392-69Marvin Hayutin25,000.004393-6924,159.664394-69Ruth Berger5,000.00275 The cases were consolidated for trial. The issue for decision is whether the estates of Jacob Hayutin and Ida Hayutin each contained a contractual obligation between the decedent and Harvey and Minna Hayutin, which was distributed to petitioners upon the settlement and discharge of the two estates. If there were such assets in the estates, then we must also determine their value. FINDINGS OF FACT The stipulation of facts and exhibits attached thereto are incorporated herein by this reference. Petitioner Harvey Hayutin was a resident of Beverly Hills, Calif, when he filed his petition herein. During the period at issue, he was married to Minna Hayutin. Petitioner Marvin Hayutin was a resident of New York, N.Y., when he filed his petition herein. Petitioner Ruth Berger was a resident of Denver, Colo., when she filed her petition herein. 3 Ida Hayutin and Jacob Hayutin were the parents of petitioners Marvin Hayutin, Harvey Hayutin, and Ruth Berger. They also had a fourth child, Neva Jean Caspe, who is not a party to this proceeding. Both Jacob and Ida are deceased, Ida having died at about the age of 78 on March 5, 1964, and Jacob having died at the age of 87276 on July 4, 1964. On March 28, 1962, respondent sent Ida and Jacob Hayutin a joint statutory notice of deficiency determining deficiencies in their income taxes for the taxable years 1955 and 1956. On May 15, 1962, Jacob and Ida Hayutin filed a petition with the Tax Court requesting a redetermination of those deficiencies. 2 On July 24, 1968, the Court entered a stipulated decision in which it determined that with respect to petitioners Jacob and Ida Hayutin there was no deficiency in income tax for the taxable year 1955 and that there was a deficiency in income tax for the taxable year 1956 in the amount of $65,000. The Court's decision became final on October 22, 1968. The deficiency of $65,000 plus statutory 4 interest in the amount of $44,285.48 for an aggregate amount of $109,285.48, was assessed on August 23, 1968. However, respondent was unable to collect any of the deficiency or the interest from their estates; at that time a decree of final settlement and discharge had been entered by the probate court in both estates. 277 Both Jacob and Ida died testate and their wills named their son, Harvey Hayutin, as the executor of their estates. At their deaths, both Ida and Jacob were residents of Denver, Colo., and their estates were probated before the county court of the City and County of Denver, Colo. (hereinafter probate court). Ida Hayutin's will left her estate in three equal parts to Jacob, Marvin, and Harvey. The Federal estate tax return for her estate, filed July 22, 1965, reported as the principal asset in the estate a contractual obligation of Harvey and Minna Hayutin, made January 1, 1963, due January 1, 1983, with interest at 6 percent payable annually. The return further discloses that interest in the amount of 5 $5,013.61 had accrued on the obligation at Ida's death, and its total value was $75,480.49, or $70.466.88 plus the interest. All of the remaining papers filed with the probate court pertaining to the settlement of Ida's estate, including the State inheritance tax returns, the estate inventory, 3 other interim probate court reports, and the degree of final settlement and discharge indicate the existence of the obligation. The only other assets listed in the inventory278 of the estate were personal property and a small amount of cash. No estate tax was paid by Ida's estate. Harvey Hayutin, as executor of the estate, paid State inheritance tax on the obligation. Additionally, the original estate income tax returns for the taxable years 1964 and 1965 report amounts of $688.58 and $2,100, respectively, received as interest on the obligation. However, those returns reported no income tax due. The report of appraisement and assessment of tax filed in the probate proceedings of the estate places a value on the obligation of $75,480.49. The report further reflects that Ida's estate had an aggregate value of $72,478.99, after paying administrative expenses; and Jacob Hayutin, Marvin Hayutin, and Harvey Hayutin each received a one-third interest 6 in it having a value of $24,159.67. The decree of final settlement and discharge entered August 25, 1966, and filed with the clerk of the probate court recites the same distribution of Ida Hayutin's estate. It was accompanied by two receipts, one signed by Marvin Hayutin and one by Harvey Hayutin, as executor of279 Jacob's estate, which acknowledge receipt of assets of Ida's estate, including a one-third interest in the above obligation. Jacob Hayutin's will left his entire estate to his four children, Marvin, Harvey, Ruth, and Neva Jean. His two sons, Marvin and Harvey, each received five-twelfths of the estate, and his two daughters, Ruth and Neva Jean, each received one-twelfth of the estates. The estate tax return for Jacob's estate indicates the two principal assets therein were a one-third undivided interest in the residuary estate of Ida Hayutin, valued at $24,057.74, and a contractual obligation of Harvey and Minna Hayutin made on January 1, 1963, and due on January 1, 1983, with interest at 6 percent payable annually. Since no interest had been paid on the debt at Jacob's death, the obligation in the face amount of $70,466.88, had accumulated interest in the amount of $6,493.34. However, the return states that the 7 total value of Jacob's estate was no more than $60,000. 4 The only other assets listed in the inventory of the estate were valued at less than $1,000 and no estate tax was paid by the estate. 280 As in the case of Ida Hayutin's estate, the estate and inheritance tax returns and all papers filed with the probate court pertaining to the settlement of Jacob's estate disclose the existence of the two contractual obligations owed to Ida and Jacob by Harvey and Minna. The income tax returns for Jacob's estate for the taxable year 1965 8 and 1966 reported interest income received in the amounts of $700 and $800 respectively, but no tax was due. Harvey Hayutin, as executor of the estate, paid State inheritance tax on the obligations. A decree of final settlement and discharge of Jacob's estate was entered on April 6, 1967, and filed with the probable court on December 4, 1968. The decree reflects that final distribution of the estate was made in accordance with the provisions of Jacob's will. The decree further recites that the personal property of Jacob's estate included the two contractual obligations. The decree was accompanied by four receipts, one from each legatee, which state that each received his proper share of the estate. On their joint income tax return for the taxable year 1963, Harvey and Minna Hayutin deducted $2,397.16 for interest payments made to281 Jacob and Ida Hayutin, and $8,456.03 for interest paid to Marvin Hayutin. The return also indicates that the Hayutin family partnership was dissolved as of January 1, 1963. On their joint income tax return for 1964, Harvey and Minna claimed a deduction in the amount of $971.87 for interest paid to Marvin Hayutin. Additionally, on their joint income tax return filed for the taxable year 1965, they again deducted $3,478.01 as interest expense paid to the estates of Jacob and Ida Hayutin, and $12,212.42 as interest paid to Marvin. 9 The same attorney probated the estates of Jacob and Ida Hayutin. He included the contractual obligations in each of the estate's inventories as a result of reading a letter, dated December 19, 1963, in his firm's files in which Harvey and Minna Hayutin putatively agreed to buy out Harvey's parents' and Marvin Hayutin's interests in a family partnership, designated as the H.F.T. Co., a Colorado general partnership, at book value as required in the partnership agreement, which value had been determined and agreed upon by the parties. From the 1962 partnership tax return, this attorney determined that the book value of each of the one-quarter interests282 of Jacob and Ida Hayutin in the partnership was $70,000. The letter upon which the attorney relied was dated December 13, 1963, and was on the firm stationery but was signed by another attorney in the firm who did not testify in these proceedings. The letter set out the terms of a plan under which Harvey and Minna had exercised their right to purchase the partnership interests of Jacob, Ida, and Marvin in the H.F.T. Co. partnership as of January 1, 1963. The purchase price was to be paid in promissory notes, bearing 6 percent interest per annum, fully maturing 20 years after date, the principal to be paid in 10 equal installments with the first installment due on the 11th anniversary date of the notes. The letter requested the 10 addressees, who were Jacob, Ida, Marvin, Harvey, and Minna, to sign the letter to confirm their understanding of the plan, which they all did. The attorney who prepared the returns and probate papers for the two estates discussed them with Harvey before they were filed, but he had no independent knowledge of the obligations described therein. He listed the purported obligations from Harvey and Minna to Jacob and Ida on the inventories and returns283 for their estates in accordance with his understanding of the terms of the agreement reflected in the letter of December 13, 1963. However, no promissory notes or other written documents were ever executed pursuant to the provisions of the letter. As a result of a dispute arising from the final distribution of Jacob Hayutin's estate, Harvey paid his sister Neva Jean $5,000 in settlement of her claim to a one-twelfth interest. Subsequently, because he paid Neva Jean, Harvey promised to pay $5,000 to his other sister, Ruth, who also had a one-twelfth interest in the estate. Neither Ruth nor Harvey felt he was obligated to make the payment, and both considered it a gift. Marvin Hayutin, Harvey's brother, has never received any property in the distribution of his parents' estates, other than a few small personal mementos, although he did execute receipts for distributions from the estates which included interests in the contractual obligations. Furthermore, 11 he does not believe that Harvey is obligated to him for any payments with respect to the dissolution and purported sale of his family partnership interest. On October 7, 1970, Marvin, Harvey, Ruth, and Neva Jean284 jointly filed two petitions with the probate court to reopen both of the estates of their parents. Their purpose in reopening the estates was to change the records by deleting from them all references to the two contractual obligations and to describe the amounts paid by Harvey and Minna Hayutin to the estates as advances and not interest on the contractual obligations. The probate court granted the petition on the same day it was submitted with one qualification that the order was "without prejudice to any other parties including taxing authorities." All of the papers reopening and closing the two estates were dated October 7, 1970. Accordingly, Harvey Hayutin, as executor for the two estates, filed amended Federal estate tax returns and state inheritance tax returns to expunge the obligations from the records and amended Federal estate income tax returns to delete from the records the amounts of interest income previously reported as being received by the estates. Attendantly, Harvey and Minna Hayutin were advised to amend their joint income tax returns to show that they had paid no interest to Harvey's parents or their estates. 12 Finally, the four children, Marvin, 285 Harvey, Ruth, and Neva Jean, entered into an agreement in which they declared that no contractual obligation between their parents, Jacob and Ida Hayutin, and Harvey and Minna Hayutin ever existed or was includable in their parents' estates. On June 23, 1969, respondent sent notices of liability to Marvin, Harvey, and Ruth, informing them that as transferees of assets of their parents' estates, they were liable for Jacob and Ida Hayutin's 1956 income tax deficiency of $65,000, plus statutory interest, to the extent of the fair market value of the assets received from the two estates. Thus, respondent determined that Marvin Hayutin and Harvey Hayutin, as transferees of assets of Jacob Hayutin's estate, are each liable for $24,159.66, plus statutory interest. Respondent determined that Ruth Berger, as a transferee of assets of Jacob Hayutin's estate, is liable for $5,000, plus statutory interest. The H.F.T. Co. was a partnership consisting of Ida, Jacob, Harvey and Minna, and Marvin Hayutin. Jacob started in the bicycle business in 1900, and the children helped him in the business as they grew older. The partnership apparently grew out of this business, and it continued in that286 13 business until the end of World War 11, at which time Harvey and Marvin's interests had shifted elsewhere. Subsequently, the partnership was used to some extent by Harvey and Marvin for trading and investment purposes until it was dissolved as of December 31, 1962. 5OPINION Respondent proceeded against petitioners as transferees under section 6901, Internal Renenue Code of 1954, 6 which provides, in pertinent part: SEC. 6901. TRANSFERRED ASSETS. (a) Method of Collection. - The amounts of the following liabilities shall, except as hereinafter in this section provided, be assessed, paid, and collected in the same manner and subject to the same provisions and limitations as in the case of the taxes with respect to which the liabilities were incurred: (1) Income, estate, and gift taxes. - (A) Transferees. - The liability, at287 law or in equity, of a transferee of property - 14 (i) of a taxpayer in the case of a tax imposed by subtitle A (relating to income taxes), * * * (b) Liability. - Any liability referred to in subsection (a) may be either as to the amount of tax shown on a return or as to any deficiency or underpayment of any tax. Under section 6902(a), respondent bears the burden of proof to show that petitioners are liable as transferees of property of a taxpayer, but he does not have to show that the transferor was liable for the tax. 7 In meeting his burden of proving transferee liability respondent must show that property of value was transferred from the transferors to the alleged transferees without adequate consideration during or after the period for which the liability accrued; that the liability has not been paid; and that the transferors were either insolvent at the time of the transfers or rendered insolvent thereby. ; ; ,288 affirmed per curiam (C.A. 6, 1960). There is no dispute in this case that the estates of both Jacob and Ida were either insolvent at their inception, or became insolvent when, and if, the purported notes were distributed to the petitioners herein. Respondent perceives the ultimate issue to be the value of the contractual obligations which he argues passed from Jacob and Ida Hayutin's estates to petitioners. Petitioners, on the other hand, first contend that in fact no such obligations ever existed, and that even if they did or do exist, such obligations are legally unenforceable and, therefore, have no value. The issue presented is thus essentially factual. Respondent relies almost entirely on the original papers filed with the probate court in the settlement and discharge of both Jacob's and Ida's estates and the various tax returns described in our findings of fact to carry his burden of proving transferee liability. The289 entries reflected in that documentary evidence support respondent's position that there were actual obligations owing by Harvey and Minna to both Jacob and Ida at the times of their deaths, which were assets of their estates and were transferred to petitioners. However, respondent completely ignores, or dismisses as self-serving, the amended documentary evidence approved by the probate court in 1970, the testimony of respondent's own witness, the attorney who prepared all of the probate papers, and the testimony of Harvey and Marvin Hayutin, and Ruth Berger, all of which disclaimed the existence of the obligations. 16 We agree with respondent that the reopening of the two estates to expunge the purported obligations from both estates might well have been self-serving, particularly in view of the timing, following as it did the issuance of the notices of transferee liability herein; but we also have the impression that the original probate documents likewise may have been self-serving statements for a different scheme. Thus, with the paucity of direct, substantive evidence in the record in support of the existence of the purported obligations from Harvey and Minna to Jacob290 and Ida, we are not convinced that such obligations did in fact exist. In our careful study of the record, we could not help but note several means by which respondent could have adduced sufficient evidence to substantiate the basic elements of his position, assuming, arguendo, that his position is the correct one. Such tangible evidence as H.F.T. Co. partnership tax returns, written memorials of the purported obligations, financial records of the partnership's assets, or documents acknowledging the transfer of the partnership assets to Harvey and Minna, would have substantially strengthened respondent's case. Likewise, testimonial evidence from Neva Jean Caspe concerning Harvey's $5,000 payment to her in settlement of Jacob's estate; from Harvey's CPA concerning the books and records of H.F.T. Co. or its valuation in 1963; or from the attorney who composed the 1963 letter which alluded to the 17 partnership buy-out, with regard to the truth of the letter of the events which prompted his drafting it, might have carried respondent's burden of proof. At trial, no direct evidence of this nature was forthcoming, however, and we are left to speculate whether such evidence was291 obtainable, or, if presented, whether it would have actually supported respondent's position. On the other hand, petitioners have placed in the record substantial credible evidence that no such written manifestations ever existed and that there were no partnership interests of value to purchase. This, in itself, casts considerable doubt on the enforceability and value of the purported debts. Respondent balances his position partially on Harvey's and Minna's payments to Jacob and Ida, or their estates, and to Marvin, which they deducted on their 1963, 1964, and 1965 income tax returns as interest expenses. Respondent also points to Harvey's promise of $5,000 to both of his sisters upon the settlement of his father's estate. Such evidence, he would have us believe, lends support to his position that Harvey and Minna bought out the family partners in H.F.T. Co. The questioned payments, however, are no more than circumstantial evidence at best, which leaves us unpersuaded for the following reasons. Harvey explained the interest payments to Jacob and Ida, or their estates, as family contributions made to cover 18 the living expenses of his parents and the costs of administering292 the two estates. His testimony is corroborated by the facts that the interest deductions claimed by Harvey for amounts paid to his parents or their estates (1) do not amount to the annual 6 percent interest due on the purported $70,000 notes; (2) do not coincide with the amounts of interest reported as being received by the estates; and (3) appear to have been sufficient only to supplement his parents' income or pay for the administration expenses of their estates. The evidence concerning Harvey's interest payments to Marvin during 1963, 1964, and 1965 is not complete enough to support respondent's position either. For though the payments clearly were made, there is no documentary or testimonial evidence to link the interest payments to the purported partnership buy-out. Both Harvey and Marvin testifies at trial, but neither was questioned about the origin of the interest payments. Furthermore, the payments to Marvin varied substantially from amounts far less than the 6 percent purportedly due annually to amounts in excess of 17 percent of the purported obligation. Harvey explained his $5,000 payments to his two sisters as nuisance value, in the case of Neva Jean, and a gift, 293 in the case of Ruth. His testimony was supported by Ruth's testimony and the agreement dated October 7, 1970, in which all the heirs of the two estates agreed that there was no 19 contractual obligation from Harvey and Minna to either Jacob or Ida. Accordingly, the evidence concerning the interest payments is far from conclusive; instead, it is ambiguous, which again leaves us to speculate about its relative significance. On further reflection, our impression from the record is that the purported plan for Harvey to buy out the partnership interests of Marvin and his parents may have been a scheme whereby Harvey could support his parents with payments that would be deductible as interest on his tax returns. It seems unlikely there was any expectation that any part of the principal amounts involved would ever be paid to Jacob and Ida, because they were about 86 and 77 years old, respectively, when the notes were to be dated, and the first payments of principal were not due to be paid until 10 years later. There is also evidence that the principal of these notes would have been forgiven under new wills to be executed by Jacob and Ida. Finally, there is no evidence in294 the record that any consideration passed from Jacob and Ida to Harvey and Minna to support the purported obligations. We can find no clear evidence that there was even a viable partnership interest in existence in 1963. We can assume that the H.F.T. Co. partnership had some business activity in 1956 to give rise 20 to the tax liabilities of the partners which were determined by a stipulated decision entered by this Court. But we have no evidence, except the very vague testimony of Harvey, what those activities were or whether they continued up until 1963. Transferee liability is determined under State Law. . Respondent relies heavily on the fact that the probate court in Colorado approved the settlement of the two estates including the transfer to the beneficiaries of undivided interests in the obligations from Harvey and Minna to Jacob and Ida. However, the probate court in Colorado also approved the reopening of the two estates to expunge those assets from the two estates, and we have nothing to show that the one action was any less valid than the other. It should be apparent from the above discussion that the295 evidence in this case with regard to the existence or nonexistence of the obligations, upon which the transferee liability must be determined, is quite conflicting, and we are unable to determine from the record that the obligations did exist. While we realize that Harvey Hayutin is probably responsible for a great deal of the uncertainty, and may have profited income taxwise as a result thereof, this cannot serve to carry respondent's burden of proof with respect to 21 transferee liability. To support his claim of transferee liability in this case respondent must prove that there were legally enforceable obligations of value, interests in which were transferred from Jacob and Ida to petitioners herein. This he has failed to do. We must decide these cases for petitioners. Decisions will be entered for the petitioners. Footnotes1. Proceedings of the following petitioners are consolidated herewith: Harvey Hayutin, transferee, Docket Nos. 4390-69 and 4391-69; Marvin Hayutin, transferee, docket Nos. 4392-69 and 4393-69; and Ruth Berger, transferee, docket No. 4394-69. ↩2. While the record does not disclose the basis for the deficiencies determined by the commissioner in that case (Tas Court docket No. 1882-62), testimony of the attorney who represented the taxpayers indicates that the principal adjustment giving rise to the proposed deficiency was "the partnership income" in the amount of $348,287.61; that there were companion cases involving Marvin Hayutin and Harvey Hayutin in which the Commissioner determined that "the partnership" was a two-man partnership between Marvin and Harvey, while in the case of Jacob and Ida, he determined that "the partnership was a three-man partnership with Jacob as the third partner; that all three cases were settled as a part of an overall settlement. The record does reveal that a stipulated decision was entered by the Tax Court on July 24, 1968, the date of the decision in the case of Jacob and Ida, in a case of Harvey and Minna Hayutin (docket No. 94456) reflecting no deficiency for 1955 and a deficiency in income tax of $70,000 for 1956. ↩3. The estate inventory reflects the collectability of the obligation to be "Good." ↩4. Concerning the value of the two obligations, a footnote in the estate tax return for Jacob Hayutin's estate discloses: "Item 2 consists of a contractual obligation identical with that described in Item 1 and other miscellaneous property. Neither obligation is secured in any fashion. * * * The Internal Revenue Service has made demand upon Harvey Hayutin, one of the joint obligors on the contractual obligations described above, for assessments of income tax deficiencies, penalties and interest for the taxable years 1955 and 1956 of approximately $1,500,000.00. In addition, Harvey Hayutin is a defendant in a lawsuit presently pending for which judgment is sought in the amount of $800,000.00. Minna Hayutin, the other obligor on the above contractual obligations, is the wife of Harvey Hayutin. Because of the income tax assessments and contingent liability in the lawsuit which he is not able to pay, Harvey Hayutin's resources and funds are completely restricted. The present circumstances make the worth of the above obligations a matter of serious doubt, and the value of the entire estate does not exceed the amount shown in this Schedule." ↩5. This information is gleaned from the testimony of Harvey. Unfortunately, the record contains no documentary or other evidence with respect to the operations, income, or assets and liabilities of the partnership immediately prior to and at the time of its dissolution, out of which the purported obligations here involved arose. ↩6. All statutory references are to the Internal Revenue Code of 1954, as amended. ↩7. There is no question of the liability of the transferors for tax here; that liability was determined by a stipulated decision entered by this Court. And it is also clear that the liability has not been paid. 15 ↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623682/	George G. McMurtry, Petitioner, v. Commissioner of Internal Revenue, RespondentMcMurtry v. CommissionerDocket No. 10040United States Tax Court16 T.C. 168; 1951 U.S. Tax Ct. LEXIS 302; January 24, 1951, Promulgated 302 Decision will be entered under Rule 50. In 1933 petitioner made a transfer in trust for the benefit of his first wife in pursuance of a separation agreement. Such transfer was in consideration for her release of both her support rights and property rights arising out of the marital relationship. In 1942 petitioner similarly made two transfers in trust for the benefit of his second wife in pursuance of a separation agreement. Such transfers were also in consideration of her release of both her support rights and property rights arising from the marital relationship. Petitioner's daughter by his second marriage received a remainder interest in each of the 1942 trusts.1. Held, under authority of Commissioner v. Barnard, 176 Fed. (2d) 233, that the interests received by petitioner's first and second wives from the 1933 and 1942 transfers in trust were taxable as gifts to the extent they exceeded the value of their respective support rights in the trusts. Harris v. Commissioner, 340 U.S. 106">340 U.S. 106, distinguished on the facts.2. Amount of the gifts to petitioner's first and second wives and his daughter resulting303 from the 1933 and 1942 transfers in trust determined for the purpose of petitioner's 1942 gift tax liability. A. Harding Paul, Esq., for the petitioner.Henry C. Clark, Esq., for the respondent. Hill, Judge. Murdock, Leech and Johnson, JJ., dissent. HILL 169 Respondent determined a deficiency in petitioner's gift tax for the calendar year 1942 in the amount of $ 63,138.83 arising from two transfers in trust petitioner made in the taxable year pursuant to a separation agreement with his second wife, Louise Hunt McMurtry. Both trusts provided annuities for his wife until her death304 or remarriage; upon the occurrence of either of these events all rights in the trusts passed to petitioner's daughter by his second marriage, Louise Hunt McMurtry. Previously in 1933 petitioner had made a transfer in trust for the benefit of his first wife, Mabel Post McMurtry, during her life, pursuant to a separation agreement. In each separation agreement the wife agreed to release both her marital support rights and her marital property rights in consideration for the transfers in trust. Respondent contends that the interests received by petitioner's wives from the 1933 and 1942 trusts, respectively, constituted gifts to the extent they exceeded marital support rights therein. Furthermore he contends that the amount of such gift to the first wife is properly includible in determining the gift tax owing on the 1942 transfers in trust. Petitioner denies that the respective interests received by his two spouses in these three trusts were gifts in any part. Both parties agree that the remainder interests in the 1942 trusts acquired by petitioner's daughter represent gifts, but they disagree as to their valuation for gift tax purposes. Thus there are three questions for determination305 in this case:(1) Did the interests transferred to petitioner's wives by the 1933 and 1942 transfers in trust constitute gifts to the extent, if any, they were in consideration for the release of the respective marital property rights of the wives?(2) If the first question is answered in the affirmative, did the value of the interest transferred to petitioner's first wife by the 1933 trust and the value of the respective interests conveyed to his second wife by the 1942 trusts exceed the value of the respective marital support rights of the wives therein at the time of transfer: If so, what was the amount of this excess with respect to each trust?(3) What was the value of the remainder interests acquired by petitioner's daughter from the 1942 trusts at the time of transfer?FINDINGS OF FACT.Part of the facts were stipulated and are so found.Petitioner is an individual residing at Bar Harbor, Maine. On March 11, 1943, petitioner filed his Federal gift tax return for the calendar year 1942 with the collector of internal revenue for the first district of Maine.Petitioner and Mabel Post McMurtry were married December 16, 1903, and lived together as husband and wife until 1932. 306 In the fall 170 of 1932 petitioner and his wife separated and on June 30, 1933, entered into a written separation agreement whose terms were negotiated by their respective counsel. This agreement provided for complete settlement of all property interests and all obligations arising out of the marital relationship. The agreement stated in part that petitioner would pay his spouse $ 30,000 yearly in equal monthly installments so long as she lived, such payments to be effectuated by means of a trust indenture. Mabel Post McMurtry agreed therein to accept this annuity in full satisfaction of "any and all existing obligations of the party of the first part to the party of the second part, whether arising out of marital relationship or otherwise * ." Each party released "any and all interest in and to the property or estate of the other, based upon or arising out of the marital relation * ." The agreement further stated that should the parties hereto be divorced at any time, "this agreement shall nevertheless remain in full force and effect and any decree of divorce entered in any court of competent jurisdiction shall not contain any provisions contrary to the terms of this307 agreement * * , but may have incorporated therein any of the provisions of this agreement." After the separation but prior to the separation agreement petitioner paid his wife $ 2,500 per month as living expenses.Also on June 30, 1933, in pursuance of the separation agreement petitioner established a trust for the benefit of Mabel Post McMurtry, hereinafter referred to as the Mabel Post McMurtry Trust. The corpus of the trust consisted of securities whose value on June 30, 1933, was approximately $ 721,312.50. The trust indenture named the Chase National Bank of New York as trustee and provided that the trustee pay out of the trust income $ 2,500 monthly to petitioner's wife starting on August 20, 1933, plus any income taxes thereon for which she might be liable. The trust indenture further stated that any time after December 31, 1934, petitioner's wife was entitled to withdraw from the trust corpus up to $ 60,000 in installments or all at one time. In the event the full $ 60,000 was withdrawn, the monthly payments to her were to be reduced to $ 2,275 per month and proportionately less reduced if the withdrawals were smaller. There was no provision in the trust for termination308 of the payments in the event of Mabel Post McMurtry's remarriage. The trustee was authorized, where the trust income was insufficient to pay the annuity, to sell enough of the corpus to make up the difference so that each monthly payment would be met in full and petitioner agreed to replenish the corpus after any such diminution. Upon the death of Mabel Post McMurtry the indenture provided that the principal of the trust should be paid over to petitioner or his appointees.On June 30, 1933, the effective date of the transfer in trust, the value of Mabel Post McMurtry's interest in the trust was $ 353,884.80 and 171 the value of her support rights therein was $ 238,530.30. The transfer in trust constituted a gift to her to the extent of $ 115,354.50.On October 5, 1933, Mabel Post McMurtry obtained an absolute divorce from petitioner in the Superior Court of the State of Maine. The decree contained no provision for alimony and made no reference to the separation agreement.On October 25, 1933, petitioner married Louise Hunt McMurtry and on November 15, 1935, a daughter, Louise Hunt McMurtry, was born. On June 7, 1941, petitioner and his second wife separated and on May 21, 309 1942, entered into a written separation agreement negotiated by their respective counsel. The agreement became effective immediately upon its execution on the date named. This agreement effectuated a complete settlement between them of all property rights and obligations arising out of the marital relationship and provided for the custody and support of the child. It stated in part that petitioner had executed two trust agreements simultaneously with the signing of the separation agreement and that Louise Hunt McMurtry agreed to accept these trusts "in full satisfaction of any and all claims to support for herself" and "in full satisfaction of any and all claims and rights of whatsoever nature which she ever had, now has, or might hereafter have against the Husband by reason of their relationship as husband and wife or otherwise, including any claim to or right of dower, inchoate dower, reasonable share, or any other division of property." Each of the parties released "all rights or claims whatsoever in the other's respective estate, real or personal, now owned or hereafter acquired." Paragraph 7 of the agreement stated:In the event that at any time hereafter a final judgment 310 or decree of divorce shall be rendered between the parties in a court of competent jurisdiction, * * this agreement shall remain in full force and effect, and the provisions hereof may be embodied in such judgment or decree if the court granting such decree shall deem proper.After the separation and prior to the separation agreement petitioner paid his wife's living expenses of approximately $ 800 per month.On May 21, 1942, petitioner also executed the two trust indentures mentioned in the separation agreement. They are hereinafter referred to as the Louise Hunt McMurtry Trust No. 1 and Louise Hunt McMurtry Trust No. 2. In each of them the Chase National Bank of New York was named as trustee.The indenture of Louise Hunt McMurtry Trust No. 1 called for payment of $ 500 a month to petitioner's second wife from the trust income until her death or remarriage, starting in September 1942. The trustee was authorized to sell part of the trust corpus to meet the 172 monthly payments whenever the trust income was insufficient, and petitioner agreed to replenish the trust corpus in the event it was thus depleted. Petitioner's daughter, Louise Hunt McMurtry, was the beneficiary311 of any balance of trust income after the $ 500 per month payments were made to her mother until the latter remarried or died, and thereafter the daughter was the sole beneficiary of the trust income during her life. The trust was to terminate upon the daughter's death and corpus paid to her issue.The effective date of transfer for Louise Hunt McMurtry Trust No. 1 was July 20, 1942, when the securities comprising its corpus were assigned to the Chase National Bank in trust. At that time the value of petitioner's second wife's interest in the trust amounted to $ 79,556.63 and the value of her support rights in the trust was $ 38,429.34. The transfer in trust constituted a gift to her to the extent of $ 41,127.29.The value of petitioner's daughter's interest in this trust on July 20, 1942, was $ 71,080.87, which amount constituted a gift to her from petitioner.The trust indenture of Louise Hunt McMurtry Trust No. 2 provided that one-third of the corpus of the Mabel Post McMurtry Trust should be held in trust, and, after Mabel Post McMurtry died, petitioner's second wife was to be paid $ 500 monthly from the income thereof until her death or remarriage starting the month after Mabel312 Post McMurtry's death. If the trust income was insufficient to pay Louise Hunt McMurtry $ 500 a month, the indenture provided for the balance to be made up out of the trust principal. Petitioner's daughter was the beneficiary of any remaining trust income after the monthly payments to petitioner's second wife until the time the latter should die or remarry whereupon the daughter was the sole beneficiary of the trust income during her life. The trust was to terminate upon the death of the daughter and the corpus paid to her issue.The effective date of transfer for Louise Hunt McMurtry Trust No. 2 also was July 20, 1942, when one-third of petitioner's remainder interest in the Mabel Post McMurtry Trust was assigned to the Chase National Bank in trust. At that time Mabel Post McMurtry was alive and had withdrawn no part of the $ 60,000 to which she was entitled from the corpus of the Mabel Post McMurtry Trust. The value of her interest in Louise Hunt McMurtry Trust No. 2 on this date amounted to $ 81,356.61.The value of petitioner's second wife's interest in the Louise Hunt McMurtry Trust No. 2 on July 20, 1942, was $ 35,680.17. The value of her support rights in this trust on313 the same day was $ 9,166.26. The interest transferred to petitioner's second wife by this trust was a gift to the extent of $ 26,513.91.173 The value of petitioner's daughter's interest in Louise Hunt McMurtry Trust No. 2 on July 20, 1942, was $ 92,523.20, which amount constituted a gift to her from petitioner.On July 13, 1942, Louise Hunt McMurtry obtained an absolute divorce from petitioner in the First Judicial District Court of Nevada. The decree recited that petitioner and his second wife had entered into the separation agreement of May 21, 1942, and stated in part:It is further ordered, adjudged and decreed that the said agreement entered into between the plaintiff and the defendant on May 21, 1942, be, and the same hereby is, approved.Petitioner reported the two transfers in trust made in 1942 in a Federal gift tax return filed on March 11, 1943. He reported these transfers as not being subject to gift tax except as to the value of the remainder interests in the trusts passing to his daughter. Petitioner subtracted the value of the annuity settled on his second wife by each of the 1942 trusts from the value of the principal of each of these trusts and returned314 the value of the remainder in the Louise Hunt McMurtry Trust No. 1 as zero and the value of the remainder in the Louise Hunt McMurtry Trust No. 2 as being $ 10,000. Claiming a specific exemption of $ 40,000 petitioner showed no tax due on his return.In determining a deficiency of $ 63,138.83 respondent included in petitioner's return as taxable gifts in 1942 the full value of the corpus of Louise Hunt McMurtry Trust No. 1 and the present worth of the interests of both Louise Hunt McMurtry and her daughter in Louise Hunt McMurtry Trust No. 2. He also included in determining the taxable basis for these gifts the value of petitioner's first wife's interest in the Mabel Post McMurtry Trust created in 1933. Respondent does not attempt in this proceeding to sustain the full amount of the deficiency determined against petitioner. Since the issuance of the deficiency notice, he has changed his position regarding the gift tax consequences of transfers such as petitioner made in 1933 and 1942. Respondent now contends that the interests received by petitioner's spouses from the 1933 and 1942 trusts constitute gifts only to the extent they exceeded the respective marital support rights 315 of the wives therein.OPINION.To determine petitioner's gift tax liability for the calendar year 1942 arising out of two transfers in trust he made in that year for the benefit of his second wife, Louise Hunt McMurtry, and his daughter, Louise Hunt McMurtry, we must first decide whether the interest he transferred to his first wife, Mabel Post McMurtry, by the transfer in trust in 1933 and the interests he transferred to 174 his second wife by the two trusts created in 1942 constitute gifts 1 to the extent, if any, they exceeded the respective support rights of the two wives in these trusts. The separation agreements between petitioner and each wife pursuant to which the transfers in trust were carried out make it clear that the interest thereby acquired by each wife was in consideration of her release of both her support rights and property rights arising out of the marital relationship.316 Respondent's position on this issue is taken from E. T. 19, 1946-2 C. B. 166, which states:Transfers of property pursuant to an agreement incident to divorce or legal separation are not made for an adequate and full consideration in money or money's worth to the extent that they are made in consideration of a relinquishment or promised relinquishment of dower, curtesy, or of a statutory estate created in lieu of dower or curtesy, or other marital rights in the transferor's property or estate; to the extent that the transfers are made in satisfaction of support rights the transfers are held to be for an adequate and full consideration. The value of relinquished support rights shall be ascertained on the basis of the facts and circumstances of each individual case.Thus, it is his contention that such portion of the three transfers in trust as was allocable to the release by each wife of her marital property rights is to be considered as not made for adequate and full consideration and therefore taxable as a gift.Petitioner, however, emphasizes the interests received by each wife in the trusts were transferred to them pursuant to a separation agreement317 negotiated by independent counsel. Therefore they did not constitute gifts within the meaning of the applicable statute since they were made without donative intent but solely in consideration for the release by each wife of her presently enforceable claims to support and to property rights arising out of the marriage relationship. He cites a long line of cases decided by this Court supporting his contention starting with Herbert Jones, 1 T. C. 1207, and ending with Edward B. McLean, 11 T.C. 543">11 T. C. 543. The last case specifically rejected as invalid that part of E. T. 19, supra, which states that release of marital property rights is not full and adequate consideration in money or money's worth.By virtue of the Supreme Court's decisions in Merrill v. Fahs, 324 U.S. 308">324 U.S. 308, and Commissioner v. Wemyss, 324 U.S. 303">324 U.S. 303, it has been well established that a promise or agreement in an antenuptial property 175 settlement to release marital property rights is not adequate and full consideration in money or money's worth for the transfer of property within the318 meaning of section 1002 of the Code so that such a transfer is taxable as a gift.It is now clear from the Supreme Court's decision in the recent case of Harris v. Commissioner, 340 U.S. 106">340 U.S. 106, that the rationale of the Merrill and Wemyss cases is also applicable to postnuptial settlements, where it can be said that the transfer of property was effected by the promise or agreement of the spouses. In such an instance the transfer of property is taxable as a gift to the extent it was made in consideration for the release of marital property rights. Where the postnuptial settlement is followed by entry of a divorce decree, we have the preliminary question whether the transfer of property was founded upon the promise or agreement or upon the divorce decree. If it be determined that the divorce decree effected the transfer of property between the parties, then there is no promise or agreement concerning marital rights in property to which the principles of Merrill and Wemyss cases are applicable, and any transfers of property are free from gift tax liability.We are faced with this preliminary question both in regard to the transfer in319 trust to Mabel Post McMurtry in 1933 and the two transfers in trust to Louise Hunt McMurtry in 1942, for in each instance the separation agreement between the spouses was followed by entry of a divorce decree. It is clear that where the property settlement agreement is later litigated before the divorce court, any transfers of property between husband and wife are founded on the divorce decree rather than the promise or agreement of the parties, for it is the decree which created and fixed the property rights and obligations of the parties. See Commissioner v. Converse, 163 Fed. (2d) 131. But neither of petitioner's property settlements with his wives was litigated before the divorce court. It is also established that where by the terms of the property settlement agreement its operation is conditioned in any manner upon entry of a divorce decree, then the decree and not the agreement creates and fixes the rights and obligations of the parties and effects the transfer of property between the spouses. This was the holding in Commissioner v. Maresi, 156 Fed. (2d) 929. We understand the decision of the Supreme Court320 in the Harris case to be no more than an affirmation of this principle even where the postnuptial settlement also provides that its covenants should survive the divorce decree and the decree adopted the agreement including this proviso.We are convinced that the facts surrounding the transfer in trust to Mabel Post McMurtry and the transfers in trust to Louise Hunt McMurtry are so entirely different from the facts considered to be 176 decisive by the Supreme Court in the Harris case that our determination is not governed by that decision. The holding of the Supreme Court in Harris v. Commissioner, supra, that the transfer of property to the husband was not taxable as a gift was hinged on the fact that the effective operation of the property settlement was by its terms subject to a condition precedent, that there be an entry of a divorce decree. In the present case it is apparent from the terms of the postnuptial agreement between petitioner and Mabel Post McMurtry that its effectiveness was in no way dependent on the entry of a divorce decree. Furthermore, when she obtained a divorce, the decree failed to provide for alimony and 321 made no mention of the separation agreement. It follows that the transfer in trust for her benefit was solely founded upon and made effective by the promise or agreement of the parties. Thus we hold that to the extent the transfer was in consideration for the release of her marital property rights, it is taxable as a gift under section 1002 of the Code.We are equally convinced that the transfers in trust for the benefit of Louise Hunt McMurtry were founded upon and made effective by the separation agreement of the parties. The effectiveness of their agreement was in no way made dependent upon the entry of a divorce decree, nor was it executed to effect a settlement in the event a divorce should be decreed, nor was it provided that the agreement should be submitted to the divorce court for its approval, all of which facts were present in the Harris case. On the contrary, paragraph 7 of the agreement provided "In the event that at any time hereafter a final judgment or decree of divorce shall be rendered between the parties in a court of competent jurisdiction, * * * this agreement shall remain in full force and effect, and the provisions hereof may be embodied in such judgment322 or decree if the court granting such decree shall deem proper." Such language clearly indicates that petitioner and his wife intended to put into operation the terms of their property agreement completely independent of whether or not there ever was a divorce. The separation agreement did not require that its provisions be submitted to the court for approval or any judicial action and did not require that they be embodied in the decree of divorce should there be such decree. Moreover, the trust indentures for the benefit of Louise Hunt McMurtry were executed by petitioner the very same day as the agreement and in compliance therewith. Finally, unlike the Harris case, upon the execution of the property settlement, there was at once an existing agreement which created property rights and which either party could enforce.Thus we are convinced that the transfers in trust to Louise Hunt McMurtry were effected by the separation and trust agreements. We reach this conclusion despite the fact that a divorce court subsequently 177 embodied the provisions of the agreement in the divorce decree pursuant to the permissive provision in the agreement therefor. We do not interpret323 the Supreme Court's decision in the Harris case to mean that under such circumstances the transfers would be effected by the decree. Rather we believe such facts bring the transfers within the ambit of the decision of the Supreme Court in that case, that where spouses simply undertake a voluntary, contractual division of their property interests, transfers of property between them are effected by their promise or agreement, and are thus subject to the gift tax to the extent they are in consideration for the release of marital property rights.Our conclusion is supported by the decision of the Court of Appeals for the Second Circuit in Commissioner v. Barnard, 176 Fed. (2d) 233, on facts basically similar to those here. In that case the separation agreement provided for the payment of money to the husband in return for release of his marital rights. The agreement also stated that in the event of a decree of separation or divorce, the provisions of the agreement might be embodied in the decree, provided that no insertion in any such decree of any of the provisions of this agreement should affect or alter the terms of this agreement. Subsequently324 the parties were divorced, but prior to that time payment was made to the husband. The divorce decree adopted and approved the agreement. Despite such ratification of the agreement, it was held that the payment was founded on the agreement rather than the decree and was therefore taxable as a gift since the release of marital property rights was not full and adequate consideration therefor.We therefore hold that to the extent the transfers in trust for the benefit of Louise Hunt McMurtry were in consideration for the release of her marital property rights, they are taxable as gifts.Specific valuation questions remain to be decided in order to determine petitioner's gift tax liability for 1942. We must ascertain the value of the respective interests received by petitioner's wives from the 1933 and 1942 trusts as well as the value of their respective marital support rights in these three trusts in order to determine whether the value of the former exceeded the value of the latter as to each trust. The amount of excess, if any, with respect to each trust represents the consideration paid for the release of marital property rights and constitutes a gift by petitioner. Furthermore325 we found as a fact that the remainder interests received by petitioner's daughter from the 1942 trusts were gifts. Thus the value of these remainder interests at the time of transfer must also be determined.We are guided in our determination of these valuation questions by section 1005 of the Code which states that where gifts are made in property, their values at the date the gifts are made shall be considered the amount of the gifts.178 There is a wide disparity in the values the respective parties assign to the transfers made in 1933 and 1942. Petitioner advances three specific challenges to the manner in which respondent computed the value of the alleged gifts at the time they were made.Petitioner first objects to the formula by which respondent allocated the interests received by the two wives from the 1933 and 1942 transfers between their release of support rights and their release of marital property rights. Where, as in the instant case, there is no evidence in the separation agreements, trust indentures or elsewhere that the husband and wife made any segregation or allocation between the two types of marital rights, then a reasonable allocation between support326 rights and property rights must be made based on all the facts and circumstances. Respondent's valuation of the support rights is based on the present worth of the monthly payments each wife was entitled to receive under the trusts, but limited to the period both husband and wife were alive and she remained single. This limitation was in recognition of the fact that under a decree of divorce or legal separation a husband's duty to support ordinarily ceases on the death of either party or upon the wife's remarriage. The worth of the interest received by Mabel Post McMurtry from the 1933 trust on June 30, 1933, and the worth of the interests received by Louise Hunt McMurtry from the 1942 trusts on July 20, 1942, above and beyond the value of their respective support rights are considered by respondent to be allocable to the release by the wives of their marital property rights and therefore to constitute the amount of the gifts.Petitioner first claims that all the interests received by the two spouses from the 1933 and 1942 trusts were in consideration solely of their release of support rights. But the only basis in the record for this view is petitioner's self-serving statement327 as to the interests transferred to Mabel Post McMurtry in 1933 that "it was all for her support." In the absence of corroborating evidence and in the face of the dual purpose of the transfers in trust mentioned specifically in the separation agreements we are unwilling to accept petitioner's view.Petitioner then objects to the support rights limitations employed by respondent on the ground that respondent failed to consider the amount of petitioner's annual income, the extent of his assets, and other allied circumstances. Yet in his own computation of the value of the support rights petitioner offers no different approach but also computes the present worth of the annuities of each wife for the period of the combined lives of husband and wife limited by her remarriage. This formula is not inconsistent with the living expenses of $ 2,500 per month paid Mabel Post McMurtry and approximately $ 800 per month paid Louise Hunt McMurtry during the period between actual separation from petitioner and the execution of a separation agreement. In 179 view of the above facts we accept the formula adopted by respondent to determine the value of the support rights of the wives as reasonable. 328 The second objection raised by petitioner to respondent's computation of the amounts of the alleged gifts concerns the value of Mabel Post McMurtry's interest in the Mabel Post McMurtry Trust on June 30, 1933. Respondent's actuarial expert testified the value of this interest was $ 353,884.80. Petitioner seeks to hold respondent to the value set out in the notice of deficiency of $ 344,658.15, but he introduced no evidence on this point whatsoever. Respondent is not precluded by the valuation made in his notice of deficiency from asserting a different valuation at the hearing, and in the absence of contrary evidence we hold the value of Mabel Post McMurtry's interest to be $ 353,884.80.Petitioner's final and most sweeping objection to the valuation of the alleged gifts made by respondent is in regard to the actuarial aids employed by the latter. He states respondent used for his actuarial computation of the interests and support rights involved an arbitrary and outmoded mortality table, the Actuaries' or Combined Experience Table of Mortality, and an excessive rate of interest, 4 per cent. Petitioner vigorously contends that the 1937 Standard Annuity Table and 2 1/2 per cent329 rate of interest should be used to compute the true fair market value of the annuities and support rights. In reply to respondent's contention that Gift Tax Regulations 108, section 86.19 (f) (4) 2 governs the valuation of the wives' interests and support rights and prescribes the use of the Actuaries' or Combined Experience Table of Mortality and an interest rate of 4 per cent, petitioner asserts first that the regulations do not prescribe a method of computation for the valuations here involved, and secondly, if they do require the table and interest rate used by respondent, then they are invalid as arbitrary and unreasonable.330 We are in accord with petitioner that Regulations 108, section 86.19 (f) (4) does not cover valuation of annuities where a remarriage factor is involved as was true in the case of the support rights of both wives and the interests of petitioner's second wife in Louise Hunt 180 McMurtry Trusts No. 1 and No. 2. Respondent's actuarial expert admitted that no regulation had been issued covering valuation of annuities where a remarriage factor played a part, and he could only do the best possible under the circumstances. However, in determining the value of petitioner's first wife's interest in the Mabel Post McMurtry Trust on June 30, 1933, and the value of her interest in Louise Hunt McMurtry Trust No. 2 on July 20, 1942, we hold the cited subsection of the Regulations applies, for she had a "life interest" in an annuity unrestricted by the possibility of remarriage in each instance. Petitioner's argument that section 86.19 (f) (4) does not apply in these two situations is based on the fact Mabel Post McMurtry had an annuity for life and not a life estate in the trust but the words of the section calling for use of the Actuaries' or Combined Experience Table of Mortality and331 4 per cent interest mention only a "life interest" which is just what she possessed.Regardless of the fact that some of the valuations come within the scope of respondent's regulations and others fall outside, the question for determination remains the same, whether the gift valuations made by respondent using the Combined Experience Table of Mortality and 4 per cent rate of interest were unreasonable.Petitioner's actuarial experts testified at length that the Actuaries' or Combined Experience Table of Mortality was so outmoded and 4 per cent rate of interest was so excessive that no insurance company writing annuities used them any more for valuation purposes. They testified that a commercial annuity's price in 1942 would be based on the 1937 Standard Annuity Table and an interest rate of 2 1/2 per cent. Furthermore petitioner cites Anna L. Raymond, 40 B. T. A. 224, affd., 114 Fed. (2d) 140, certiorari denied, 311 U.S. 710">311 U.S. 710, where we rejected the use of respondent's mortality table in the valuation of annuities.Yet, despite these assertions, petitioner has not convinced us the use of the Actuaries' 332 or Combined Experience Table of Mortality and the 4 per cent rate of interest was arbitrary and unreasonable. The fact that private insurance companies no longer use them is not conclusive, for as we said in Estate of Charles H. Hart, 1 T.C. 989">1 T. C. 989, 991, and Estate of Koert Bartman, 10 T. C. 1073, 1079, estate and gift tax regulations have always distinguished between annuities issued by insurance companies which are conservatively calculated for their own financial advantage and other annuities, and such distinction is justifiable. Nor is the case of Anna L. Raymond, supra, of much aid to petitioner, for as we pointed out in Estelle May Affelder, 7 T. C. 1190, 1194, the question in that case was unique in that the annuities had to be purchased from an insurance company so that the amounts of the annuities necessarily 181 had to be computed by the use of mortality tables employed by insurance firms. In the instant case there is no such necessity for adhering to the practices of insurance companies. Furthermore, the Raymond case involved income taxes, 333 not the gift tax.The Combined Experience Table of Mortality and 4 per cent interest rate have been employed for many years in the computation of the value of annuities and it is interesting to note their widespread use today by states for estate and inheritance tax purposes. Currently some 15 states use this table with 4, 5, and 6 per cent interest. No state has as yet adopted the 1937 Standard Annuity Table or 2 1/2 per cent interest rate for these purposes. See Prentice-Hall, Inheritance and Transfer Tax Service, 11th Edition, vol. 1, pages 801-803.We note that in Estate of Charles H. Hart, supra, and even more recently in Estate of Koert Bartman, supra, contentions similar to petitioner's were made, and yet we held that for the purpose of valuing annuities the respondent's table of mortality and interest rate were not arbitrary. Approval of the valuation we made in Estate of Abraham Koshland, 11 T. C. 904, by means of the Combined Experience Table of Mortality has been expressed by the Court of Appeals for the Ninth Circuit in Koshland v. Commissioner, 177 Fed. (2d) 851.334 In the case of Huntington National Bank of Columbus, Ohio, 13 T.C. 760">13 T. C. 760, we used this table and only failed to use 4 per cent interest rate because it was shown the effective yield on the investments in taxpayer's estate was in fact less than 4 per cent, a circumstance which has not been shown to exist here.Finally petitioner himself employed the Combined Experience Table of Mortality and 4 per cent rate of interest to compute the support rights of Mabel Post McMurtry in the 1933 trust. We think that the use of this table and interest rate was reasonable in 1933 to compute not only the value of her support rights but also the value of her interest in this trust. We also believe that conditions have not so changed since 1933 as to render the use of such table and interest rate inappropriate in computing the value of the interests received by Louise Hunt McMurtry from the 1942 trusts and the value of her support rights therein.Therefore using respondent's valuations computed by means of the Combined Experience Table of Mortality and 4 per cent interest rate, we found that the value of Mabel Post McMurtry's interest in the 1933 trust amounted to $ 353,884.80335 at the time of transfer, and that the value of her support rights in the trust at that time was $ 238,530.30. Thus we found as a fact and now hold that the excess in the value of her interest over the value of her support rights, amounting to $ 115,354.50, was a gift. Similarly we found that Louise Hunt McMurtry's 182 interest in the Louise Hunt McMurtry Trust No. 1 had a value of $ 79,556.63 at the time of transfer, while her support rights therein were worth only $ 38,429.34. Thus we found as a fact and hold that she thereby received a gift of $ 41,127.29. Turning then to Louise Hunt McMurtry Trust No. 2 we found the value of petitioner's second wife's interest therein was $ 35,680.17 and the value of her support rights in the trust amounted to but $ 9,166.26. Therefore we found as a fact and hold that by this transfer she received a gift of $ 26,513.91. From the 1942 trusts, No. 1 and No. 2, we found as a fact and hold that petitioner's daughter received gifts of $ 71,080.87 and $ 92,523.20, respectively.Decision will be entered under Rule 50. Footnotes1. The terms of section 1002 of the Internal Revenue Code applying to the 1942 trusts and section 501 (b) of the Revenue Act of 1932 applying to the 1933 trust have the same language.SEC. 1002. TRANSFER FOR LESS THAN ADEQUATE AND FULL CONSIDERATION.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, for the purpose of the tax imposed by this chapter, be deemed a gift, and shall be included in computing the amount of gifts made during the calendar year.↩2. REGULATIONS 108.Sec. 86.19 Valuation of Property. -- * * (f) Annuities, life estates, remainders and reversions. -- * ** * * *(4) Actuarial calculations by Bureau↩. -- If in the case of a completed gift an annuity is to be paid during the life of an individual and in any event for a definite number of years, or for more than one life, or in any other manner rendering inapplicable both Table A and Table B, the case may be stated to the Commissioner, who will thereupon furnish the applicable factor. In making such calculations when life interests or remainders upon life interests are involved, use will be made of the Actuaries' or Combined Experience Table of Mortality, as extended (that being the basis of Table A), with interest at 4 per cent per annum compounded annually.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623683/	Carl B. Carter and Jewell Carter et al. 1 v. Commissioner. Carter v. CommissionerDocket Nos. 56923-56927.United States Tax CourtT.C. Memo 1958-166; 1958 Tax Ct. Memo LEXIS 64; 17 T.C.M. (CCH) 816; T.C.M. (RIA) 58166; August 29, 195864 1. Birmingham Business College, Inc., (B.B.C.) was formed in 1941 by Griffith and his two sisters, Jewell and Audrey, each of whom owned one-third of its stock. For the first few years its enrollment was not great and it did not file any returns. In 1946, with the rise in enrollment due to the attendance of Veteran students, B.B.C. applied to the Commissioner for tax exempt status as an educational institution under section 101(6), Internal Revenue Code of 1939. The application contained erroneous statements of fact. The Commissioner in reliance on the application granted the exemption. In 1952, the Commissioner conducted an extensive investigation of B.B.C.'s affairs. The Commissioner found that the books and records of B.B.C. did not adequately or accurately reflect its income and that the shareholders of B.B.C. had generally treated B.B.C.'s money and property as their own, e.g., commingling funds, making personal expenditures from B.B.C.'s funds and depositing B.B.C.'s receipts in their own accounts. The Commissioner revoked B.B.C.'s exempt status and directed it to file returns for all years since inception. B.B.C. refused. The Commissioner determined deficiencies which were 65 based to a large extent on the treatment of many payments to or on behalf of the shareholders as dividends. Held: that B.B.C. has failed to prove that it was organized and operated exclusively for educational purposes and that "no part of its net earnings inured to the benefit of a private shareholder or individual" and therefore it is not entitled to tax exempt status under section 101(6) of the 1939 Code; that the retroactive revocation of B.B.C.'s tax exempt status was not improper; and that the statute of limitations does not bar the proceedings for any year. Held, further, that the Commissioner's determination that many of the payments to the individual shareholders represented dividends is, with certain exceptions, reversed on the ground that the payments represented sales expenses, reasonable compensation and loans, but that the Commissioner's determination is in all other respects upheld. 2. The Commissioner determined deficiencies against the individual shareholders for certain years. The deficiencies were primarily based on additional income labeled dividends from B.B.C. Held, that the amounts determined to be dividends primarily represent reimbursed sales expenses of B. 66 B.C., reasonable compensation and loans. However, the Commissioner is sustained in part since the amounts representing reasonable compensation would be income to the recipients. 3. The Commissioner's determination of additions to the tax under sections 291(a), 293(a), 294(d)(1)(A), and 294(d)(2), Internal Revenue Code of 1939, is sustained. John Ike Griffith, Esq., 1014 Nineteenth Court South, Birmingham, Ala., for the petitioners. Frederick T. Carney, Esq., for the respondent. BLACK Memorandum Findings of Fact and Opinion The Commissioner determined deficiencies in income tax, declared value excess profits tax, excess profits tax, and additions thereto under sections 291, 293, and 294 of the Internal Revenue Code of 1939, 2 as follows: Birmingham Business CollegeDocket No. 56927Additions to TaxTaxableSec.Sec.YearIncome Tax291(a)293(a)1942$ 159.78$ 39.95$ 7.991943846.25211.5642.3119442,640.14660.04132.0119452,636.55659.14131.8319464,482.591,120.65224.1319473,878.85969.71193.9419481,518.84379.7175.9419493,040.24760.06152.01195019,262.734,815.68963.14195111,658.562,914.64582.93DeclaredValue ExcessProfits Tax1942$ 84.37$ 21.09$ 4.211943446.82111.7122.3419441,350.28337.5767.5119452,015.61503.90100.78Excess Profits Tax1944$ 69.00$ 17.25$ 3.4519454,389.911,097.48219.5067 Jewell Carter - Docket No. 56924Additions to TaxYearIncome Tax291(a)293(a)294(d)(1)(A)294(d)(2)1945$ 864.00$216.00$ 43.2019461,258.24314.5662.91Carl B. Carter and Jewell Carter - Docket No. 569231947$1,085.12$ 54.261948498.7024.941949751.3237.5619501,115.5255.78$113.64$ 68.191951630.3431.5254.4732.68John Ike Griffith - Docket No. 569251947$1,390.74$ 69.541948361.8318.091949189.009.4519501,013.7550.69$115.56$ 69.35Hulon A. Spears and Audrey G. Spears - Docket No. 569261948$ 218.26$ 10.911949331.4816.5719506,120.32306.02$642.72$385.6319512,267.32113.37239.76143.86The deficiencies in the docket involving Birmingham Business College are based upon respondent's determination that Birmingham Business College, which did not file returns for any of the years involved, was not exempt from taxation under section 101(6) and that it had net income subject to taxation. The deficiencies in the dockets involving the individuals are due to the respondent's determination that they received income in the form of dividends and salary from Birmingham Business College which was in excess of the amounts 68 reported by them on their respective returns. In Docket No. 56925, John Ike Griffith, petitioner, respondent also determined that certain professional income should be added to the income shown on the returns. In Docket Nos. 56923 and 56925, certain claimed dependency exemptions were disallowed but are not in issue. Findings of Fact A stipulation of facts has been filed and is incorporated herein by this reference. General Petitioner Birmingham Business College (hereinafter referred to as B.B.C.), an Alabama corporation with its principal and only place of business in Birmingham, did not file income tax, declared value excess profits tax or excess profits tax returns for any of the calendar years ended December 31, 1941, through December 31, 1951. Petitioner John Ike Griffith (hereinafter referred to as Griffith), a resident of Birmingham, filed individual returns for the taxable years 1947 to 1950 with the Collector of Internal Revenue at Birmingham. Petitioners Hulon A. and Audrey G. Spears (hereinafter referred to as Hulon and Audrey, respectively), husband and wife, filed joint individual returns for the years 1948 to 1951 with the Collector of Internal Revenue at Birmingham. 69 Petitioner Jewell Carter (hereinafter referred to as Jewell) did not file any individual returns for the years 1945 and 1946; petitioners Jewell and her husband, Carl B. Carter (hereinafter referred to as Carl) filed joint individual returns for the years 1947 to 1951 with the Collector of Internal Revenue at Birmingham. I(A) - Tax Exempt Status of B.B.C. Around 1939-1940, Griffith was employed as a principal of a small public school at a salary of $165 per month. He also practiced law part time. About that time he lent his credit to two men who were operating a business school known as Birmingham Business College. Before long Griffith was personally indebted for a substantial amount of liabilities for expenses incurred by the school. The two operators left the school in Griffith's hands. Griffith induced his two sisters, Audrey and Jewell, to leave their teaching positions in the public school in Jackson County and come to Birmingham and run the school. After conducting the school for a short while Griffith decided to incorporate. Griffith attempted to draw the corporate charter so as to avoid the various taxing statutes and to take advantage of the state and Federal tax laws which 70 exempt non-profit educational institutions from taxation. He had heard that the Commissioner of Internal Revenue had ruled that an educational institution could retain its tax exempt status as long as it did not pay more than $10,000 per year to an individual in salary. Having taught in the public schools he could not conceive of paying himself a salary in excess of $10,000. On October 20, 1941, B.B.C. was incorporated under the laws of Alabama. Its charter recited, inter alia, as follows: "KNOW YE, That the undersigned desire to become a body corporate for the purpose of operating a non-profit, eleemosynary institution of learning, known as the Birmingham Business College, to train students in the arts and skills of business training for the purpose of taking deserving boys and girls out of employment and raising their educational standards and securing them employment, and for other purposes, and the incorporators elect the privilege of claiming the exemptions allowed such institutions from exemption of taxation as provided under the laws of the State of Alabama. This document is to become and is also in the form of a contract between the incorporators that they shall not pay themselves 71 salaries except in a manner of ratio and proportion to the amount of common or capitol [capital] stock held by each stockholder and that two of the stockholders holding a majority of the stock can not get together and agree to vote themselves salaries out of proportion to the amount of common stock held by each stockholder and that this agreement is binding forever and is perpetual. That when a stockholder sells or otherwise disposes of his common or capitol [capital] stock he or she automatically forfeits his right under this contract in the ration and proportion to the amount of stock disposed of." One hundred shares of no par value stock and a capitalization of $2,000 were provided for. The incorporators were Audrey, Jewell, and Dora Ann Griffith, hereinafter referred to as Dora, the mother of Griffith, Audrey, and Jewell, each of whom (incorporators) subscribed to 33 1/3 shares. The charter named Griffith as president, Dora as vice president, Jewell as treasurer, and Audrey as secretary. The amount of $2,000 was paid in to B.B.C. for the stock. The money was borrowed from Dora and the 33 1/3 shares that she held were merely held as security for the loan. Griffith was the beneficial 72 owner of her stock. On December 10, 1948, an amendment to the charter and incorporation papers of B.B.C. was filed in the Probate Court of Jefferson County, Alabama, substituting Griffith for Dora as owner of one-third of the capital stock of B.B.C. for the purpose of showing the correct ownership of B.B.C. stock. By application (Form 1023) dated May 22, 1946, B.B.C. applied to the Commissioner of Internal Revenue for tax exemption under section 101(6). The application, which is in the form of an affidavit, was signed by Griffith and included, inter alia, the following questions and answers: "Q. Is the organization the outgrowth or continuation of any form of predecessor? "A. No. "Q. Is the organization authorized to issue capital stock? "A. No. "Q. If so, state (1) the class or classes of each stock, (2) the number and par value of shares of each class outstanding, and (3) the consideration paid for outstanding shares. "A. It is a non-stock, closed, eleemosynary educational institution. Non-profit - All profits or money above operation goes into the expansion and modernizing the facilities to instruct the students. "Q. If capital stock is outstanding, state whether any dividends 73 or interest has been or may be paid thereon? "A. [No answer.] "Q. If any distribution of corporate property of any character has ever been made to shareholders or members, attach hereto a separate statement containing full details thereof, including (1) amounts or value, (2) source of funds or property distributed, and (3) basis of and authority for distribution. "A. [No information given.] "Q. State all sources from which the organization's income is derived. "A. Monthly tuition from the students. "Q. (a) For what purposes, other than in payment for services rendered or supplies furnished, are the organization's funds expended? "A. Reserve to maintain the services in depression years, - and the betterment of the services rendered, - such as new buildings, new equipment, etc. (b) If any payments are made to members or shareholders for services rendered the organization, attach a separate statement showing the amounts so paid and the character of the services rendered. "A. [No information given.] "Q. Does any part of the net income of the organization inure to the benefit of any private shareholder or individual? "A. No." Pursuant to and based upon the representations contained in 74 the above-mentioned application, by letter dated July 16, 1946, and signed E. I. McLarney, Deputy Commissioner, the Bureau of Internal Revenue (as it was then called) ruled that in its opinion B.B.C. was exempt from Federal income tax and not required to file returns of income "unless you change the character of your organization, the purpose for which you were organized, or your method of operation." In March 1952, Frederick E. Gilbert, an Internal Revenue agent, contracted Griffith in regard to the exempt status of B.B.C., requesting certain corporate records and financial statements be made available for examination. Griffith explained that the books were not brought up to date and that financial statements would have to be prepared. Gilbert suggested that a competent accountant be employed to do the job. Harold Van Baalen, a public accountant who taught accounting at B.B.C., was hired by Griffith to make an audit of the school's affairs. The records of B.B.C., which included cash journals, canceled checks, bank statements, tuition receipts, and various miscellaneous data, were not complete. Also, the cash journals and other books were not in order but were loosely kept. They did 75 not adequately or accurately show the receipts, disbursements, income, or expenses of B.B.C. Van Baalen attempted to reconstruct the income of B.B.C. from the records. He devoted about 250 hours to his audit of B.B.C.'s affairs. Van Baalen accepted the information contained in the records as transcribing what actually occurred. In other words, if there was an item recorded in the cash books such as sales expense $20, he accepted it as being so without trying to verify the expenditure. He was primarily trying to reconstruct income from the facts shown on the existing records. He summarized his findings in an audit report which he submitted to Griffith and to Gilbert. His method of reconstructing B.B.C.'s income was summarized in his report as follows.. "1. Eliminated the postings of all cancelled checks from cash receipts and disbursements journal. This to avoid duplications in analysis and classification. "2. Summarized all cancelled checks by months, paying particular attention to checks made out to 'cash', who endorsed same and if possible to identify with 'cash' entries in the disbursements journal. "3. Summarized all the remaining entries in disbursements journal, assuming that 76 all had been paid for in cash. "The basis of my work is that the college realized income and receipts from borrowed money to the extent of at least the total disbursements for expense and to shareholders. With exception of $21,000.00 of income in 1950 from Veterans Administration and the fact that Mr. Gilbert included the $20,144.88 loaned to Mrs. H. A. Spears in his report as net income to corporation, we are in substantial agreement as to income and expense. The 1950 income of $21,000.00 from Veterans Administration was not recorded in any way on your records and there was no excess of disbursements over receipts in this year. In allocating receipts to college, I used either the bank deposits or cash receipts journal entries, whichever was the higher." The report contained profit and loss statements for the years 1941 to 1950, inclusive, which can be summarized as follows: YearIncomeExpenseProfit1941$ 3,935.81$ 4,035.34($ 99.53)19426,326.805,331.18995.62194312,786.198,988.993,797.20194423,415.8914,205.779,210.12194520,961.3916,183.754,777.64194636,591.7225,140.8111,450.91194747,276.6433,910.0513,366.59194857,767.4547,484.7510,282.701949102,212.4970,080.6632,131.831950136,303.1094,228.2142,074.89Total$447,577.48$319,589.51$127,987.9777 There was no authorization in the minutes or any indication in other records relating to salaries for Griffith, Jewell, and Audrey. The amounts drawn by them were usually labeled "Drawings" and not salary. Van Baalen, therefore, did not include these amounts labeled drawings in his expense amounts. He did include in expense, payments to Carl and Hulon which were marked salary on the books. 3 He also included in expense the amounts paid to the members of the family which were marked sales expense, travel expense, etc. Van Baalen found the cash drawings of the members of the family to be as follows: Carl andJohn IkeHulon andYearJewell CarterGriffithAudrey SpearsTotal1941$ 12.00$ 12.001942$ 83.5054.59$ 11.00149.091943303.02501.35429.531,233.9019441,153.171,414.70632.713,200.5819451,477.591,720.46964.974,163.0219462,831.282,047.371,070.345,948.9919472,462.174,315.092,014.578,791.8319482,719.704,388.501,648.338,756.5319493,448.703,253.114,373.0011,074.8119504,942.305,987.4522,844.8833,774.63$19,421.43$23,694.62$33,989.33$77,105.38 Van Baalen also found that for the 10-year period, 1941-1950, B.B.C. realized additional 78 income in the amount of $21,257.65. He termed this item "unidentified income" and determined that it should be charged to the individual shareholders. Van Baalen's audit was not entirely acceptable to Gilbert because Van Baalen was an employee of B.B.C., rather than a completely uninterested third party, and because Gilbert found it difficult to test check Van Baallen's work. Gilbert, therefore, conducted an audit of B.B.C. which took 66 days. Many of the procedures used by Gilbert in reconstructing the income of B.B.C. were similar to ones used by Van Baalen. By letter dated October 31, 1952, and signed Norman A. Sugarman, Assistant Commissioner by R. S. Gayton, the Bureau of Internal Revenue revoked the aforementioned ruling of July 16, 1946, and advised B.B.C. that it was required to file income tax returns for each year since incorporation. The letter stated, inter alia, as follows: "Information secured as the result of an examination of your books and records by the office of the Internal Revenue Agent in Charge, Birmingham, Alabama, discloses that from the time you commenced operating you have operated, in part at least, for the pecuniary benefit of your members. Your activities, 79 therefore, have not been those of an organization 'operated exclusively for * * * educational purposes, * * * no part of the net earnings of which inures to the benefit of any private shareholder or individual, * * ' as contemplated by section 101(6) of the Code under which you were held to be exempt." B.B.C. did not file returns in compliance with the terms of the letter. On December 21, 1954, the Commissioner issued his deficiency notices involved in the proceedings we have here. His determinations for the years 1941-1950 were based on the report of Gilbert and for the year 1951 on the report of Revenue Agent Thomas Shinn, who conducted the audit for that year. I(B) - Net Income of B.B.C. The Commissioner determined the income of B.B.C. on the cash basis and on a calendar year basis. The available records of B.B.C. did not include any entries on an accrual basis. A schedule of B.B.C.'s income and deductions as determined by respondent (with adjustments for certain concessions made on brief by respondent) is as follows: GrossNet IncomeYearIncomeDeductions(loss)1941$ 782.81$ 930.57($ 147.76)19426,323.026,260.8162.21194313,318.2712,336.47981.80194423,104.8816,275.516,829.37194521,458.669,788.8911,669.77194639,764.2623,513.9516,250.31194748,615.3632,315.9916,299.37194864,058.2357,019.797,038.441949105,175.1391,521.9013,653.231950153,524.32104,989.3648,534.961951123,702.2493,602.8330,099.4180 I(B)(1) - Gross Income of B.B.C. For the years 1941-1950, the gross income as determined by the Commissioner included the following: (a) Income per cash journal - principally consists of receipts for tuition and supplies. (b) Unidentified income - the difference between the cash balance per books after all adjustments for the year had been made and the balance per bank. In some years this was a minus figure. (c) Gain on sale of real estate - In 1947, B.B.C. sold a piece of real estate for $4,600. The respondent determined the gain on the sale to be $600 and included that amount in gross income. (d) Rehabilitation income - B.B.C. received payments from the State of Alabama under a program for vocational rehabilitation. The following schedule shows the amounts entered on the B.B.C. cash journal as received from the State and the amounts which the State informed Gilbert that it had paid to B.B.C.: *81 ADDITIONAL REHABILITATIONSTUDENT INCOMEPerPerCashAdditionalYearVerificationJournalIncome1947$1,148.06$ 604.50$ 543.5619481,573.78183.351,390.4319491,289.94752.96536.9819501,284.10574.29709.81$5,295.88$2,115.10$3,180.78The difference not shown on B.B.C.'s cash journal was included in its gross income by respondent. (e) G.I. income - B.B.C. received payments from the Veterans' Administration (hereinafter sometimes referred to as V.A.) for educating Veterans under the G. I. Bill. The manager of the regional office of the V.A., in a letter to the respondent, stated that it paid B.B.C. $131,290.93 in 1950. Gilbert found only $111,788.27 entered as receipts on the B.B.C. cash journal. The Commissioner, therefore, included the difference of $19,502.66 ($131,290.93 minus $111,788.27) in B.B.C.'s gross income for 1950. Certain checks received by B.B.C. in 1950 or 1951 were not cashed by B.B.C. until a later year because of dispute with the V.A. Due to the dispute, the V.A. also withheld paying certain sums earned by B.B.C. during those years. For the year 1951, respondent determined B.B.C.'s gross income by the bank deposit method. I(B)(2) - Deductions of B.B.C. (a) General - The Commissioner included in his deductions all payments for certain expenses which were made to unrelated third parties. He did 82 not include payments made for the purchase of capital assets but did include depreciation of the items capitalized. Since he determined the B.B.C. incurred a net operating loss for 1941, he included the amount of that loss as a deduction in 1942. (b) Sales expense - B.B.C., throughout the years in question, conducted an active campaign to enroll students. It hired salesmen who traveled throughout Alabama and in parts of neighboring States, concentrating on rural areas. B.B.C.'s salesmen included Carl, who worked as a full-time salesman from May 16, 1944, until July 1948, and part time thereafter; Hulon, who worked as a salesman part time; Griffith, who worked as a salesman part time; and certain other persons. In addition to salesmen, Jewell and Audrey visited high schools thoughout Alabama on "Career Days" putting on exhibitions and explaining to high school students the value of a business education at B.B.C. Occasionally, one or two students would travel with Audrey or Jewell to help them with the exhibits. Audrey would usually give the salesmen expense money before they departed for the field. The salesmen would not keep records of the amount of expense money which they expended 83 and Audrey would not require them to substantiate their expenditures. B.B. C.'s funds were also used to pay for expenses incurred by Griffith, Audrey, and others in attending various conventions and clinics for business colleges and teachers. Audrey would usually enter the amounts paid in the cash journal as "Sales Expense," "Travel," or "Convention." The Commissioner has allowed deductions in full for the amounts entered in the cash book as "Sales Expense," "Travel," or "Convention" payments to persons other than Griffith, Carl and Jewell, and Hulon and Audrey. Regarding Griffith, Carl and Jewell, and Hulon and Audrey, the Commissioner disallowed a portion of the amounts received by them on the ground of lack of substantiation. The following schedule shows the amounts paid to them and shown on the books of B.B.C. as sales expense and the portion thereof allowed by the respondent as a deduction for the years 1943-1950: 4GriffithCarl and JewellHulon and AudreyAmountAmountAmountYearPaidAllowedPaidAllowedPaidAllowed1943$ 539.95$100.00$ 57.00$ 57.001944672.83100.00$ 426.75$100.0043.5043.2019451,363.75350.001,366.02350.0030.0030.001946714.95350.002,151.25350.00119.00119.001947887.90350.002,379.58350.00811.01350.001948955.00350.002,482.50350.001,368.50350.001949351.00350.002,106.00350.00613.60350.001950915.56350.001,848.00350.001,810.63350.0084 The difference between the amounts paid and the amounts allowed as deductions was treated by the respondent as informal dividends to Griffith, Audrey, and Jewell and, therefore, not deductible by B.B.C. The amounts paid by B.B.C. to Griffith, Carl and Jewell, and Hulon and Audrey and entered on the cash books as sales, travel, or convention expense were actually expended by those persons for the purposes stated in connection with the business of B.B.C. The entire amounts in the "Amount Paid" columns in the schedule in the paragraph immediately preceding represent ordinary and necessary expenses (including travel expenses) paid during the years shown in carrying on the business of B.B.C. (c) Salaries - As stated previously, Griffith induced his two sisters, Jewell and Audrey, to leave their public school teaching positions in rural areas and come to Birmingham to help run the school. Although Audrey and Jewell knew that the prospect of immediate financial gain was not great, they believed Griffith's 85 story that they would be able to make "some money out of it." Audrey, Jewell, and Griffith agreed that when the school did make money they would pay themselves for their services in lean years which were anticipated in the beginning. Audrey worked full time, including many evenings and weekends, for B.B.C. during all of the years in question. She worked as bookkeeper for all of the years and for a while she acted as office manager. In addition, she worked as girls' counselor and as an instructor in the school and helped in student placement. Jewell worked full time, including many evenings and weekends, for B.B.C. during all of the years in question. She was an instructor in the school, teaching a full schedule in the morning and a part-time schedule in the evening. In addition, she was the purchasing agent, the student placement director, and, from 1945 the supervisor of the dormitory. In the latter position she was always on call. Griffith retained his position as principal of a public school until June 1942, when he resigned and became a full-time employee of B.B.C. Throughout all of the years in question he practiced law on a part-time basis. His practice was not extensive; most 86 of his time was spent in the service of B.B.C. From B.B.C.'s inception until February 1947, Hulon worked full time during regular working hours for Joe Mony Machine Co. and part time after working hours for B.B.C. From February 1947 throughout the remaining years in question he worked full time for B.B.C. Hulon's duties included working as office manager and as salesman. From B.B.C.'s inception until May 16, 1944, Carl held a regular job as a guard for a railroad and a part-time job for B.B.C. managing the night school. From May 16, 1944, until July 1948, Carl worked for B.B.C. as a full-time salesman on the road. From July 1948 through the remaining years in question, Carl worked full time for B.B.C. He helped on the Veterans' program, spent some time on the road as salesman, and held the post of athletic director of the school. Throughout the early years of B.B.C.'s existence it never had sufficient operating funds. It was consistently delinquent in meeting its obligations for operating expenses. Frequently Griffith, Jewell, and Audrey would borrow money to pay its obligations. There was a general commingling of the funds of Griffith, Jewell, Audrey, and B.B.C. Adequate records 87 were not kept of the financial transactions between the stockholders and B.B.C. During the years in question when the stockholders drew money from B.B.C. which was intended to apply on their salary, Audrey, the bookkeeper, would enter it in the cash journal as "Drawings." No salary account was kept in the ledger which showed the amount of salary paid and the amount of salary owing. Frequently the personal expenses of the stockholders would be paid by B.B.C. On occasion checks payable to B.B.C. would be deposited to the bank account of the individuals without the amounts' being recorded on the books of B.B.C. After B.B.C.'s certificate of tax exemption had been revoked, and in connection with a protest filed with the Commissioner regarding proposed deficiencies, the board of directors of B.B.C. consisting of Griffith, Jewell, and Audrey, had a meeting. At the meeting, they passed resolutions accepting affidavits from Griffith, Jewell, Carl, Hulon, and Audrey, respecting back salary claims. The salary claims from which all amounts previously drawn from B.B.C. were to be credited are as follows: Salaries ClaimedYearGriffithCarlJewellHulonAudrey1941$ 4000$ 600$ 250$ 60019423,800$ 1,5003,6001,5003,60019434,8001,5003,6001,5003,60019444,8002,6003,6001,5003,60019454,8003,6003,6001,5003,60019466,0003,6005,2801,5005,28019476,0003,6005,2803,3005,28019486,0003,6005,2803,6005,28019496,0003,6005,2803,6005,28019506,0003,6005,2803,6005,28019516,0003,6005,2803,6005,280Total$54,600$30,800$46,680$25,450$46,68088 Gilbert, in his audit, segregated all payments made to the shareholders (and their spouses) and included therein the amounts marked drawings and the amounts paid by B.B.C. for their personal expenses. The Commissioner determined that a portion of these amounts represented salaries and the balance informal dividends. The determination of the portion which represented salaries was for most years based upon the amount shown on the respective individual returns as salaries from B.B.C. For some of the early years the Commissioner did not allow any salaries for the individual shareholders on the ground that they did not produce copies of their individual returns to Gilbert. However, on brief the Commissioner has conceded additional salaries for the years 1941-1947. The following schedule shows the amount of drawings and personal expenses paid by B.B.C., as shown by B.B.C.'s books per Gilbert's audit, and the amount thereof allowed as salary deductions to B.B.C. (in dollars): GriffithCarl and JewellHulon and AudreyYearDrawingsAllowedDrawingsAllowedDrawingsAllowed19410000001942$ 330.52$ 400.80 1$ 99.30$ 99.30 $ 76.83$ 76.83 19432,033.661,200.00 545.39548.39 1654.84654.84 19443,933.731,400.00 2,821.521,000.00 3,106.521,000.00 19454,234.121,600.00 3,551.131,000.00 2,954.051,000.00 19465,533.581,674.00 6,862.042,800.00 4,990.871,000.00 19477,508.561,675.005,246.212,400.005,297.053,400.00 19484,519.993,000.003,566.893,000.004,070.253,600.0019494,241.273,600.005,189.582,800.005,582.913,600.0019507,618.033,600.007,597.823,000.0010,116.563,600.0019514,552.274,200.005,433.573,000.0015,138.193,600.00Total$44,505.73$22,349.80$40,913.45$19,647.69$51,988.07$21,531.6789 All of the amounts in the "Drawings" columns of the schedule in the paragraph immediately preceding represent reasonable compensation for personal services rendered. However, the amount allowed Griffith for 1942 ($400.80) and the amount allowed Carl and Jewell for 1943 ($548.39) should be treated as reasonable compensation in accordance with the respondent's concession rather than the amounts shown in the drawings columns above. (d) Loans - Gilbert, in auditing B.B.C.'s books, found that certain amounts were paid to, or on behalf of, Griffith, Carl and Jewell, and Hulon and Audrey which, in his report, he entitled as alleged loans. The following schedule shows the amounts so found: Carl andHulon andYearGriffithJewellAudrey1942$ 70.3019435.00$ 3.00194518.001950693.63565.00$17,447.92 The Commissioner determined all of the above amounts to be dividends. On brief, however, he conceded that the $70.30 90 to Griffith in 1942 and the $3 to Carl and Jewell in 1943 should be allowed as a salary deduction. (See Findings re salary, supra.) No evidence has been introduced regarding the $5 to Griffith in 1943 and the $18 and $565 to Carl and Jewell in 1945 and 1950, respectively. (1) $693.63 to Griffith - During the year 1950, Griffith purchased in his own name a 1950 Chrysler automobile with B.B.C. funds. The 1950 Chrysler was shown on a statement of net worth as of December 31, 1950, prepared by Griffith, as one of his personal assets and was licensed in his name. Griffith used the automobile a great deal of the time on B.B.C.'s business. The 1950 Chrysler was wrecked in November 1950 and the cost of repairs amounted to $693.63, which amount was paid by B.B.C. The payment of the $693.63 by B.B.C. does not represent an ordinary and necessary business expense of B.B.C.; it represents an informal dividend to Griffith. 5 (2) $17,447.92 to Hulon and Audrey - In 91 1950, Hulon and Audrey started to build a house. Hulon acted as his own contractor. He applied for a construction loan but it was not approved because he did not employ a bonded contractor and because his earnings were not great enough. Before the construction was commenced and the loan disapproved, Hulon and Audrey had borrowed $200 from B.B.C. to use as earnest money for the purchase of the lot and had also borrowed $4,300 from B.B.C. to be used in purchasing the lot and building the house. The $4,300 was paid to Audrey by the Security Bank from B.B.C.'s account. The following letter on B.B.C.'s stationery authorized the payment: "June 16, 1950. "TO THE SECURITY BANK: "This is to certify that a personal loan of $4,300 is made to Audrey Spears of Birmingham Business College as an advance payment against her one-third interest in the earnings of the college, and to be strictly accounted for by her by audits of the books from time tome, showing that the stockholders each receive a like amount before she is relieved of this repayment. "SIGNED, "SS/John Ike Griffith President "RECEIPT AND ACCEPTANCE: "I hereby acknowledge receipt of the above mentioned $4,300 and the acceptance of same 92 this the 16 day of June, 1950. "Audrey Spears" When it developed that a construction loan could not be secured, Hulon and Audrey were in financial difficulties. They did not have sufficient funds to complete construction. Without approval of the shareholders, directors, or officers of B.B.C., they withdrew $12,947.92 from the school's funds. The total withdrawal during 1950 used in building the home was $17,447.92 ($12,947.92 plus $4,300 plus $200). The $17,447.92 was not recorded on B.B.C.'s books as a "loan receivable," or in any other manner. The total cost of the completed house, including landscaping, furnishings, etc., was $34,000. After the house was completed a mortgage on it was secured. Hulon and Audrey eventually repaid the entire $17,447.92 to B.B.C. Part of the proceeds of the mortgage was used to repay B.B.C. A substantial part of the repayment was by numerous payments of small amounts by Hulon and Audrey of B.B.C.'s expenses. The $17,447.92, determined by respondent to be a dividend to Audrey in 1950, did not constitute a dividend. It represented a loan from B.B.C. to Hulon and Audrey which was subsequently repaid. (e) Other deductions - Shortly before B.B.C. was organized 93 Griffith filed a petition for a creditors' arrangement in a United States District Court in Alabama. The debts arranged at that time totaled about $4,500, $2,800 of which related to the old Birmingham Business College. Although B.B.C. was not a party to the proceeding, it paid the $4,500 debt at the rate of $100 per month during the years 1941-1945. No part of the $2,800 owed by the old Birmingham Business College represented ordinary and necessary business expenses of B.B.C. The following schedule (.00 omitted) shows B.B.C.'s income and expenses as determined by the respondent (including concessions on brief) and the additional deductions and net income of B.B.C. after giving effect to our findings: 1941194219431944Gross In-come$782$6,323$13,318$23,104Deductions per resp.: General 194 9305,683 29,77612,632Sales ex-pense157243SalaryAdditionalsalary5762,4033,400Net incomeper resp.( $147)$ 62$ 981$ 6,829Additional Deductions per our Findings: Sales Ex-pense439899Salaries8306,461Net Incomeper ourFindings( $147)$ 62($ 281)($ 532)1945194619471948Gross In-come$21,458$39,764$48,615$64,058Deductions per resp.: General 15,458 317,22023,79046,369Sales ex-pense7308191,0501,050Salary1,8006,4759,600Additionalsalary3,6003,6741,000Net incomeper resp.$11,669$16,250$16,299$ 7,038Additional Deductions per our Findings: Sales Ex-pense2,0292,1663,0283,756Salaries7,13911,91210,5762,557Net Incomeper ourFindings$ 2,500$ 2,171$ 2,694$ 725194919501951Gross In-come$105,175$153,524$123,702Deductions per resp.: General 180,47193,73981,269Sales ex-pense1,0501,0501,532Salary10,00010,20010,800AdditionalsalaryNet incomeper resp.$ 13,653$ 48,534$ 30,099Additional Deductions per our Findings: Sales Ex-pense2,0203,524Salaries5,01315,13214,329Net Incomeper ourFindings$ 6,618$ 29,878$ 15,775II - Individual Petitioners The following schedule shows the gross income shown on the individual petitioner's returns and the amounts added thereto by the Commissioner in his respective notices of deficiency: Gross In-Added bycome perCommis-ReturnsionerJewell Carter1945No return$ 4,585.15Dividend1946No return6,863.29DividendCarl and Jewell Carter1947$2,400.004,875.79Dividend19483,000.002,699.39Dividend19492,800.004,145.48Dividend19503,000.006,660.82Dividend19512,862.67137.33Salary2,422.27DividendJohn Ike Griffith19471,675.00800.00Prof. income6,371.46Dividend19483,000.00245.00Prof. income2,124.99Dividend19493,600.00642.27Dividend19503,600.00146.87Prof. income5,277.22DividendHulon and Audrey Spears19483,600.001,488.75Dividend19493,600.002,246.51Dividend19506,000.0023,025.11Dividend19514,940.8411,538.19Dividend 195 II(A) - Dividends The above amounts described as dividends, which were added to the individual petitioners' incomes, consist of payments made to or on behalf of the individual shareholders. Gilbert segregated the payments into personal, which mainly represent amounts shown as drawings on B.B.C.'s books, sales expense, and alleged loans. The Commissioner allowed certain portions of each category as business expense deductions to B.B.C. and determined that in the years in which the individuals are involved the unallowed portions represented dividends paid to the individual shareholders. We have found as a fact that all of the amounts which were labeled sales expense by Gilbert represented actual sales expense of B.B.C. and ordinary and necessary business expenses of it. The amounts received by the individuals were expended by them, or they represented reimbursements, for ordinary and necessary selling and travel expenses of B.B.C. The amounts added by the Commissioner to the individuals' income as dividends should be reduced by the amounts of the additional sales expense which we allowed to B.B.C. during the years involved in the cases of the individual petitioners. We have 96 found as a fact that the $17,447.92 "alleged loan" to Hulon and Audrey in 1950 by B.B.C. was in reality a loan. The amount, therefore, did not represent income to them in 1950. Except for the adjustments for the sales expense and the $17,447.92 loan, we find the Commissioner's determination regarding the incomes from B.B.C. of the individual petitioners is correct. 6II(B) - Professional Income of Griffith Griffith received net legal fees 7 from his part-time practice of law as follows: YearAmount1945$192.6519468.501947380.001948245.00194901950146.87The amounts received for 1947-1950 were not reported on his return for the respective years. 897 Griffith turned over the amounts received by him as legal fees to B.B.C. and did not report them on his return for that reason. The Commissioner determined that Griffith received legal fees which were unreported as follows: YearAmount1947$800.001948245.001950146.87The Commissioner's determination is correct except for 1947 when Griffith received $380, rather than the $800 determined by the Commissioner. II(C) - Casualty Loss The 1950 Chrysler automobile which Griffith purchased in 1950 with B.B.C. funds was wrecked in November of 1950. The cost of repairs was $693.63. This amount was paid by B.B.C. and was determined by respondent to be a dividend to Griffith in 1950. (See Findings of Fact, re B.B.C., supra.) Respondent, on brief, concedes that Griffith is entitled to a casualty loss deduction in the amount of $600 on account of the wreck. Griffith suffered a casualty loss in the amount of $693.63 in 1950. III - Additions to the Tax 9Section 291(a) - B.B.C. B.B.C. did not file returns for the years 1941-1945 because Griffith thought that it did not have any net income. B.B.C. did not file returns for the 98 years 1946-1951 because of the opinion in the letter ruling of the Bureau of Internal Revenue dated July 16, 1946, supra. B.B.C.'s failure to file returns was not due to reasonable cause but was due to wilful neglect. Section 291(a) - Jewell. Jewell did not file returns for the years 1945 and 1946. She thought her husband had reported her income on his returns. Jewell's failure to file returns for 1945 and 1946 was not due to reasonable cause but was due to wilful neglect. Section 293(a). B.B.C. did not keep adequate books and records. The individuals did not report substantial amounts of income that they received from B.B.C. Part of the deficiency for each year for each party herein involved is due to negligence, or intentional disregard of rules and regulations. Section 294(d)(1)(A) and (d)(2). (No evidence has been introduced regarding these additions to the tax.) Opinion BLACK, Judge: Griffith, a public school teacher and a part-time lawyer, became involved in a business school operated by two other persons. The school encountered financial difficulties and Griffith extended his credit. Soon the two owners of the school left it in Griffith's hands. He induced his two sisters, 99 Jewell and Audrey, to leave their public school teaching positions in the country and come to Birmingham to help run the school. Although he did not promise them immediate financial gain he indicated that future prospects were favorable. After operating as an unincorporated business for a while Griffith decided to incorporate. He had heard that the Commissioner of Internal Revenue had ruled that a school could pay an employee a salary up to $10,000 and remain tax exempt. He drew the corporate charter of B.B.C. as a nonprofit educational institution so as to take advantage of the various laws granting such a corporation tax exempt status. From the beginning Jewell and Audrey devoted all of their time to the school's operations while their husbands, Carl and Hulon, and Griffith helped out on a part-time basis. After a few years Carl, Hulon, and Griffith left their other employment and devoted their full time to B.B.C.'s affairs. B.B.C., especially in the early years, was constantly short of working capital. There was a general commingling of the funds of B.B.C. with those of Griffith, Audrey, and Jewell. On numerous occasions the individuals lent money to B.B.C. or paid bills of B.B.C. 100 with their personal funds. B.B.C. also paid many of their personal bills. Records of the various financial transactions of B.B.C. were inadequate. B.B.C. did not file returns for any of the years through 1945. In 1946, it applied to the Commissioner for tax exempt status under section 101(6). Its application was incomplete and also contained erroneous information. The Commissioner granted tax exemption to B.B.C. by letter dated July 16, 1946. In 1951, however, the Commissioner's agent Gilbert began an investigation of B.B.C.'s affairs. B.B.C.'s records and books were inadequate and did not clearly show the receipts, expenditures or financial position of B.B.C. B.B.C. hired an accountant to prepare financial statements. The accountant spent considerable time auditing the affairs of B.B.C., as did Gilbert. As a result of the investigation and audit the Commissioner revoked B.B.C.'s tax exempt status and ordered it to file returns for all years since incorporation. B.B.C. refused; the Commissioner then issued a notice of deficiency determining deficiencies and additions thereto for the years 1942 to 1951, inclusive. I(A) - Tax Exempt Status of B. B.C. B.B.C. claims that it is a tax 101 exempt educational institution under section 101(6). 10In order to prevail in its contention that it is an exempt corporation under section 101(6), petitioner must meet these three tests, viz: (1) It must be organized and operated exclusively for [educational purposes] one or more of the specified purposes; (2) Its net income must not inure in whole or in part to the benefit of private shareholders or individuals; and (3) It must not by any substantial part of its activities attempt to influence legislation by propaganda or otherwise. [Regulations 111, Sec. 29.101(6)-1.] The principal questions here are whether B.B.C., in light of its relationship with its three stockholders, Griffith, Jewell, and Audrey, has satisfied 102 the first and second tests. There is no contention that it does not meet the third test. After a careful consideration of the record we cannot find that B.B.C. has met its burden of proof to show that it is an exempt corporation under section 101(6). On the contrary, we think the facts indicate that B.B.C. was organized and operated, inter alia, for a commercial purpose, i.e., the pecuniary benefit of its shareholders and, further, that some part of its net earnings inured to their benefit. Griffith drew B.B.C.'s charter so as to gain tax exempt status under Federal and state law. However, the charter provides inter alia, that salaries of the shareholders shall be in proportion to their stockholdings. The certificates of ownership provide that each shareholder owns one-third of all of the assets of B.B.C. A letter from B.B.C. (by Griffith) to a bank authorizing a loan of B.B.C.'s funds to Audrey states that she (Audrey) has a one-third interest in the earnings of B.B.C. These recitals indicate the attitude of the shareholders regarding their relationship with B.B.C. It indicates a relationship similar to that existing between a commercial profit corporation and its shareholders. This 103 attitude is perhaps more clearly manifested by the actual dealings between the parties. There was a constant commingling of the funds of the shareholders and B.B.C. On occasion receipts of B.B.C. were deposited in the bank accounts of the individual shareholders without being recorded on B.B.C.'s books. Numerous personal expenses of the individuals were paid directly by B.B.C. On one occasion $17,500 was paid to Audrey by B.B.C. which we have found to be a loan to Audrey. This loan was not recorded on B.B.C.'s books. The foregoing facts, we think, indicate that B.B.C. was organized for a dual purpose. One purpose was educational, i.e., the organization and operation of a business school; the other was commercial, i.e., pecuniary benefit of its shareholders. Cf. Gemological Institute of America v. Riddell, 149 Fed. Supp. 128, 130 (S.D. Cal. 1957). And further we think that the shareholders did actually benefit contrary to the terms of the statute which prohibits any part of the net earnings from inuring to the benefit of any private shareholder or individual. There is no question but that Griffith, Jewell, and Audrey are "persons" having a personal and private interest in the activities 104 of B.B.C. within the meaning of Regulations 111, section 29.101-1(d) which defines the "private shareholder or individual" referred to in section 101(6) in that manner. However, the fact that B.B.C. is owned and controlled by private individuals is not sufficient to defeat its claim to exempt status. This is true despite the fact that the "private shareholders" are a family group. See I.T. 3220, 2 C.B. 164">1938-2 C.B. 164. B.B.C. made substantial payments to or on behalf of these private shareholders. The respondent determined a large portion of these payments to be dividends. We have found as a fact that for most of the years the amounts were sales expenses and reasonable compensation. The payment of reasonable compensation to private individuals does not constitute inurement of net earnings to the recipient. Cf. Mabee Petroleum Corp. v. United States, 203 Fed. (2d) 872, 876 (C.A. 5, 1953). However, where such compensation is based on the net earnings of the corporation the same result does not necessarily follow. See Gemological Institute of America, 17 T.C. 1604">17 T.C. 1604 (1952), affd. per curiam 212 Fed. (2d) 205 (C.A. 9, 1954). See also Gemological Institute of America v. Riddell, supra. In 105 Gemological Institute of America (17 T.C. 1604">17 T.C. 1604), supra, the corporation, which was seeking exemption under section 101(6), paid Shipley, a valuable and essential individual in the corporation, a flat salary plus one-half of its net earnings as compensation. That the entire amount paid Shipley was reasonable compensation was not in dispute. We held, however, that: "Regardless of what these amounts are called, salary or compensation based on earnings, it is obvious that half of the net earnings of petitioner inured to the benefit of an individual, viz., Shipley. These earnings are too material to be ignored. Roger L. Putnam, 6 T.C. 702">6 T.C. 702. Cf. Edward Orton, Jr. Ceramic Foundation, 9 T.C. 533">9 T.C. 533, affd. 173 Fed. (2d) 483. Such a distribution of net earnings is unequivocally prohibited by the statute. The petitioner has failed to meet one of the essential tests of section 101(6). * " In the instant case there was no agreement as to the amounts to be paid the shareholders for their services to B.B.C. Indeed, it does not appear that the shareholders actually knew the amounts paid to them or on their behalf. It is clear, however, that these individuals withdrew substantially all of the 106 earnings of B.B.C., before their withdrawals, except for the amounts invested in capital expenditures. Also, it is clear that there was an inurement to the benfit of the individual shareholders in terms of increase in the value of the shares in B.B.C. The original $2,000 investment in B.B.C. had substantially increased in book value by December 31, 1951, by virtue of retained earnings. These retained earnings were represented primarily by investments in fixed assets. The shareholders' stock certificates stated that each of the shareholders owned one-third of the assets and, under Alabama law, 11 the proceeds of the sale of this property when and if B.B.C. ceased to do business would be distributed pro rata to the shareholders. Cf. Kemper Military School v. Crutchley, 274 Fed. 125, 127 (W.D. Mo., 1921). The fact that B.B.C. stock was of considerable value is in effect admitted by petitioners' contention that Audrey's one-third stock interest in B.B.C. served as security for the "alleged loan" of $17,447.92 from B.B.C. to her and Hulon. The petitioners' reliance on City of Birmingham v. Birmingham Business College (1951), 256 Ala. 551">256 Ala. 551, 56 So. 2d 111">56 So. 2d 111, 107 and Birmingham Business College v. Whetstone (1955), 263 Ala. 369">263 Ala. 369, 82 So. 2d 539">82 So. 2d 539 (both of which apparently involve petitioner) is misplaced. In the former case the court expressly recognized that B.B.C. was a business enterprise conducted for profit but held that a City of Birmingham licensing ordinance contravened the equal protection clause of the Fourteenth Amendment of the United States Constitution because it did not apply to other schools for profit. In the latter case the court held that B.B.C. was a college within the meaning of a state statute which exempted property used by a "college" from state taxes, and expressly noted that there was "no attack upon it [B.B.C.] for its organizational structure or its corporate purpose. " In neither case were the issues similar to those involved herein. If anything, the language in those cases supports the respondent rather than petitioners' contention herein. However, neither case is controlling since state law does not govern the disposition of the question here involved. Burnet v. Harmel, 287 U.S. 103">287 U.S. 103, 110 (1932). B.B.C. also contends that the Commissioner cannot retroactively revoke his 1946 ruling that B.B.C. was exempt. We disagree. 108 It is settled that the "Commissioner's action may not be disturbed unless, in the circumstances of this case, the Commissioner abused the discretion vested in him by section 3791(b)." 12Automobile Club of Michigan v. Commissioner, 353 U.S. 180">353 U.S. 180, 184 (1957). The record shows that B.B.C.'s application for tax exempt status in 1946 contained incorrect statements of fact upon which the Commissioner relied in ruling that it (B.B.C.) was exempt. 13109 This circumstance, we think, provides a sufficient basis for holding that the Commissioner did not abuse his discretion. B.B.C.'s final contention is that these proceedings are barred by the statute of limitations. However, since B.B.C. did not file returns for any years, no period of limitation is applicable. Section 276(a). 14110 Section 302 of the Revenue Act of 1950, 15111 which is relied upon by B.B.C., does not require a different result. That section was passed in conjunction with the passage of sections 421-424 (Supplement U) of the Internal Revenue Code of 1939, 16 which deal with the taxing of business income of certain section 101 organizations. The Senate Finance Committee Report (S. Rept. No. 2375, 81st Cong., 2d Sess. (1950) p. 118) states, inter alia, as follows: "Section 302 applies only where a denial of exemption might be made on the ground that the organization was carrying on a trade or business for profit, and nothing therein limits the denial of exemption for failure to meet the other requirement of section 101." Here, the exemption is denied because B.B.C. was not organized and operated exclusively for educational purposes and because part of its net earnings inured to the benefit of private shareholders or individuals. I(B) - Net Income of B.B.C. Since we have held that B.B.C. is not exempt from taxation under section 101(6), we must determine the income 112 of B.B.C. Respondent contends that the petition does not raise any issues for the years 1942 to 1950 other than whether B.B.C. is a tax exempt organization, i.e., no issue is raised regarding the determination of net income except for 1951. We have carefully read the 29-page petition. It is very inexpertly drawn and does not contain the clear and concise assignments of error and allegations of fact as required by Rule 7 of our Rules of Practice. However, a fair reading of the entire petition indicates that respondent's determination regarding the income of B.B.C. for the years 1942 to 1950 is in issue. The respondent's answer indicates that he understood the determination of income for the years 1942 to 1950 was in issue. The case was tried by both parties on the assumption that the income of B.B.C. for the years 1942 to 1950 was in issue. In the circumstances, we hold that the net income of B.B.C. for the years 1942 to 1951 is in issue. The Commissioner's determination for the years 1942 to 1950 was based on the report prepared by Gilbert after his lengthy audit of B.B.C.'s affairs. The determination for 1951 was based on the report prepared by Shinn after his audit. Both Gilbert 113 and Shinn testified at length regarding their reports and it appears that the basic amounts are as accurate as possible considering the fact that B.B.C.'s books and records did not adequately or accurately reflect its receipts or disbursements. The accuracy of most of the basic figures used by respondent in his determination is not seriously disputed by B.B.C. Indeed, the testimony and audit by Van Baalen, petitioner's witness, corroborate a substantial portion of Gilbert's basic findings. The dispute relates mainly to the treatment of certain items which we will hereafter discuss. 1. Gross Income - The V.A. informed Gilbert that it made payments to B.B.C. in the amount of $131,290.93 during 1950. Gilbert only found $111,788.27 entered on B.B.C.'s books. He, therefore, added the difference of $19,502.66 to the gross income per books. B.B.C. contends that the V.A. withheld some of the amounts which it had earned and that it did not receive payment until later years. Regardless of whether B.B.C.'s contention in this respect is correct it does not have any effect on the finding that $131,290.93 was actually received in 1950. We are convinced that this $131,290.93 did not include anything 114 which B.B.C. had earned but had not yet received. In circumstances, we sustain the respondent's determination regarding this item. Likewise, we sustain the respondent's determination regarding gross income for all years, there being insufficient evidence to show that any of the determinations are incorrect. 2. Deductions - (a) Capital Expenditures. The respondent did not include as deductions of B.B.C. the amount expended for the purchase of capital assets. He did, however, include deductions for depreciation on those assets, except land. Although petitioner objects to this treatment of capital expenditures, it is clear that the objections are not well founded. Section 24(a). Accordingly, we uphold the respondent's determination regarding capital expenditures. (b) Sales Expense. Throughout all of the years in question B.B.C. conducted an active campaign to enroll students. It employed salesmen who traveled throughout Alabama and neighboring states and, in addition, Jewell and Audrey traveled to various high schools putting on exhibitions relating to the benefits to be derived from a business education at B.B.C. The various employees who traveled as salesmen would usually be given expense 115 money. They were not required to account to B.B.C. for the expenditures actually made by them. The Commissioner allowed as deductions all of the amounts paid as sales expense to unrelated third parties but only allowed a portion of the amounts paid as sales expense to Griffith, Hulon and Audrey, and Carl and Jewell because of lack of substantiation. The disallowed portions were determined to be dividends. Although the books and records of B.B.C. were inadequate there is no contention and there is no basis for a finding that the items entered in the cash book were false. Griffith, Hulon and Audrey, and Carl and Jewell all testified regarding the amounts expended by them in the performance of selling activities. Although their testimony was for a large part general in nature we are satisfied that they expended all of the amounts which Gilbert found on the books as sales expense. Accordingly, all of the amounts listed in the sales expense schedule in our Findings of Fact, supra, as "Amount Paid" should be allowed as deductions to B.B.C. for ordinary and necessary business expenses. (c) Salaries. Audrey and Jewell worked for B.B.C. on a full-time basis from its inception while Griffith, 116 Carl, and Hulon began working on part-time basis but switched to a full-time basis as B.B.C.'s operation enlarged. They all devoted considerable time and effort to the task of making B.B.C. a financial success. They all worked many evenings and weekends. Griffith, Audrey, and Jewell had no definite agreement as to salary. In the early years, because of a shortage of working capital, they merely drew what they actually needed to live on. In fact, many of their personal expenses were paid directly by B.B.C. Carl and Hulon did have some sort of definite arrangement as to salary but because of B.B.C.'s financial condition they were not paid regularly. After B.B.C.'s financial position became better the shareholders, instead of making some definite arrangement as to salary, continued their prior practice although the amounts they withdrew from B.B.C. were substantially greater. They finally did enter into a formal salary agreement in 1952, a year which is not before us, in connection with a protest in these proceedings. Gilbert segregated all of the payments on B.B.C.'s books that were listed as drawings, together with amounts that were paid on their behalf. He labeled these payments "Personal." 117 The Commissioner allowed a portion of these amounts as salary and the balance he treated as dividends. For the most part the portion which the Commissioner allowed as salary deductions to B.B.C. was the same as the amounts shown by the individuals as income from B.B.C. on their individual returns. The manner in which the individuals arrived at the amounts shown on their returns is not clear except in the case of Griffith, who testified that he estimated the amount that he spent during the year and included that amount as salary from B.B.C. on his return. Respondent concedes that if all of the payments listed as personal by Gilbert are in fact compensation, they were reasonable in amount. The question, therefore, is whether these amounts were in fact compensation. We have found as an ultimate fact that all of the above-mentioned amounts were reasonable compensation for personal services rendered. In making this finding we have carefully considered respondent's argument and the fact that there was no formal authorization or agreements respecting salaries and that the individuals reported lesser amounts as salary than they received. But it appears to us that the financial affairs of B.B.C. 118 were so confused and there was such a degree of commingling and confusion of funds that neither B.B.C. nor the individuals knew the amounts which passed between them. However, we think that the intent of the parties was that the amounts paid to them or on their behalf were compensation for the time and effort they devoted to B.B.C.'s affairs. And since there is no question of reasonableness involved we think that B.B.C. must prevail on this issue. We so hold. It is true that in some of the later years the amounts paid to or on behalf of the individuals were large and might well constitute excessive compensation if it were only for the one year. However, we think that these amounts should fairly be regarded in part as compensation for past services, i.e., for the early years when the amounts received by the individuals were small. Since they are past services they are amounts paid for personal services "rendered" within the meaning of section 23(a)(1)(A). (d) Loans. Gilbert labeled certain payments which had been made to the individual shareholders as "alleged loans." It is not clear whether they were recorded on the books as loans or whether B.B.C. informed him that the amounts represented 119 loans. Regardless, the Commissioner determined all of the amounts so labeled as dividends. On brief, however, he has conceded certain small amounts so listed should be treated as compensation. Petitioner has not introduced any evidence regarding the $5 to Griffith in 1943 and the $18 and $565 to Carl and Jewell in 1945 and 1950, respectively. We, therefore, uphold the respondent's determination regarding those items. Two "loan" items remain and will be discussed separately. (1) $693.63 to Griffith. In 1950, B.B.C. paid $693.63 for repairs to an automobile which Griffith purchased in 1950 with B.B.C.'s funds. Griffith, who was counsel for B.B.C., stated at the trial that it did not matter how the $693.63 was treated as long as either he or B.B.C. received the deduction for the casualty loss. Respondent, on brief, contends that his determination regarding B.B.C. is correct but concedes that Griffith individually is entitled to a casualty loss deduction in the amount of $600. It appears that the automobile belonged to Griffith personally but that he used it a great deal of the time on B.B.C. business. We have allowed B.B.C. a deduction for sales expenses for amounts which it paid to Griffith 120 in 1950 for that purpose but we do not know whether any of that reimbursement was for the automobile's being used on B.B.C. business. In light of these facts and Griffith's statement at the trial, we uphold respondent's determination regarding this item as to B.B.C. See, however, the Findings of Fact, supra, and Opinion, infra, regarding Griffith's personal income. (2) $17,447.92 to Hulon and Audrey. In 1950, Audrey borrowed $4,500 from B.B.C. for the purposes of purchasing a lot and building a house thereon. She and Hulon negotiated for a construction loan to finance the major part of the construction but were turned down. Not having sufficient funds to complete construction they withdrew about $13,000 from B.B.C. Unlike the original $4,500 neither the directors nor the shareholders of B.B.C. approved a loan for the additional $13,000. After the house was completed, a mortgage was secured and after living in it for a while it was sold. The $17,500 was paid back to B. B.C. over the period of a few years. A substantial part of the repayment was by numerous payments of small amounts by Hulon and Audrey of B.B.C.'s expenses. Respondent determined the entire withdrawal of $17,447.92 to 121 be a dividend in 1950. We think the first $4,500 was clearly a loan. And in view of the fact that the entire amount was repaid as a loan we think that the entire $17,447.92 should be treated as a loan rather than a dividend. The fact that there was no note evidencing the loan or that the books of B.B.C. did not show the loan or repayment is outweighed by the other facts regarding the transaction. We think the record shows that Hulon and Audrey regarded the advancements as loans; that they had the intent to repay the withdrawals at the time they were made; and that that intent was carried out. Of course, as far as B.B.C. is concerned the item is still not deductible in computing its net income. A loan by a taxpayer to another is not a deductible expenditure. (e) Other Deductions. B.B.C. claims that it is entitled to an additional deduction of $2,800 spread out over the years 1942 to 1945. The facts indicate that shortly before B.B.C.'s inception Griffith petitioned a United States District Court in Alabama for a creditors' arrangement with respect to $4,500 owed by him to creditors. Of that amount, $2,800 represented a debt of the old school for which Griffith was liable. B.B.C., which 122 was not a party to the proceeding, paid the $4,500 to the creditors at the rate $100of per month through 1945. We see no merit in B.B.C's contention that it is entitled to a $2,800 deduction. The $2,800 does not represent a liability for business expenses of B.B.C. If it represents a liability for expenses it would be the liability and expenses of the old school, not B.B.C. Even if B.B.C. assumed the liability, which the record does not show that it did, we cannot see how the result would be different. B.B.C. also claims that it is entitled to additional deductions for amounts which it expended for the purchase of books. In support of this contention it has submitted a list of purported purchases. However, it has not shown that the amounts claimed have not already been allowed by respondent. And the record indicates that all payments to uninterested third parties for expenses were included in B.B.C.'s deductible expenditures. In addition, it appears that respondent's agent reconstructed B.B.C.'s gross income, at least partially, by the expenditures method. Therefore, any additional expenditures would also mean an equal amount of additional gross income with the net income remaining 123 constant. We uphold the respondent's determination regarding the net income of B.B.C. for all years, except for the adjustments heretofore made. II - Individual Petitioners A. Dividends. The respondent has determined that the individual petitioners received income from B.B.C. in the same amount that he determined B.B.C. had made payments to or on behalf of the individuals. Since the individuals had reported some of the amounts as salary he allowed that amount as a deduction to B.B.C. and determined that the difference was dividends to the individuals. The individuals do not seriously dispute receiving the amounts determined by the Commissioner. However, we have held that the amounts paid by B.B.C. as sales expenses were actually selling expenses deductible by B.B.C. rather than dividends. Implicit in that determination is the finding that individuals actually expended the amounts received by them in the conduct of B.B.C.'s business. Therefore, to the extent that the dividends or income of the individuals is based on the disallowance of sales expense to B.B.C., the Commissioner's determination is reversed. With respect to the other portion of the dividends we have held that they represent 124 reasonable compensation except for certain loans. The portion representing reasonable compensation would, of course, still be income to the individuals and we uphold the respondent in this regard. The portions representing alleged loans which the Commissioner determined to be dividends are also income to the individuals because of a failure of proof except for the $17,447.92 loan to Hulon and Audrey in 1950. We have found that amount ($17,447.92) to be a loan; therefore, the dividend to Hulon and Audrey for 1950, determined by the respondent as an addition to the income reported by them, should be reduced by that amount. B. Professional Income of Griffith. The respondent also determined that Griffith had income from his part-time law practice which he did not report. Griffith concedes that he did have such income but argues that he turned it all over to B.B.C. It is clear, therefore, that the Commissioner's determination is correct, except for the year 1947 when the evidence shows that only $380 was received rather than the $800 determined by the Commissioner. Griffith apparently makes some claim that he is entitled to a deduction for contributions under section 23(o) for the amount 125 of his legal fees. However, there is no merit to this contention since B.B.C. is not a corporation "organized and operated exclusively for * * educational purposes * * * no part of the net earnings of which inures to the benefit of any private shareholder or individual." C. Casualty Loss. We have upheld the respondent's determination that Griffith received a dividend of $693.63 when B.B.C. paid that amount for repairs to his automobile which had been wrecked. Respondent concedes on brief that Griffith is entitled to a casualty loss on account of the wreck in the amount of $600. However, since $693.63 was paid to repair the automobile the loss to Griffith should be in that amount rather than the $600 conceded by the Commissioner. III - Additions to the Tax Section 291(a). B.B.C. did not file returns for any of the years involved. It did not request tax exempt status until 1946, and its application for such status in 1946, upon which the Commissioner relied, contained erroneous material statements of fact. Respondent determined that the addition to the tax provided in section 291(a) for failure to file a return is applicable. The addition is proper unless B.B.C. shows that its failure 126 was due to reasonable cause and not to wilful neglect. For the years prior to 1946, B.B.C. contends that it did not file a return because it had no income and for the years 1946 to 1951, because the Commissioner had ruled that it was tax exempt. The former reason clearly does not constitute reasonable cause and lack of wilful neglect. Cf. Burford Oil Co., 4 T.C. 613">4 T.C. 613, 618 (1945), affd. 153 Fed. (2d) 745 (C.A. 5, 1946). The latter reason might, under some circumstances, constitute reasonable cause. But here the Commissioner, in granting the exemption, relied on B.B.C.'s application which contained erroneous material statements of fact. To allow petitioner to rely on the ruling as constituting reasonable cause would allow it to benefit from its own misstatements. This we cannot do. Since no other reason was given or appears in the record, we hold that the section 291(a) addition is applicable to B.B.C. Jewell did not file returns for the years 1945 and 1946. The reason for not filing was that she thought her husband had reported her income on his returns. That reason is insufficient for us to say that her failure to file was due to reasonable cause and not due to wilful neglect. 127 Cf. Burford Oil Co., supra.We, therefore, uphold the respondent's determination of the section 291(a) addition to the tax. Section 293(a). Respondent determined additions to the tax under section 293(a) for all petitioners for all years. Little or no evidence was introduced regarding this determination. It affirmatively appears that B.B.C. did not keep adequate books or records as required by the regulations and that the individuals ignored reporting a substantial amount of income received from B.B.C. In the circumstances, we must uphold the respondent's determination in this regard. Section 294(d)(1)(A) and (d)(2). The individual petitioners have not introduced any evidence regarding these additions. We, therefore, uphold the respondent's determination in this respect. All of the additions to the tax are, of course, subject to recomputation under Rule 50. Decisions will be entered under Rule 50. Footnotes1. The following proceedings are consolidated herewith: Jewell Carter, Docket No. 56924; John Ike Griffith, Docket No. 56925; Hulon A. Spears and Audrey G. Spears, Docket No. 56926: and Birmingham Business College, Docket No. 56927.↩2. All section references are to the Internal Revenue Code of 1939, as amended, unless otherwise noted.↩3. The record does not show the amount or the years of payment of this type.↩. The State of Alabama, Department of Education, made Vocational Rehabilitation payments aggregating $5,295.88 to Birmingham Business College, Inc., during the period 1947 through 1950.4. Gilbert's report did not show any amount paid as "Sales Expense" to the shareholders for the year 1941-1942. Shinn's report did not show any sales expense disallowed, as such, for the year 1951.↩1. Gilbert found an alleged loan to Griffith of $70.30 in 1942 and one of $3 to Carl and Jewell in 1943, which the Commissioner determined to be a dividend. On reply brief the Commissioner allowed it as salary.↩. Includes additional amount allowed as salary expense by respondent on reply brief. ↩5. Respondent has conceded, in accord with petitioners' claim at the trial in this cause (Transcript p. 225) that Griffith is entitled to a casualty loss on his personal return for the wreck. See Findings of Fact re Individuals, infra.↩1. Including depreciation. 2. Includes net operating loss carryover of $147 from 1941. ↩3. Does not include net operating loss carryovers from 1943 and 1944.↩1. The Commissioner determined salary was $3,600 rather than the $4,940.84 reported. He therefore allowed a deduction of $1,340.84 ($4,940.84 minus $3,600). The net amount added by the respondent is, therefore, $10,197.35 ($11,538.19 minus $1,340.84).6. It is true that we have found that certain portions of the payments by B.B.C. to the individual petitioners represent compensation rather than dividends, but nevertheless the amounts are income to the individuals.↩7. Amounts received less amounts received as reimbursement for court cost and publication fees and amounts held in trust.↩8. It also appears that the amounts received in 1945 and 1946 were not reported by Griffith. However, those years are not in issue.9. These findings are in addition to the other findings, supra, which relate in one way or another to the propriety of the various additions to the tax involved herein.↩10. SEC. 101. EXEMPTIONS FROM TAX ON CORPORATIONS. * * * the following organizations shall be exempt from taxation under this chapter - * * (6) Corporations, * * organized and operated exclusively for * * * educational purposes, * * * no part of the net earnings of which inures to the benefit of any private shareholder or individual, and no substantial part of the activities of which is carrying on propaganda, or otherwise attempting, to influence legislation. * * ↩11. Code of Alabama 1940, Title 10, Art. 8, Sec. 157.↩12. SEC. 3791. RULES AND REGULATIONS. * *(b) Retroactivity of Regulations or Rulings. - The Secretary, or the Commissioner with the approval of the Secretary, may prescribe the extent, if any, to which any ruling, regulation, or Treasury Decision, relating to the internal revenue laws, shall be applied without retroactive effect. ↩13. B.B.C. argues that supplemental letters and materials were submitted to the Commissioner which clarified and corrected the application. If there were such documents they are not a part of the record herein and we, of course, are bound by the record. Also, the stipulation states that the Commissioner relied on the application, which is a part of the record.14. SEC. 276. SAME - EXCEPTIONS. (a) False Return or No Return. - In the case of a false or fraudulent return with intent to evade tax or of a failure to file a return the tax may be assessed, or a proceeding in court for the collection of such tax may be begun without assessment, at any time. ↩15. 64 Stat. 953, 954. The pertinent parts of the section are as follows: SEC. 302. EXEMPTION OF CERTAIN ORGANIZATIONS FOR PAST YEARS. (a) Trade or Business not Unrelated. - For any taxable year beginning prior to January 1, 1951, no organization shall be denied exemption under paragraphs (1), (6), or (7) of section 101 of the Internal Revenue Code on the grounds that it is carrying on a trade or business for profit if the income from such trade or business would not be taxable as unrelated business income under the provisions of Supplement U of the Internal Revenue Code, as amended by this Act, or if such trade or business is the rental by such organization of its real property (including personal property leased with the real property). (b) Period of Limitations. In the case of an organization which would otherwise be exempt under section 101 of the Internal Revenue Code were it not carrying on a trade or business for profit, the filing of the information return required by section 54(f) of the Internal Revenue Code (relating to returns by tax-exempt organizations) for any taxable year beginning prior to January 1, 1951, shall be deemed to be the filing of a return for the purposes of section 275 of the Internal Revenue Code (relating to period of limitation upon assessment and collection). In the case of such an organization which was, by the provisions of section 54(f) of the Internal Revenue Code, specifically not required to file such information return, for the purposes of the preceding sentence a return shall be deemed to have been filed at the time when such return should have been filed had it been so required. The provisions of this subsection shall not apply to a taxable year of such an organization with respect to which, prior to September 20, 1950, (1) any amount of tax was assessed or paid, or (2) a notice of deficiency under section 272 of the Internal Revenue Code↩ was sent to the taxpayer. 16. Section 301 of the Revenue Act of 1950.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623686/	HENRY MONK, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Monk v. CommissionerDocket No. 11396.United States Board of Tax Appeals9 B.T.A. 16; 1927 BTA LEXIS 2684; November 8, 1927, Promulgated 2684 The petitioner was engaged during the year 1917 in constructing aeroplane hangars and other buildings for the United States Government. All expenses of operation were paid out of borrowed money and current earnings. Held, that the petitioner is entitled to have his excess-profits tax computed under section 209, of the Revenue Act of 1917. Philip D. Beall, Esq., for the petitioner. Joseph Harlacher, Esq., for the respondent. SMITH 16 A deficiency has been found for the year 1917 in the amount of $7,405.81. Respondent has computed the petitioner's excess-profits tax under section 210 of the Revenue Act of 1917, whereas the petitioner contends that he is entitled to a computation under section 209. There is no other issue of fact or law. FINDINGS OF FACT. The petitioner is an individual residing at Pensacola, Fla. During the year 1917 he secured certain contracts for the construction of aircraft hangars, shops, and other buildings, for the United States Government. Some of these contracts were described as lump-sum contracts, that is, where the petitioner furnished labor and materials and completed a certain piece of work for2685 a specified lump sum, and others were described as cost-plus contracts, where the Government paid all of the cost of construction, including lumber and materials, plus a certain per cent to the petitioner for his services. Before submitting his bids for the contracts the petitioner, who had practically no funds of his own, had obtained a promise from J. S. Reese, president of the Citizens & Peoples National Bank of Pensacola, that the latter would furnish the money necessary to carry on the work if the contracts were secured. Subsequent to the securing of the contracts Reese made the petitioner a loan of $25,000. The petitioner gave his personal notes for the amount of the loan, one for $5,000, dated May 30, 1917, payable 90 days from date, two for $5,000, dated May 30, 1917, payable 9 months from date, and one for $10,000, dated May 30, 1917, payable 25 days from date. The notes all bore interest at 8 per cent and were made payable to J. S. Reese personally. As a bonus for the loan the petitioner gave Reese two additional notes for $5,000 each, dated May 30, 1917, payable 9 months from date without interest. The latter two notes were endorsed by the petitioner's superintendent, 2686 James W. Eley. None of the others was secured by collateral or otherwise. 17 The petitioner owned no personal property of consequence. He owned a house and lot at Pensacola, Fla., which he and his wife occupied for residential purposes during the year 1917, and an additional piece of real estate nearby, of the value of approximately $500. He owned no other real estate. His wife owned personal property of the value of several hundred dollars, some real estate in North Carolina, and an undivided half interest in 312 acres of land in California, which she had inherited from her parents. None of these properties was pledged as security for the aforesaid loan. The petitioner had known Reese personally for a number of years and had previously kept an account at the bank of which he was president. The petitioner began work upon the contracts in April or May of 1917. At that time he had no equipment or material except a few small tools, such as wheelbarrows, shovels, etc., of a value not in excess of $250. Under the terms of the contracts the Government paid a certain amount upon delivery of materials at the yard and a certain amount upon completion of the work. The2687 first payments were made upon the contracts about 15 or 30 days from the date the work was begun. Under the lump-sum contracts 10 per cent of the contract price was withheld until final completion of the contracts. There was so withheld upon the work done during the year 1917, $30,000 or $40,000 that was not paid during the year. The gross receipts and disbursements for the year 1917 under each of the types of contracts were as follows: Cost-plus contractsLump-sum contractsGross receipts$393,938.24$245,388.52Disbursements363,419.70243,985.08Profits30,518.548,640.55The petitioner did no other work during the year 1917 and had no income except from the Government contracts. All of the money received upon these contracts was deposited in a single account at petitioner's bank and all disbursements were made out of that account. James W. Eley, the petitioner's superintendent, received a salary of $10 per day plus a certain percentage of earnings amounting to about $5,000 for six months' work. There were three or four foremen who received salaries of $10 per day. Most of the work of construction was done by subcontractors whom the petitioner2688 employed. During the year 1917 the petitioner withdrew from the business approximately $15,000. In December of 1917 he withdrew $1,050 with which to purchase Liberty bonds. He purchased two steam shovels at a cost of approximately $2,000. In his income-tax return 18 for 1917 the petitioner did not report any income from the lumpsum contracts. The income reported from the cost-plus contracts was computed from the vouchers submitted by the Government. OPINION. SMITH: Petitioner claims that he is entitled to have his excessprofits tax for the year 1917 computed under section 209 of the Revenue Act of 1917, which imposes a flat-rate tax of 8 per cent upon a trade or business having "no invested capital or not more than a nom nal capital." Respondent has determined that the petitioner's trade or business is one which requires more than a nominal amount of capital and has computed the excess-profits tax under the provisions of section 210 of the Act. The sections referred to read as follows: SEC. 209. That in the case of a trade or business having no invested capital or not more than a nominal capital there shall be levied, assessed, collected and paid, in addition2689 to the taxes under existing law and under this Act, in lieu of the tax imposed by section two hundred and one, a tax equivalent to eight per centum of the net income of such trade or business in excess of the following deductions: In the case of a domestic corporation $3,000, and in the case of a domestic partnership or a citizen or resident of the United States $6,000; in the case of all other trades or business, no deduction. SEC. 210. That if the Secretary of the Treasury is unable in any case satisfactorily to determine the invested capital, the amount of the deduction shall be the sum of (1) an amount equal to the same proportion of the net income of the trade or business received during the taxable year as the proportion which the average deduction (determined in the same manner as provided in section two hundred and three, without including the $3,000 or $6,000 therein referred to) for the same calendar year of representative corporations, partnerships, and individuals, engaged in a like or similar trade or business, bears to the total net income of the trade or business received by such corporations, partnerships, and individuals, plus (2) in the case of a domestic corporation2690 $3,000, and in the case of a domestic partnership or a citizen or resident of the United States $6,000. On beginning the business in 1917 the petitioner had no money except borrowed money and no capital or materials except a few small tools of negligible value. The contracts with the Government had been obtained upon open bids without cost. It is clear that there was no invested capital employed in the business as the term is defined in section 207 of the 1917 Act. See ; ; . It is admitted that the $25,000 of borrowed money was used in the business and was perhaps necessary to its existence in the beginning. In , the court found that a corporation which had borrowed all of the money used to purchase and operate a mine had 19 no invested capital and was, therefore, subject to be taxed under section 209. In 2691 , it was held that a partnership engaged in buying and selling timber and lumber products which conducted its business entirely on borrowed money in considerable amount had "nominal capital" but not "invested capital" and was entitled to have its excess-profits tax computed under section 209. The facts in these cases are not distinguishable in any material respect from those in the case at bar. Those businesses can not be said to require any less use of capital than the one in which the petitioner was engaged. The petitioner's total expenditures for the year were $607,404.78. He was not required to complete his contracts before receiving any remuneration from the Government. A part of the contract price was paid as soon as the material was delivered upon the job and another part paid when the work was completed. These funds, together with the $25,000 borrowed money, the petitioner kept in a general account out of which all the expenses of operation were paid. In , a corporation conducting an amusement park had a capital stock of $2,000. 2692 Gross expenditures of approximately $150,000 for the year were made out of current receipts. It had a net income for the taxable year of $30,000. The court held that the corporation had not more than a nominal capital of any kind and was subject to excess-profits tax at the flat rate of 8 per cent under section 209. With respect to the expenditures made by the corporation out of current earnings, the court said: In a sense, of course, expenditures may be said to be capital, but not in the sense in which the word is employed in any taxing laws, and not in the sense which is commonly ascribed to the word. The sum total of expenditures has usually a direct relation to the volume of business done; but it does not necessarily bear any relation to capital, because a concern with a small, although ample, capital may do a large business in one line, when the same volume of business, measured in money, may require a much larger capital in another line. To call the aggregate sum of all the money employed in buying and selling capital, when the same dollar may have been used any number of times, is to make "ducks and drakes" of words. 2693 See also ; ; ; . The weight of legal authority is that in a case where no invested capital or only a nominal capital is actually invested in the business, even though the business is conducted upon a financial plan which calls for the use of a large amount of money, as was the case here, there can not be set up a theoretical capital for the purpose of effecting *20 an harmonious application of the taxing statutes. We think that the petitioner has proven his right to have his excess-profits tax for the year 1917 computed at the flat rate of 8 per cent, as provided in section 209 of the Act. Judgment will be entered on 15 days' notice, under Rule 50.Considered by LITTLETON, TRUSSELL, and LOVE.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623688/	Mary Jean Martin, Individually, and Dorothy Fischer, by Her Guardian, Mary Jean Martin, Petitioners v. Commissioner of Internal Revenue, Respondent; John R. Fischer, Richard J. Fischer, Wilburn H. Fischer, Francis J. Fischer, and Patricia Ann Norman, Petitioners v. Commissioner of Internal Revenue, RespondentMartin v. CommissionerDocket Nos. 10122-82, 10740-82United States Tax Court84 T.C. 620; 1985 U.S. Tax Ct. LEXIS 100; 84 T.C. No. 40; April 2, 1985. April 2, 1985, Filed 100 Decisions will be entered under Rule 155. P's are the seven heirs of the Estate of John A. Fischer. At his death on Jan. 29, 1978, decedent devised to such heirs, as tenants in common, a 209-acre crop-producing family farm. The farm was leased on a sharecrop basis to the son-in-law of decedent at the time of his death. The estate properly elected, qualified for, and received a special-use valuation pursuant to sec. 2032A, I.R.C. 1954. At the instigation of the personal representative, who was an heir, and over the opposition of two of the heirs, a 1-year cash lease of the entire tillable portion of the farm was executed in August of 1979, and the lease was approved by the local probate court. Held, the cash lease of the farm constituted a cessation of qualified use of the farm by a "qualified heir," calling for the imposition of an additional or recapture estate tax pursuant to sec. 2032A(c)(1)(B). Jack N. Van Stone, for the petitioners in docket No. 10122-82.Edward W. Johnson, for the petitioners in docket No. 10740-82.Frederick W. Krieg, for the respondent. Korner, Judge. KORNER621 Respondent determined104 deficiencies in estate tax against each of the foregoing seven petitioners in the amount of $ 95,088.14. 1 Respondent has conceded $ 81,504.12 of each such deficiency, leaving deficiency determinations in the amount of $ 13,584.02 in issue as to each petitioner. 2After concessions, the sole issue remaining for our decision is whether the seven heirs of the decedent, John A. Fischer, ceased to use qualified real property for a qualified use, so that they are liable for an additional estate tax pursuant 105 to section 2032A(c). 3FINDINGS OF FACTSome of the facts have been stipulated and are so found. The stipulations of facts and exhibits attached thereto are incorporated herein by this reference.At the time their petitions were filed, petitioners John R. Fischer (John R.), Richard J. Fischer (Richard), Francis J. Fischer (Francis), and Patricia Ann Norman (Patricia) resided at Mount Vernon, Indiana; petitioner Wilburn H. Fischer (Wilburn) resided at Corpus Christi, Texas; and petitioners Mary Jean Martin (Mary) and Dorothy Fischer (Dorothy), by her guardian, Mary Jean Martin, resided at Poseyville, Indiana.John A. Fischer (the decedent) and his wife, Florence Fischer (Florence) were citizens of the United States and resided in Posey County, Indiana, for virtually all of their lives. The decedent106 and Florence owned, as tenants by the entirety, certain real estate in Posey County, Indiana, consisting of a total of 209 acres, and comprised of approximately 166 acres of farm land, 23 to 26 acres of unproductive and unmanaged woodland of little value, 17 to 20 acres of woods and creeks, and a residence (hereinafter referred to, collectively, 622 as the farm). At all times here pertinent, the farm produced various types of crops.Decedent and Florence Fischer had seven children, namely: John R., Richard, Wilburn, Francis, Dorothy, Patricia, and Mary.The principal occupation of decedent and Florence Fischer was farming, and they personally farmed the foregoing acreage until approximately 1970, when they were unable to do so as a result of advancing age and poor health. At such time, they entered into an oral sharecrop arrangement with Mary's husband, Anthony Martin (Anthony), whereby he would farm approximately 95 acres of the farm on a sharecrop basis, with one-third of the net proceeds therefrom going to the lessors and the remainder going to Anthony. In 1974, the lease was modified to include the entire farm.At an undisclosed time prior to 1978, Patricia became the107 guardian of decedent and Florence Fischer. During 1977, a typewritten lease of the farm was entered into between Patricia, in her guardian capacity, and Anthony, continuing the one-third, two-thirds split between the landlords and the tenant.On or about March 29, 1977, Florence died, and the farm passed to her husband by operation of law. On January 29, 1978, decedent died.By the will of the decedent, which was probated, his seven children received the farm as tenants in common. John R. qualified as the personal representative of the estate of his father, and an estate administration was opened in the Posey Circuit Court in Indiana.From January 29, 1978 until August 1979, the farm continued to be farmed on a sharecrop basis by the decedent's son-in-law, Anthony Martin, pursuant to automatic extensions of the 1977 lease.On September 29, 1978, John R. caused to be filed with the Internal Revenue Service, a United States Estate Tax Return, Form 706, on which the estate properly elected to value the farm pursuant to section 2032A. The return was accepted as filed and a closing letter was issued by respondent on June 16, 1980. The seven qualified heirs each executed a document108 styled "Agreement to Remain Liable For Additional Estate 623 Tax For the Estate of John A. Fischer, Deceased." John R. was appointed the active agent for the qualified heirs.As filed, the estate tax return showed a total estate tax of $ 11,473.02. Had the parties not elected the special-use valuation for the farm, the estate would have owed an additional $ 95,088.14 in estate taxes at the time the return was filed. However, the requirements of section 2032A were complied with, and the estate was entitled to, and properly received, a special valuation for the farm under section 2032A.By 1978, Dorothy had become mentally incompetent, and on April 13, 1978, Mary was appointed as her guardian, and continued in that capacity at all times here pertinent.Subsequent to filing the estate tax return, John R. determined that Anthony should not continue farming the property. Accordingly, on February 15, 1979, John R. caused to be sent to Anthony a notice to terminate the typewritten 1977 lease agreement. The notice of termination was to be effective on August 15, 1979, and provided that Anthony was not to thereafter plant any crops to be harvested after that date, and was to have109 all of his crops off of the farm prior to that date, but Anthony was permitted to remove any crops, already planted, which would not mature until after August 15, 1979.In July or early August of 1979, John R. advertised for bids to lease the farm for a 1-year period on a pure cash rental basis. Several sealed bids were submitted, each of which was based on a fixed dollar amount. When the sealed bids were opened in August 1979, the highest bid was submitted by Droege Farms, which submitted a cash rental bid of $ 21,060. On August 17, 1979, a cash lease of the farm was entered into by and between the personal representative and Edmund Droege, acting for Droege Farms as lessee. Edmund Droege was a third party, who was not related to the decedent or Florence. The contract provided for payment of 10 percent of the total rent on or before September 1 of the year in which the lease was signed, with the remainder due on or before the last day of January 1981.On August 24, 1979, John R., as personal representative, petitioned the Posey Circuit Court to approve the lease to Droege Farms. At least in part as a result of concern over losing the advantages of the special use valuation 110 under section 2032A, two of the heirs, Mary in her individual 624 capacity, and Mary as guardian of Dorothy, filed written objections to the lease. Over such objections, on October 16, 1979, the Posey Circuit Court approved the lease.The rental specified in the cash lease, $ 21,060, was based upon $ 117 per acre multiplied by 180 tillable acres. The initial 10-percent payment specified in the lease, or $ 2,106, was paid in the Spring of 1980, after which time it was determined that there were only 165.9 tillable acres. Accordingly, the final lease payment was adjusted to $ 17,304.30, computed as the product of 165.9 acres and $ 117, less the $ 2,106 initial payment. The rental was not based upon the level of crop production from the farm.On September 12, 1979, Mary, acting individually and as guardian for Dorothy, filed with the Posey Circuit Court a petition for partition of the farm.In or about October of 1979, Anthony, the prior lessee, was permitted to and did enter the farm to remove his crops. Between August 17, 1979, and October of 1979, while Anthony's crops were still in the field, and prior to approval of the cash lease by the Posey Circuit Court, Droege Farms111 did not plant. In November of 1979, however, Droege Farms planted winter wheat, and it likewise was permitted to and did remove its crops in or about October of 1980. Droege Farms thereafter sold the crop, and made the final rental payment under the August 17, 1979, cash lease on December 29, 1980. On August 17, 1980, the 1-year cash lease to Droege Farms ended.During the cash lease of the farm, the farming operation was conducted by Droege Farms, which used its own chisel plow, moldboard plow, grader blade, disc, culti-mulchers, planters, drill, tractor, and combine. The estate owned no farm equipment.During the cash lease term, Richard and John R. participated in maintenance and operation of the farm by performing a number of duties, including clearing approximately one-half mile of fence rows, repairing field tile and a washed-out culvert, and filling so-called sinkholes on the farm. In addition, John R. regularly conferred with Edmund Droege, providing advice to the lessee concerning the location for planting crops, plowing and fertilizing methods, crop rotation, seed selection, 625 disking, control of Johnson grass and other weeds, and rototilling.At the termination112 of the 1-year cash lease, a sharecrop lease was executed on August 19, 1980, by and between John R., acting as agent for himself, Richard, Wilburn, Francis, and Patricia, and Edmund Droege, acting for Droege Farms, for the lease of a portion of the farm consisting of approximately 143 acres. Droege Farms has continued to operate this portion of the farm on this basis. At or about the same time, Mary and her husband, Anthony, began farming the remaining portion of the farm, or some 65 acres, which constituted a two-sevenths share of the entire farm.On October 16, 1980, some 4 months after issuance of his closing letter, respondent first became aware of the August 19, 1979, cash lease between the personal representative and Droege Farms.The estate of the decedent was closed on or about November 3, 1980, and the entire farm was thereafter transferred to all seven heirs as tenants in common.On May 11, 1982, the Posey Circuit Court approved an agreement of the parties to partition the farm. Pursuant to the agreement, 142.5 acres were set off as the sole property of John R., Richard, Wilburn, Francis, and Patricia as tenants in common, and 65.3 acres were set off as the sole property113 of Mary, individually, and Dorothy, by Mary as guardian.OPINIONThe sole issue presented for our decision is whether the seven heirs of the decedent, all of whom are petitioners herein, ceased, by virtue of cash leasing the farm to Droege Farms, to use qualified property for a qualified use, calling for imposition of the additional estate tax (also called a recapture tax) under section 2032A(c). Since the applicability of the recapture tax is an issue of first impression with this Court, we begin with a brief review of the history and purposes of section 2032A.Section 2032A was added by the Tax Reform Act of 1976, Pub. L. 94-455, 90 Stat. 1520. Under prior law, the value of property included in the decedent's gross estate was the fair market value of the property interest at the date of death (or the alternate valuation date). Secs. 2031, 2032. Such fair 626 market value was determined with regard to the "highest and best use" to which the property could be put. Later, however, Congress came to feel that this "highest and best use" valuation was inappropriate in the case of land actually used for farming or certain other purposes both before and after the decedent's death, 114 for the following reasons:Valuation on the basis of highest and best use rather than actual use may result in the imposition of substantially higher estate taxes. In some cases, the greater estate tax burden makes continuation of farming etc., activities not feasible because the income from these activities is insufficient to service extended tax payments on loans obtained to pay the tax. Thus, the heirs may be forced to sell the land for development purposes. [S. Rept. 94-938 (1976), 1976-3 C.B. (Vol. 3) 643, 657.]At the same time, it was realized that it would be a windfall to the beneficiaries to provide the foregoing relief in instances where the beneficiaries did not continue to use the property for a reasonable period as the decedent did before death.In response to these concerns, Congress enacted section 2032A in 1976, providing for an elective procedure whereby the executor could value certain qualified real property included in the gross estate on the basis of the value of the property in its current use, rather than its highest and best use. It was intended that this benefit would apply to family farms or businesses. See Estate of Sherrod v. Commissioner, 82 T.C. 523">82 T.C. 523, 531 (1984),115 on appeal (11th Cir., Oct. 19, 1984); H. Rept. 94-1380 (1976), 1976-3 C.B. (Vol. 3) 735, 755-756.To qualify for the special use valuation, the following conditions must be met: (1) The decedent at the time of his death must have been a citizen or resident of the United States; (2) the property for which the special use value is sought must be located within the United States; (3) the property must pass to a member of the decedent's family who qualifies under section 2032A; (4) the property must represent at least 50 percent of the adjusted value of the gross estate and must have been used at the decedent's death for a qualified use; and (5) 25 percent or more of the adjusted value of the gross estate must consist of such property which during 5 of the 8 years preceding the decedent's death was used for a qualified use by the decedent or a member of his family, and there must have been material participation by the decedent or the member of his family in the operation of the farm or 627 other business. See Estate of Sherrod v. Commissioner, supra at 532.The parties herein are in agreement that the estate of the decedent116 qualified for and properly elected the special use valuation under section 2032A. The instant dispute arises, however, with respect to the post-death use of the farm during administration of the estate, as a result of which, respondent urges, the qualification of the estate for the special-use valuation ceased.In accordance with the foregoing congressional intent to avoid windfall benefits for beneficiaries who ceased to continue using property as the decedent did for a reasonable post-death period, section 2032A(c)(1) provides for imposition of an additional estate tax, as follows:(1) Imposition of additional estate tax. -- If, within 15 years 4 after the decedent's death and before the death of the qualified heir -- (A) the qualified heir disposes of any interest in qualified real property (other than by a disposition to a member of his family), or(B) the qualified heir ceases to use for the qualified use the qualified real property which was acquired (or passed) from the decedent, then there is hereby imposed an additional estate tax.[Emphasis added.]117 Pursuant to section 2032A(b)(2), the "qualified use" referred to in the foregoing section 2032A(c)(1)(B) is defined by reference to the same definition which applies to the pre-death qualified use requirement for initial qualification, as follows:(2) Qualified use. -- For purposes of this section, the term "qualified use" means the devotion of the property to any of the following: (A) use as a farm for farming purposes, or(B) use in a trade or business other than the trade or business of farming.The legislative history of section 2032A makes it clear that for either of the foregoing uses to qualify, it must constitute a trade or business, and not a merely passive rental use. As noted by the House Ways and Means Committee in its report explaining the foregoing provision:628 In the case of either of these qualifying uses [use as a farm for farming purposes or use in a trade or business other than farming], your committee intends that there must be a trade or business use. The mere passive rental of property will not qualify. However, where a related party leases the property and conducts farming or other business activities on the property, the real property118 may qualify for special use valuation. * * * However, if the property is used in a trade or business in which neither the decedent nor a member of his family materially participates, the property would not qualify. [H. Rept. 94-1380 (1976), 1976-3 C.B. (Vol. 3) 735, 757; emphasis added.]As noted supra, additional estate tax is imposed under section 2032A(c)(1)(B), where there is a cessation of the aforedescribed "qualified use" of qualified property by the qualified heir. The phrase "cessation of qualified use" is defined in section 2032A(c)(7), 5 as follows:(7) Cessation of qualified use. -- For purposes of paragraph 1(B), real property shall cease to be used for the qualified use if -- (A) such property ceases to be used for the qualified use set forth in subparagraph (A) or (B) of subsection (b)(2) under which the property qualified under subsection (b); or(B) during any period of 8 years ending after the date of the decedent's death and before the date of the death of the qualified heir, there had been periods aggregating 3 years or more during which -- (i) in the case of periods during which the property was held by the decedent, 119 there was no material participation by the decedent or any member of his family in the operation of the farm or other business, and(ii) in the case of periods during which the property was held by any qualified heir, there was no material participation by such qualified heir or any member of his family in the operation of the farm or other business.[Emphasis added.]Imposition of the additional estate tax after the decedent's death can therefore be triggered by any one, inter alia, of the following events:(a) A failure to continue the same qualified use of the property, which was the basis of its original qualification, section 2032A(c)(7)(A);(b) A failure by a qualified heir to continue such use, section 2032A(c)(1)(B); or(c) A failure of material participation by a qualified heir in continuing the same qualified use, section 2032A(c)(7)(B).629 In the instant case, respondent has not raised a material participation objection under120 section 2032A(c)(7)(B). Rather, respondent contends that the farm ceased to be used by the qualified heirs for the farm use for which it initially qualified, because of the 1-year cash lease entered into with Droege Farms.As we have found, the farm qualified under section 2032A at the time of the decedent's death, when it was being farmed on a sharecrop basis by the decedent's son-in-law. After the death of the decedent, however, John R., acting as personal representative of his father's estate, notified Anthony to terminate his sharecrop leasing of the farm effective on August 15, 1979. During the summer of 1979, John R. solicited bids to lease the farm for a 1-year period on a pure cash rental rather than a sharecrop basis. The lease went to the highest bidder, Edmund Droege, acting for Droege Farms, and an all-cash lease was executed on August 17, 1979, and then approved by the Posey Circuit Court, over the opposition of two of the heirs of the decedent, on October 16, 1979. The lease called for a flat rental of $ 21,060 for the year, computed as the product of a $ 117 rental per acre, and the 180 tillable acres on the farm, and such rental was to be due and payable without121 regard to any production from the farm.In an opinion of this Court which was filed after the trial in the instant case, Estate of Abell v. Commissioner, 83 T.C. 696 (1984), we held that the decedent's lease of a cattle ranch to an unrelated party for a pure cash rental, for many years ending with her death, failed to constitute a qualified use by the decedent under section 2032A, since under the lease, the decedent had no "equity interest" in the trade or business being operated on her property by the lessee. As was the case with several of the heirs herein, the decedent in Abell continued to participate in the management, supervision, and operation of the ranch, but such activities failed to overcome her relinquishment of an equity interest in the cattle business (i.e., a qualified use) during the term of and as a result of her cash lease of the property.Since, as noted supra, a cessation of qualification for the special treatment of section 2032A will occur when property ceases to be used by the qualified heir for the use with respect to which it first qualified, we believe that our holding in Estate 630 of Abell, which related122 to the initial qualification of property based upon its pre-death use by the decedent, controls the instant case, which relates to continued qualification based upon post-death use by the heirs. In accordance with Estate of Abell, the rental of the farm to Droege Farms for a pure cash rental during portions of 1979 and 1980, clearly constituted a cessation of the same qualified use by the qualified heirs, calling for imposition of the recapture tax under section 2032A(c)(1)(B). 6In support of their contention that no such cessation occurred, petitioners rely upon two cases, both of which address the qualified use requirement of section 2032A in123 the context of the pre-death use test for the initial special use qualification of farm or business property under subsection (b)(1).In the first such case, Estate of Sherrod v. Commissioner, supra, this Court held qualified for special use valuation under section 2032A, a total of 1,478 acres of land, of which, at the time of the decedent's death, 1,108 acres were in timber, and the remaining 370 acres were in row crops or pasture, and were cash-leased to third parties. Essential to our decision in that case were the facts that the cash-leased acreage constituted only 25 percent of the total acreage, and that the management of the leased acreage had for many years been "an integral part of, and inseparable from," the management of the timber acreage. Furthermore, we found that the practice of leasing the 370 acres was "consistent with good land management," since the land consisted of two parcels, each of which was too small to profitably use for row crops and which were too distant to work as a unit, and provided cash with which to pay such expenses as taxes for the entire property. On these facts, we concluded that the management of the 370 leased124 acres constituted part of the "active farm business" in which the decedent (or his son) was involved on the remaining 1,108 acres.In the instant case, by contrast, it was initially determined that Droege Farms would lease 180 tillable acres, or some 86 631 percent of the total acreage. While the estimate of tillable acreage was later reduced to 165.9 acres (with a commensurate reduction in the rent), this still constituted some 79 percent of the total acreage. Furthermore, unlike Estate of Sherrod, there is no evidence to show that any active farming business was conducted on the remaining acreage, which by stipulated agreement of the parties, consisted essentially of 23 to 26 acres of "unproductive and unmanaged woodland of little value" and 17 to 20 acres of woods and creeks and a residence.In sum, Estate of Sherrod holds that property may be put to a qualified use under section 2032A, notwithstanding that a portion of such property is leased for a flat cash sum, but only where the leased portion is a relatively small part of the entire property and where the requisite nexus can be shown between the leased portion and the conduct of the active business of farming125 on the remainder of the property. 7 During the term of the cash lease to Droege Farms, however, petitioners have failed to demonstrate the presence of either of these essential conditions. 8126 The second case relied upon by petitioners is Schuneman v. United States, an unreported case ( C.D. Ill. 1984, 84-1 USTC par. 13,561), supplementing 570 F. Supp. 1327">570 F. Supp. 1327 (C.D. Ill. 1983). In that case, the District Court for the Central District of Illinois, on facts similar to those in the instant case, examined the legislative history of section 2032A, holding that the qualified use provision required the decedent (or, under the 1981 amendments, a member of her family) to be "using" the property at the time of her death, and that a mere passive rental for a cash sum would not qualify. 570 F. Supp. at 1330. In rejecting the plaintiff's position that it was the material participation requirement that was intended to involve the 632 decedent in the active operation of the farm or other business, and not the qualified use requirement, the District Court noted that "While both requirements insure that the decedent (or a member of his family in the case of material participation) is connected with the property, they are separate requirements." 570 F. Supp. at 1330. (Emphasis127 added.)After reaching the foregoing conclusions, with which we are in full accord, the District Court proceeded in that case to note that the decedent would be considered as using the property at her death if the lease of the property at that time was substantially based on production, or if the decedent materially participated in operation of the farm. 570 F. Supp. at 1332. We concur, of course, that a pre-death use will be found to be qualified under section 2032A(b)(2), where the decedent leased the property for a rental which was substantially dependent upon production, such as a sharecrop lease. However, in suggesting that a qualified use may be found solely by virtue of the decedent's material participation in operation of the farm property, we believe that the District Court contradicted its own correct observation that qualified use and material participation are two separate and distinct requirements under section 2032A(b). See Estate of Abell v. Commissioner, supra; Estate of Trueman v. United States, supra.Petitioners raise a number of arguments in opposition to the conclusion 128 that the August 1979 lease to Droege Farms constituted an event calling for the imposition of additional estate tax under section 2032A(c)(1)(B). Many of petitioners' arguments are directed toward convincing us that section 20.2032A-3, Estate Tax Regs., which was promulgated on July 28, 1980, T.D. 7710, 2 C.B. 254">1980-2 C.B. 254, and which relates to the material participation requirements for special use valuation, is inapplicable to the instant case. Specifically, the portion of the regulation objected to by petitioners provides that "All specially valued property must be used in a trade or business. * * * The mere passive rental of property to a party other than a member of the decedent's family will not qualify." Sec. 20.2032A-3(b)(1), Estate Tax Regs.We note that in considering the issue of the qualified use of property passed by a decedent who died in 1979, in Estate of Abell v. Commissioner, supra, this Court cited the foregoing regulation with approval. We believe that a reading of Estate 633 of Abell makes it clear that the decision therein was grounded upon a careful analysis of the language and129 legislative history of section 2032A, and not upon the regulation. Since our determination of the instant case is similarly premised upon the language and legislative history of section 2032A, and is made without regard to the cited regulation, we need not consider further petitioners' arguments with respect thereto.Petitioners next make two arguments relating to Indiana State law. First, petitioners contend that they should not be "penalized" under section 2032A for activities allegedly undertaken pursuant to their purported responsibility under Indiana law to use the property in the estate to obtain the highest income therefrom. In support of this position, however, petitioners point solely to two sections of Indiana law, Indiana Code Annotated sections 29-1-16-1 and 29-1-17-7 (Burns 1972), neither of which provides that property in an estate must be used as was done here. Rather, the first section cited relates to the liability of the personal representative for certain losses suffered by the estate as a result of his negligence or nonfeasance in the performance of his responsibilities. Petitioners appear to argue that John R. could have been held liable under this section130 if he had not entered into the lease with Droege Farms, the premise being that only thus could he derive the maximum return for the heirs. Such an assumption is entirely unproved in this record; there is no proof that John R. could not have done just as well by continuing the existing sharecrop arrangement with Anthony or someone else, e.g., Droege Farms.The other section of Indiana law relates to the responsibility of the personal representative to disburse, distribute, and account for certain income received by him during administration of the estate, and petitioners do not contend that there was any failure on the part of John R. to meet his responsibilities under this provision, nor that there would have been if he had not entered into the lease.Second, petitioners point to Indiana Code Annotated section 29-1-13-1 (Burns 1972), which provides, inter alia, that the personal representative shall take possession of all of the real and personal property of the decedent, and that he "may maintain an action for the possession of real property or to determine the title to the same." Pursuant to this section, 634 according to petitioners, "the heirs of this * * * estate could131 not have ceased to use the farm in question when the heirs, [sic] never had control of the farm in the first place." The heirs, petitioners contend, only began to have use of the farm in late 1980, after the estate was closed.We cannot concur in petitioners' contention that they did not have use of the farm until late 1980, within the meaning of section 2032A. As we have found, immediately after the death of the decedent (as before), his son-in-law, Anthony, continued to operate the farm under the 1977 lease, as extended. Since, by stipulated agreement of the parties, the estate was "entitled to, and did receive, a special valuation for the entire farm under Section 2032A," [Stip. 14] it is clear that Anthony was a qualified heir (section 2032A(e)(1) and (2)) using qualified property for a qualified use under that section.The sole provision which might have excused petitioners' failure to use the farm for a post-death qualified use during all or a portion of the period of administration of the decedent's estate, is section 2032A(c)(7)(A), which was added by section 421(c)(2)(A) of the Economic Recovery Tax Act of 1981, Pub. L. 97-34, 95 Stat. 172, and which establishes a 2-year132 grace period immediately following the date of the decedent's death, as follows:(A) No tax if use begins within 2 years. -- If the date on which the qualified heir begins to use the qualified real property (hereinafter in this subparagraph referred to as the commencement date) is before the date 2 years after the decedent's death -- (i) no tax shall be imposed under paragraph (1) by reason of the failure by the qualified heir to so use such property before the commencement date, and(ii) the 10-year period 9 under paragraph (1) shall be extended by the period after the decedent's death and before the commencement date.While this provision is generally retroactive to estates of decedents dying after December 31, 1976, including the estate of the decedent 10 (see Pub. L. 97-34, sec. 421(k)(5), 95 Stat. 172, 314), it does not benefit petitioners in the instant case, since Anthony, who was a qualified heir within the meaning of section 2032A(e)(1) and (2), was involved in the qualified post-death 635 use of the farm (i.e., the sharecrop lease) immediately after the death of the decedent. Moreover, even if Anthony's use of the farm did not constitute the beginning133 of the qualified use of the farm by the qualified heir within the meaning of the new section 2032A(c)(7), two years after the death of the decedent, or in January of 1980, the farm was still under cash lease to Droege Farms, vitiating the precondition for application of the relief provided for in section 2032A(c)(7)(A) (i.e., that the use by a qualified heir begin within 2 years after the decedent's death).It is petitioners' next contention that the farm was cash leased for such a short period of time, relative to the time that it was farmed on a sharecrop basis, that no real "cessation of qualified use" occurred. As conceded by petitioners, however, neither the Code nor the regulations allow for any de minimis exception to the qualified use requirement of section 2032A, and we see no basis for reading such an*134 exception into that provision.Finally, petitioners contend that the heirs of the decedent "did materially participate and contribute to the maintenance and operation of the farm during the term of the cash lease." Even assuming that the activities of some or all of the heirs constituted material participation during the period of the cash lease to Droege Farms, however, a cessation of qualified use occurs under section 2032A(c)(7) upon either a failure of material participation for a specified duration, or a failure of qualified use by the qualified heirs. In this case, such a failure of qualified use by the qualified heirs is clearly shown, is not cured by any "material participation" by petitioners ( Estate of Abell v. Commissioner, supra), and must give rise to the imposition of additional estate tax under section 2032A(c)(1)(B).To reflect the foregoing,Decisions will be entered under Rule 155. Footnotes1. Respondent also determined additions to tax under sec. 6651(a)(1), as to each of the petitioners herein, but has conceded this issue.↩2. Such concessions were explained by respondent as follows:"In each statutory notice of deficiency issued to the seven petitioners herein, respondent determined the full amount of the additional estate tax, or $ 95,088.14. Respondent should have determined one-seventh of the full amount of the additional estate tax against each of the seven petitioners, or $ 13,584.02."↩3. All statutory references are to the Internal Revenue Code of 1954 as amended and in effect for the year in issue, and all Rule references are to the Tax Court Rules of Practice and Procedure, except as otherwise stated.↩4. For the estates of decedents dying after Dec. 31, 1981, this period was amended to the present 10 years. Pub. L. 97-34, sec. 421(c)(1)(A), 95 Stat. 172, 307.↩5. A similar provision is now contained in sec. 2032A(c)(6)↩.6. We need not decide whether the qualified heirs, through John R. as personal representative, were engaged in a trade or business, and therefore in a "qualified use" under sec. 2032A(b)(2)(B), when they leased the farm to Droege Farms. Even if they were, it was not the trade or business of farming, which was the basis of the initial qualification. Sec. 2032A(c)(7)↩.7. In support of this interpretation of Estate of Sherrod v. Commissioner, 82 T.C. 523 (1984), on appeal (11th Cir., Oct. 19, 1984), see Estate of Trueman v. United States, 6 Cl. Ct. 380↩ (1984), which was decided after filing of the initial briefs herein.8. Petitioners make much of our findings in Estate of Sherrod v. Commissioner, supra, that the decedent and later his son negotiated annual rental agreements, periodically inspected the timberland and contacted tenants and adjoining landowners, and paid local taxes on the acreage there in issue. We cannot agree with petitioners, however, that such activities formed the basis for our conclusion in that case that the use of the property was a qualified use under sec. 2032A(b)(2). Rather, the cited findings related to our further conclusion that there was "material participation," within the meaning of sec. 2032A(b)(1)(C), a separate requirement under sec. 2032A (see Estate of Coon v. Commissioner, 81 T.C. 602">81 T.C. 602, 606 (1983)), and one as to which there is no dispute in the instant case. See Estate of Sherrod v. Commissioner, supra at 534-535. See also Estate of Abell v. Commissioner, 83 T.C. 696">83 T.C. 696↩ (1984).9. For the year here in issue, this was a 15-year period.↩10. Petitioners make no claim under such section, apparently because of their mistaken belief that the section is not to be retroactively applied.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623689/	Percy G. Ligon and Elizabeth L. H. Ligon v. Commissioner. Grover C. Ligon v. Commissioner.Ligon v. CommissionerDocket Nos. 46914, 46915.United States Tax CourtT.C. Memo 1954-222; 1954 Tax Ct. Memo LEXIS 23; 13 T.C.M. (CCH) 1127; T.C.M. (RIA) 54328; December 16, 1954, Filed Joshua W. Miles, Esq., First National Bank Building, Baltimore, Md., and D. Sylvan Friedman, Esq., for the petitioners. A. Russell Beazley, Jr., Esq., and Philip A. Bayer, Esq., for the respondent. JOHNSON Memorandum Findings of Fact and Opinion JOHNSON, Judge: Respondent determined deficiencies in petitioners' income tax for 1949 as follows: DocketNo.PetitionerDeficiency46914Percy G. Ligon andElizabeth L. H. Ligon$1,406.5446915Grover C. Ligon2,224.95The issue is whether petitioners' share of partnership income was understated as the result of (1) a claimed bad debt deduction, and (2) a claimed reduction of gross income because the partnership paid a compromise settlement of a lawsuit. Findings of Fact Percy G. Ligon, hereinafter referred to as Percy, 24 and Elizabeth L. H. Ligon, husband and wife, resided in Montgomery County, Maryland, and filed a joint income tax return for 1949 with the collector of internal revenue for the district of Maryland. Grover C. Ligon, hereinafter referred to as Grover, a resident of Baltimore, Maryland, filed his individual income tax return with the same collector. During 1949 Percy and Grover, as partners, engaged in the general contracting business under the firm name of Ligon and Ligon. This partnership will be referred to as the 1949 partnership. The 1949 partnership return for the business was filed with the collector of internal revenue for the district of Maryland. On June 15, 1945, Percy and Grover entered into an agreement with George W. Welsh, Jr., wherein they agreed to sell him a 1/10th interest in the partnership. This partnership will be referred to as the 1945 partnership. The total capital value of the 1945 partnership as of June 15, 1945, was arbitrarily stated as representing a net worth of $100,000, which included lands, buildings, machinery and good will. Welch agreed to pay Percy and Grover $10,000 representing a 1/10th interest in the 1945 partnership. This amount was to25 be paid out of Welsh's share of the profits and it was to be paid at the end of each calendar year, and the amount to be paid was not less than 10 per cent of the profits and was to be paid from year to year until fully paid. Welch was to participate in the total net profits and losses of the business "from June 15, 1945, to June 15, 1950." The agreement established the yearly compensation for each of the three partners (Percy, $8,400; Grover, $7,200; Welsh, $5,400). This compensation was to be charged as a job expense and deducted in arriving at net income. The expressed intention, as stated in the agreement, was that the agreement was "not entered into because of the necessity of financial need but with the thought and intent of adding greater interest which will increase the prestige and success of the business," and in addition some financial compensation to Welsh. At the time this agreement was prepared Welsh was employed by the Baltimore County Metropolitan District as superintendent of outside field work. The following journal entries were used to give full effect to the June 15, 1945, agreement: Due from G. W. Walsh, Jr. $10,000.00P. G. Ligon, personal a/c$ 5,300.00G. C. Ligon, personal a/c4,700.00(To set up amount due for purchase of 10% inter-est in firm)P. G. Ligon, capital a/c5,300.00G. C. Ligon, capital a/c4,700.00George W. Walsh Jr., capital a/c10,000.00(To set up amount of capital transferred to G.W. Walsh, Jr.)Good-Will76,998.67P. G. Ligon, personal a/c40,819.30G. C. Ligon, personal a/c36,179.37(To set up good-will represented by the differencebetween depreciated value of fixed assets($23,001.33 and $100,000.00)P. G. Ligon, personal a/c10,600.00G. C. Ligon, personal a/c9,400.00P. G. Ligon, capital a/c10,600.00G. C. Ligon, capital a/c9,400.00(To transfer to capital account amount necessaryto increase to pro-rata share of $100,000.00stated capital)26 By letter dated July 24, 1946, Welsh notified Percy and Grover that he was dissolving the 1945 partnership. In his letter Welsh related how he was dissatisfied with his reduced drawing account (from $5,400 a year to $3,600), and how he was in disagreement with the business accounting, and the stated assets of the partnership. On July 31, 1946, the credit balance in Welsh's capital account was $4,601.54 and the $10,000 account receivable from Welsh was unpaid. In November 1946 Welsh filed a bill of complaint in the Circuit Court of Baltimore City against Percy and Grover. Welsh's complaint prayed that the 1945 partnership be declared legally dissolved and that a receiver be appointed to liquidate and distribute the remaining assets. Three years later Percy and Grover settled Welsh's suit and in return for his release of all claims against them, they paid him $2,800. A check dated November 8, 1949, for $2,800, payable to Welsh, was drawn by Grover for Ligon & Ligon, Inc. 1 Ligon & Ligon, Inc., was reimbursed by a check drawn by Grover for the 1949 partnership. 227 The 1949 partnership charged this $2,800 to contract cost and reduced 1949 gross receipts by that amount. The partnership also deducted as a bad debt the amount of $5,398.46, which represented the difference between the account receivable from Welsh of $10,000 and the balance in Welsh's capital account of $4,601.54. The payment of $2,800 to Welsh as a compromise in settlement of a lawsuit was an ordinary and necessary business expense for Percy and Grover in 1949, and each of the partners is entitled to half of the deduction. Opinion The first issue we shall consider is whether respondent properly disallowed a bad debt deduction of $5,398.46 for the 1949 partnership. Respondent contended that Welsh was not indebted to the 1949 partnership or to its inividual partners, Percy and Grover. On the other hand, petitioners maintain that the difference between Welsh's account receivable and Welsh's capital account was a bad debt which was deductible in 1949. Under section 23(k)(1) of the 1939 Code, a debt which becomes worthless within the taxable year shall be allowed as a deduction. The requirements of this section are that there must be a debt and that a debt must be shown to28 be worthless within the taxable year. We think that petitioners have failed to prove compliance with either one of the two requirements of section 23(k)(1), and therefore are not entitled to the claimed deduction. Welsh was not unconditionally obligated to pay Percy and Grover the $10,000. We say this, notwithstanding the bookkeeping entries, for the entries in the books do not create debts or obligations. Welsh was only conditionally obligated to pay Percy and Grover the $10,000 if the business was operated at a profit. Even then Welsh's obligation was limited to 10 per cent of the profit for a period of five years. If the 1945 partnership operated at a loss, under the agreement Welsh paid no part of the $10,000. The most that can be said regarding the $10,000 was that Welsh was entitled to certain profits of the 1945 partnership, less $10,000. On the record we can not find that there was an unconditional debt within the meaning of section 23(k)(1). None of the principals of the alleged bad debt transaction testified at the hearing. Nor do we find in the record the note or other evidence of the indebtedness. If under the agreement there was no obligation to pay the $10,000, 29 there was no obligation to pay part of it as the petitioners now contend. Continuing with the second requirement for a claimed bad debt deduction, even if we assume for the sake of argument that there was a bona fide debt, there is no proof that the debt was worthless in 1949. We do not know whether Percy and Grover made any effort to collect the money or any part of it. None of the three principals testified at the hearing, nor do we know whether Welsh could have paid the money if an attempt had been made to collect it. Petitioners have not met the requirements of section 23(k)(1). At the risk of overworking the first issue we point out that the alleged bad debt represents the money Percy and Grover paid Welsh, either as yearly compensation or as a drawing account. No evidence in the record shows that Welsh was obligated to reimburse the 1945 partnership for his yearly compensation. Petitioners' position is similar to an employer, who, after discharging an employee, seeks to recover the salary paid to the employee during the period of employment. On the first issue respondent must be sustained in the disallowance of the claimed 1949 bad debt. Next, we must determine whether30 the compromise payment of $2,800 was a proper reduction of the 1949 partnership gross receipts. At the outset there is no reason in this case to deny the deduction because the allowance would frustrate a clearly defined public policy, . Nor does the rule respecting penalties, deductions of which are disallowed because the allowance would mitigate the punishment, enter this case. . With certain exceptions, the net income of a partnership should be computed in the same manner and on the same basis as the income of an individual, section 183, 1939 Code, and individuals carrying on business in partnership shall be liable for income tax only in their individual capacity, section 181, 1939 Code. There is no doubt that the litigation and the subsequent settlement grew directly out of business dealings between the former partners. The settlement was directly connected with and proximately resulted from the business activities of the partners. The settlement was directly connected with and proximately resulted from the business activities of the partners. These31 facts bring the case within the rule of the Supreme Court in Kornh1user v. , and the many cases following it. In the Kornhauser case attorney fees paid in defense of a suit for an accounting were held deductible from gross income as ordinary and necessary business expenses. Though the Kornhauser case embraced only legal fees, in , the Board held that "the reasoning employed [in the Kornhauser case] applies equally to the compromise payment made to settle the law suit." See also . Our holding that the settlement was an ordinary and necessary business expense for Percy and Grover, each being entitled to half, does not imply that the settlement was an ordinary and necessary business expense of the 1949 partnership. This expense was an individual expense of Percy and Grover and as such each is entitled to half. Decisions will be entered under Rule 50. Footnotes. G. W. Walsh, Jr., is the same person as George W. Welsh, Jr.↩1. The record is not informative as to how, why, and when Ligon & Ligon, Inc., was formed. ↩2. The check was dated November 30, 1948, but it was endorsed by the payor bank on December 1, 1949.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623691/	NORMA J. RITCHIE, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, RespondentRitchie v. CommissionerDocket No. 6283-78.United States Tax CourtT.C. Memo 1979-492; 1979 Tax Ct. Memo LEXIS 36; 39 T.C.M. (CCH) 664; T.C.M. (RIA) 79492; December 6, 1979, Filed 36 Both former spouses claimed entitlement to the exemption deductions with respect to their children. Petitioner was the custodial parent. Held: Petitioner has shown by a clear preponderance of the evidence that she provided more for the support of the children than did her former husband. Held further: Petitioner is entitled to the exemption deduction in issue. Sec. 152(e), I.R.C. 1954. Homer R. Miller, for the petitioner. Joyce H. Errecart, for the respondent. STERRETTMEMORANDUM FINDINGS OF FACT AND OPINION STERRETT, Judge: By letter dated March 31, 1978, respondent determined a deficiency in petitioner's income taxes paid for her taxable year ended December 31, 1974 in the amount of $418.72. The only issue herein is whether petitioner is entitled to certain dependency exemption deductions. FINDINGS OF FACT Some of the facts have been38 stipulated and are so found. The stipulation of facts and exhibits attached thereto are incorporated herein by this reference. At the time she filed her petition herein petitioner Norma J. Ritchie resided in Adelphi, Maryland. Petitioner filed her cash basis individual Federal income tax return for her taxable year 1974 with the Philadelphia Service Center of the Internal Revenue Service. Petitioner was formerly married to Willard T. Ritchie (Willard). Three children were born of the marriage: Deborah, born November 16, 1956; Patricia, born 1958; Kathleen, born 1964. On June 29, 1971 petitioner and Willard executed a separation agreement. This agreement provided in relevant part as follows: 2. The Husband agrees to pay to the Wife, for the support and maintenance of the minor Children, the sum of One Hundred, Twenty-Five and no/100's ($125.00) Dollars per week. As each Child attains her majority, marries, becomes self-supporting, or is otherwise emancipated, or upon the death of the Husband, whichever shall first occur in point of time, the obligation of the Husband for support payments for that particular Child shall cease, and in this regard, the total weekly payment39 to be made on account of support and maintenance shall be decreased by Forty-One and Thirty-Three/100's ($41.33) Dollars per week as each Child attains her majority/or is otherwise emancipated. The Husband shall be entitled to claim all Children as dependents for tax purposes. Paragraph 16 of the separation agreement provided that the agreement could be merged into any later decree of divorce on the option of either party. On September 29, 1971 petitioner filed a petition in the Montgomery County Circuit Court claiming that Willard was in arrears in his payments under their agreement. On February 14, 1972 the circuit court ordered Willard to pay child support of $125 per week plus certain arrearages. On November 30, 1972 the circuit court issued an order reducing petitioner's total weekly child support obligation to $82.50. On June 1, 1973 the circuit court entered a Decree of Divorce. This Decree ordered that Willard pay $82.50 per week to petitioner for the support of the parties' children "pursuant to the order of this Court dated November 30, 1972." Neither party every exercised his option to merge their separation agreement into this Decree. Prior to their divorce petitioner40 and Willard owned a home located on Adelphi Road in Adelphi, Maryland (hereinafter the Adelphi road house). The fair rental value of this house, unfurnished, was $4,050 per year during 1974. Paragraph 4 of the couple's separation agreement provided as follows with respect to this house. 4. * * * the Wife shall have exclusive right of possession in and to this real property, and agrees hereby to be responsible for all payments on this property, as they become due, including, but not limited to, house payments, and sums due for utilities, upkeep and maintenance. The Husband and Wife will share equally in the annual payment of real estate taxes as they become due. At such time as the Wife wishes to place the house for sale, she may do so. However, the house shall be sold at such time as the Wife remarries or when the youngest child is emancipated, whichever shall first occur, s set forth in Paragraph 2 above. The Wife shall be solely responsible for repairs and improvements. Willard provided cash child support payments in the amounts of $3,367.50 in 1972 and $4,221.54 in 1973. During 1972 and 1973 petitioner and the couple's three children resided in the Adelphi Road house. 41 In 1974 Willard provided cash child support payments pursuant to the Decree of Divorce consisting of 51 payment of $82.50 each or $4,207.50. In total Willard provided $4,399.50 for the support of his children in 1974 or $1,466.50 for each of his three daughters. In 1974 petitioner spent $3,105.50 in general expenses for each daughter for a total of $9,316.50: 1974 Expenditures per childAmontFood $ 500.00Utilities300.00Clothes300.00Drugs50.00Recreation175.00Car maintenance14.00Car and house insurance70.00Books and magazines4.00Car payments130.00Doctors250.00Car operation180.00Dry cleaning6.00Veterinarian14.00Birthday and Christmas100.00Fair rental value of Adelphi Road House1,012.50$3,105.50In addition petitioner spent the following amounts which were specifically allocable to the daughters shown: Deborah $1,500, Kathleen $150, and Patricia $140. In 1974 all three girls were in the custody of petitioner and resided at the Adelphi Road house. At various times one or more of the girls were employed in part-time jobs. Patricia and Deborah each earned $320 in 1974. In 1975 Patricia earned $32042 and Debora earned $884. All the children received at least half their support from their parents during the taxable year in issue. OPINION The only issue for our decision herein is whether petitioner is entitled to any or all of the dependency exemption deductions for her three daughters for the taxable year in issue. At all relevant times section 151 provided as follows: SEC. 151. ALLOWANCE OF DEDUCTIONS FOR PERSONAL EXEMPTIONS. (a) Allowance of Deductions.--In the case of an individual, the exemptions provided by this section shall be allowed as deductions in computing taxable income. * * (e) Additional Exemption for Dependents.-- (1) In General.--An exemption of $750 for each dependent (as defined in Section 152)-- * (B) who is a child of the taxpayer and who (i) has not attained the age of 19 at the close of the calendar year in which the taxable year of the taxpayer begins, or (ii) is a student. At all relevant times section 152 provided as follows: SEC. 151. DEPENDENT DEFINED. (a) General Definition.--For purposes of this subtitle, the term "dependent" means any of the following individuals over half of whose support, for the calendar43 year in which the taxable year of the taxpayer begins, was received from the taxapayer (or is treated under subsection (c) or (e) as received from the taxpayer): (1) A son or daughter of the taxpayer * * , * * (e) Support Test in Case of Child of Divorced Parents, Et Cetera.-- (1) General Rule.--If-- (A) a child (as defined in section 151(e)(3)) receives over half of his support during the calendar year from his parents who are divorced * * * and (B) such hild is in the custody of one or both of his parents for more than one-half of the calendar year, such child shall be treated, for purposes of subsection (a), as ireceiving over half of his support during the calendar year from the parent having custody for a greater portion of the calendar year unless he is treated, under the provisions of paragraph (2), as having received over half of his support for such year from the other parent * * . (2) Special Rule.--The child of parents described in paragraph (1) shall be treated as having received over half of his support during the calendar year from the parent not having custody if-- (A)(i) the decree of divorce or of separate maintenance, or a written agreement between44 the parents applicable to the taxable year beginning in such calendar year, provides that the parent not having custody shall be entitled to any deduction allowable under section 151 for such child, and (ii) such parent not having custody provides at least $600 for the support of such child during the calendar year, or (B)(i) the parent not having custody provides $1,200 or more for the support of such child (or if there is more than one such child, $1,200 or more for all of such children) for the calendar year, and (ii) the parent having custody of such child does not clearly establish that he provided more for the support of such child during the calendar year than the parent not having custody. For purposes of this paragraph, amounts expended for the support of a child or children shall be treated as received from the parent not having custody to the extent that such parent provided amounts for such support. Clearly the special rules of section 152(e)(2)(A) and (B) require that we hold against petitioner, as the custodial parent, unless petitioner can show that the separation agreement does not apply to provide the deduction to Willard, and unless she can show by a clear45 preponderance of the evidence that she provide more for the support of each of her daughters than did Willard. On brief petitioner appears to argue three points: (1) that the terms of paragraph 2 of the property settlement agreement should not apply to grant Willard the exemption in issue, (2) that she has clearly established that she supplied more for the support of each child than did Willard in 1974 within the meaning of section 152(e)(2)(B) so that the general rule of section 152(e)(1) should apply, and (3) that portion of Willard's payments for 1974 should be allocated to his arrearages for 1972 and 1973 and, therefore, should not be counted as support payments for 1974. Respondent, who acted as a stakeholder as between petitioner and Willard (whose case has also been decided this day), argues primarily that petitioner has decided this day), argues primarily that petitioner has carried her burden and should be allowed the exemptions. In the alternative respondent argues that we should find against petitioner if we find for Willard on his section 152(e)(2)(B) claim. 1Given respondent's primary position, 46 we do not interpret him to seriously argue that the separation agreement should apply to deny petitioner the exemptions at issue. We therefore, need not reach that issue. As we believe petitioner has clearly established that she provided more for the support of each of her children in 1974 than did Willard, we also do not reach petitioner's default claim. But see section 1.152-1(a)(2)(iii), Income Tax Regs.We have found that Willard provided in excess of $1,200 support per child during the taxable year in issue. We believe, however, that a clear preponderance of evidence indicates that petitioner spent more for the support of each child than did Willard during the taxable year before us. Applying principles analogous to those stated in Cohan v. Commissioner, 39 F.2d 540">39 F.2d 540, 544 (2nd Cir. 1933), we have allowed some of petitioner's claimed support expenses in full and have allowed others only partially or not at all. In determining the total amount of support provided by Willard to his children, we have taken into account only such money orders as were actually mailed during the taxable year plus any such cash payments that Willard was able to show. Thus, for47 example, some money orders were dated in 1974 but were not mailed until 1975. The fact that Willard may have been obligated to pay an amount in 1974 for his children's support does not automatically require that that amount be included as a support payment in that year. Rather the test is the year in which the support was actually received from the taxpayer. Seraydar v. Commissioner, 50 T.C. 756">50 T.C. 756, 761 (1968). Clearly, Willard could not have provided an amount for the support of his children, and his children could not have received any amount from his for their support, until he actually imailed or otherwise paid the amount. 2 Of course, to the extent Willard actually paid amounts for his children's support, each payment is deemed made for each child's benefit equally, absent some evidence to the contrary. Kotlowski v. Commissioner, 10 T.C. 533">10 T.C. 533, 536 (1948). 48 We concluded that in 1974 petitioner spent $4,605.50 for Deborah's support, $3,255.50 for Kathleen's support, and $3,245.50 for Patricia's support. These amounts must be treated as received from Willard to the extent that he provided support for each child. Section 152(e)(2), section 1.152-4(d)(4), Income Tax Regs. Thus in 1974 each parent is deemed to have provided the following amounts for support: 1974PetitionerWillardDeborah$3,139$1,466.50Kathleen1,7891,466.50Patricia1,7791,466.50Petitioner has clearly established that she provided more support to each of the couple's children in her taxable year 1974 than did Willard. We have already found that the children's parents provided more than one half their children's support during the taxable year in issue. Since the special rules of section 152(e)(2) do not apply and as petitioner is the custodial parent, she is entitled to the exemption deductions. Section 152(e)(1). Decision will be entered for Petitioner. Footnotes1. See Ritchie v. Commissioner, T.C. Memo 1979-493">T.C. Memo 1979-493↩.2. We note that the parties hereto incorrectly stipulated that "petitioner received 49 money orders" in 1974. They also stipulated that "petitioner received 53 money orders" in 1975. At the same time, both parties agreed that all the evidence introduced in Willard's case should be deemed introduced in this case. The evidence in Willard's case clearly shows that he mailed, and petitioner received, 51 money orders in 1974. We are at a loss to understand this discrepancy. We note, however, that all concessions, including stipulated settlement agreements are subject to the Court's discretionary review. McGowan v. Commissioner, 67 T.C. 599">67 T.C. 599, 607↩ (1976). When the parties have stipulated to facts which are mutually exclusive, the Court's duty to find the facts accurately becomes all the more important. We also note that the taxable year 1975 is not before us herein.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623692/	ESTATE OF HOMER O. ENGLISH, DECEASED, DONALD E. CHAPIN, PERSONAL REPRESENTATIVE, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, RespondentEstate of English v. CommissionerDocket No. 12178-83.United States Tax CourtT.C. Memo 1985-549; 1985 Tax Ct. Memo LEXIS 84; 50 T.C.M. (CCH) 1362; T.C.M. (RIA) 85549; October 31, 1985. John N. McNamara, Jr. and Linda J. Whitaker, for the petitioner. Mark H. Howard, for the respondent. SWIFTMEMORANDUM FINDINGS OF FACT AND OPINION SWIFT, Judge: In a statutory notice dated February 22, 1983, respondent determined a deficiency of $260,293 in petitioner's Federal estate tax liability. Following concessions by the parties, the issues remaining for decision pertain to the fair market value of various parcels of real estate located near Casper, Wyoming, on June 15, 1979, the date of decedent's death. FINDINGS OF FACT Some of86 the facts have been stipulated and are found accordingly. The decedent, Homer O. English, died on June 15, 1979, a resident of Casper, Wyoming. A Federal estate tax return was filed on behalf of the estate with the Internal Revenue Service on February 22, 1980. Amended Federal estate tax returns were filed on April 16, 1980, and April 18, 1980. For a number of years before his death, decedent experienced very poor health. He had suffered two heart attacks and had lost his speech by May of 1979. The cause of his death was a third heart attack. Throughout his life, decedent was engaged in real estate investment and development. In 1949, decedent acquired 160 acres of property located near Casper, Wyoming. This property was known as the Wyoming Industrial Park. Decedent commenced development of the property in the early 1950's. The property was first platted in the early 1960's, and the present replatting was done in 1976. For purposes of discussing that portion of the Wyoming Industrial Park property that still was owned by decedent at or near and time of his death, that property can be divided into two types of property. The first type consisted of 30 separate lots87 into which a large portion of the Wyoming Industrial Park property had been subdivided. The second type consisted of a single 39.5-acre tract of land that had not been subdivided as of decedent's death. We will first discuss the 30 subdivided lots, followed by a discussion of the 39.5-acre tract. 30 Subdivided LotsIn early 1969 decedent owned 30 subdivided lots in the Wyoming Industrial Park. As of 1979, the subdivided lots provided access to all utilities (including sewer, water, and electricity). Gravel streets were constructed and in use throughout the subdivided lots. An improvement district was established in the area in 1980, and in that year the streets were paved, and curbs, gutters, and storm sewers were installed. From 1964 through 1973, the annual sales of subdivided lots averaged approximately 506,000 square feet per year, but fell to only 180,000 square feet per year from 1974 through 1979. By 1979, nearly 60 percent of the subdivided lots, including many of the more desirable ones, had been sold. Because of the easy access to U.S. Highways 20 and 26, via Rancho Road, the subdivided lots in the Wyoming Industrial Park that front on Rancho Road typically88 were leased or purchased as property on which commercial retail businesses such as gas stations and restaurants would be located. Light industrial businesses such as warehousing companies and wholesale distributors tended to locate on the lots not fronting on Rancho Road. On May 22, 1979, decedent entered into a contract to sell 25 of the subdivided lots to his son and daughter.The purchase price stated in the sales contract was $1,204,903, which was calculated on the basis of a total square footage for the property of 803,269 square feet at $1.50 per square foot. 1 Under the sales contract between decedent and his son and daughter, no cash down payment was required. The entire purchase price of $1,204.903 was reflected in a note signed by decedent's son and daughter under which the $1,204,903 was to be paid in 10 annual installments commencing one year later, i.e. on May 22, 1980. Interest at six percent per year was to accrue on the unpaid principal. Each of the first nine payments on the note were to be in the amount of $105,049 (including interest), and the last payment was to be in an amount necessary to pay off the principal and interest then due on the note. The 25 lots89 were zoned for development as light industrial or low-class commercial property. On May 25, 1979, three days after the sale of the 25 lots to his son and daughter, decedent conveyed as gifts to his son and daughter four of the five remaining subdivided lots in the Wyoming Industrial Park which he still owned. The four lots given to his children were unimproved, and were similar in all respects to the other 25 subdivided lots previously described. They also were zoned for development as light industrial or low-class commercial property and had the same improvements and access to utilities as the 25 subdivided lots. The last of the 30 subdivided lots at issue in this case was neither sold nor given to decedent's children but was owned by decedent at the time of his death. That lot was Lot 10A, Block 7, of the Wyoming Industrial Park, a small triangular shaped parcel upon which a small, old90 log cabin was located. The parcel borders a highway and proposed streets on two sides. All public utilities were available to this site, but due to its small size (2,726 square feet), development of the lot by itself was unlikely. 39.5-Acre TractThe 39.5-acre tract of land in the Wyoming Industrial Park consisted of a single parcel of raw, unimproved land located adjacent to the subdivided lots in the Wyoming Industrial Park. The 39.5 acres were not subdivided, although the property had been surveyed and platted for subdivision approval.The terrain was sloped only slightly and had a heavy cover of dust on the surface of the property. The entire 39.5 acres had excellent potential access to two major highways. The parties agree that the highest and best use of the 39.5-acre tract in 1979 was simply to hold it in its unimproved condition as an investment until further development had occurred of the subdivided lots in the Wyoming Industrial Park and of other properties in the vicinity. OPINION The valuation issues involved herein arise under the provisions of sections 2033, 2035, and 2043. 291 Section 2033 provides that the gross estate shall include the value of all property to the extent of a decedent's interest therein at the time of his death. Under that provision, the value of decedent's interests in the subdivided lots and in the 39.5-acre tract that were owned by decedent at the time of his death are included in decedent's gross estate. Also under section 2033, the fair market value of the $1,204,903 note that was received by decedent from his son and daughter (with respect to the sale of the 25 lots) must be included in this gross estate. As in effect for 1979, section 2035(a) generally required that the fair market value of property transferred by a decedent within three years of his death be included in decedent's gross estate. Pursuant to that section, the four lots that decedent conveyed as a gift to his two children on May 25, 1979, must be included in decedent's gross estate. 92 Under section 2035(b)(1), an exception to the general rule of section 2035(a) is provided and property transferred within three years of death will not be included in decedent's gross estate if the transfer was a "bona fide sale for an adequate and full consideration in money or money's worth." That provision ordinarily would require an analysis of whether the sale of the 25 lots by decedent to his children was (1) bona fide and (2) for an adequate and full consideration. Sec. 20.2043-1(a), Estate Tax Regs. 3 Although we have substantial doubts as to whether the sale was at arm's length and bona fide, we do not need to address that issue in light of our conclusion (discussed further herein) that the fair market value of the 25 lots exceeded by a significant amount the fair market value (at the date of decedent's death) of the $1,204,903 note (namely $639,000 4). That finding establishes that decedent's son and daughter did not pay an adequate and full consideration for the 25 lots and that the difference between the fair market value of the 25 acres and $639,000, the value of the note, must be included in decedent's gross estate.93 Therefore, the issue in this case with regard to the 25 lots sold to decedent's children on May 22, 1979, boils down simply to a determination of the fair market value of the 25 lots and to a mathematical calculation of the difference between that value and the $639,000 value of the note, which calculation the parties can make as part of the computation under Rule 155, Tax Court Rules of Practice and Procedure.94 In summary, we must decide herein the fair market value of (1) the 25 lots decedent sold to his children on May 22, 1979; (2) the four lots decedent conveyed to his children by gift on May 25, 1979; and (3) the one lot and the 39.5-acre tract which decedent still owned on the date of his death. For purposes of these valuation issues, the parties agree that June 15, 1979, the date of death, may be used as the relevant valuation date for each of the properties to be valued. We now proceed to discuss the relevant legal criteria for the valuation of property and the respective contentions of the parties before explaining our conclusions as to the value of the properties in question. The fair market value of property is defined as the price at which property would change hands between a willing buyer and a willing seller, neither being under any compulsion to buy or sell and both having reasonable knowledge of the relevant facts. Sec. 20.2031-1(b), Estate Tax Regs., United States v. Cartwright,411 U.S. 546">411 U.S. 546, 551 (1973). 95 In determining fair market value, we are bound to consider all of the relevant facts and testimony. Anderson v. Commissioner,250 F.2d 242">250 F.2d 242, 249 (5th Cir. 1957), affg. a Memorandum Opinion of the Court; see also Philadelphia Steel & Iron Corp. v. Commissioner,T.C. Memo. 1964-93, affd. per. curiam 344 F.2d 964">344 F.2d 964 (3d Cir. 1965). The testimony of expert witnesses is not to be accepted as gospel, but is to be evaluated in light of the entire record in a case. Akers v. Commissioner,T.C. Memo. 1984-208847 T.C.M. (CCH) 1621">47 T.C.M. 1621, 1632, 53 P-H Memo T.C. par. 84,208 at 84-788. As we have observed in the past, the valuation of property is an inexact science at best, and if not settled by the parties is capable of resolution by the courts only through "Solomon-like" pronouncements. Buffalo Tool & Die Mfg. Co. v. Commissioner,74 T.C. 441">74 T.C. 441, 452 (1980); Messing v. Commissioner,48 T.C. 502">48 T.C. 502, 512 (1967). The parties agree that the four lots within the Wyoming Industrial Park that decedent conveyed by gift to his children had the same value per square foot as the 25 lots decedent sold to his children. 96 Therefore, we will consider those four lots together with the 25 lots. Although employing slightly different terminology and differing as to the appropriate figures to be used, petitioner's and respondent's expert witnesses used the same three steps to arrive at their respective fair market values of the 29 subdivided lots. First, they determined an average sales price per square foot for the lots (based on comparable sales in the area in 1979) and multiplied the average sales price per square foot by the actual square footage of the lots to arrive at a total projected sales price. Second, they determined the number of years (referred to as the "absorption period") that, in their opinion, it would take to sell all of the lots and divided the total projected sales price by the number of years in the absorption period, thereby producing a projected average annual cash flow from hypothetical future sales of the lots. Third, to compute the value, as of decedent's death, of the projected annual cash flow they discounted that projected cash flow using what they determined was a market discount rate (namely, the rate of return that in their opinions would have been necessary to attract97 hypothetical investors to these particular investments). The figure resulting from these three steps produced for each expert his estimate of the fair market value of the lots as of June 15, 1979. With respect to the first step, petitioner's expert contends, based upon his study of comparable sales in the area, that the appropriate sales price for the 29 lots would have been $1.50 per square foot. Respondent's expert contends that $1.81 per square foot would have been the appropriate sales price, based upon his study of comparable sales. The estimated sales price of petitioner's expert of $1.50 per square foot reflects a downward adjustment of 10 percent to allow for a real estate commission which necessarily would be incurred in selling the lots. Although respondent's expert acknowledged that real estate commissions of 10 percent were customarily incurred on the sale of land in the Casper area in 1979, his figure of $1.81 per square foot did not reflect such a commission. It seems to us that in making a present value calculation of a future cash flow, it is appropriate to take into98 account selling expenses to determine the net cash proceeds that are projected to become available from a transaction. See Estate of Piper v. Commissioner,72 T.C. 1062">72 T.C. 1062, 1080-1081 (1979); Allison v. Commissioner,T.C. Memo. 1976-248, 35 T.C.M. (CCH) 1069">35 T.C.M. 1069, 1078, 45 P-H Memo T.C. par. 76,248 at 76-1064. After the above adjustment is made to respondent's figure for the 10-percent real estate commission, the opinions of the two expert witnesses do not differ significantly with respect to the appropriate comparable sales price to be used in step one (namely, $1.50 per square foot according to petitioner's expert, and $1.63 per square foot according to respondent's expert). The difference in the two figures is primarily attributable to the fact that petitioner's expert omitted several of the higher-priced comparables from his study of comparable sales, without adequate explanation for those omissions.We conclude that $1.63 per square foot is the appropriate comparable sales figure to be used for purposes of step one. As explained, the second step requires the selection of the appropriate absorption period (namely, the time required to sell all of the 2999 separate lots at a fair market price).Petitioner's expert asserts that it would take 10 years. Respondent's expert asserts that it would take five years. Respondent's expert focuses almost exclusively on the frequency of lot sales made in the Wyoming Industrial Park over the entire 15-year period from 1964 to 1979. Although that sales record certainly should be accorded significant weight, there are other important factors to consider. By 1979, there were several other major industrial park subdivisions that had either just entered the market in Casper or were preparing to open within several years. They included Teton Terrace, Landmark Industrial Park, and Westgate Park IV, all of which were located in close proximity to the Wyoming Industrial Park. Many of the best lots in the Wyoming Industrial Park had been sold before 1979. In addition, the local Casper economy had entered a slight recession by 1979 which slowed the sales of real estate. By 1979, the rate of lot sales in the Wyoming Industrial Park already had fallen off from approximately 506,000 square feet per year during the period 1964 to 1973, to approximately 180,000 square feet per year during the period 1974 to100 1979. We adopt 10 years as the proper absorption period. 5The third step in the determination of the fair market value of the 29 lots on the date of decedent's death is the selection of the appropriate market discount rate. The discount rate, as used herein, refers to the annual percentage rate of return hypothetical investors would require on their investments in order to attract them to purchase the 29 lots in lieu of other available investments.The rate of return is used to discount the expected cash flow arising from future sale of the lots over the 10-year absorption period, in order to calculate the amount that hypothetical investors would be willing to pay for the 29 lots on the valuation date. The two expert witnesses herein used different methods in order to arrive at the appropriate discount rate, both of which apparently101 are accepted procedures within the real estate appraisal profession. Petitioner's expert used the so-called "build-up" method. Under this method, a "safe rate" is first selected, based upon the interest rate paid on government obligations such as a short-term Treasury bill. Petitioner's expert referred to the fact that an investor could have purchased a 182-day Treasury bill on June 25, 1979, which would have produced a yield of 9.4 percent. To that safe rate, various increments are added to compensate the investor for additional disadvantages of the proposed investment versus a safe investment such as a Treasury bill. In this case, petitioner's expert added approximately four percent to compensate the hypothetical investors for the additional risk and nonliquidity associated with the ownership of land. Petitioner's expert therefore concluded that 13.5 percent would be the appropriate discount rate. In his written report, petitioner's expert noted that "overall capitalization rates for properties similar to those contained in the English Estate are 12.0% to 13.5%." Petitioner's expert also asserts that the prime interest rate in June of 1979 was approximately 11.5 percent, and102 that since real estate investors often borrow money to finance their investments, such investors would expect a rate of return higher than the interest rate they would have been required to pay to finance the investments. Respondent's expert used the so-called "extraction method" in arriving at a discount rate of 9 percent. He extracted or calculated that rate based on rates actually being realized on properties in the Casper area in 1979. The properties he used in his calculations of the nine-percent rate, however, were certain improved properties (principally, the lots on which the Texaco service station and the bar were located). We cannot agree that those two improved commercial properties were sufficiently comparable to the 29 unimproved lots. Having considered carefully the testimony and reports of the experts, we conclude that 12 percent is the appropriate discount rate to be used with respect to the 29 lots. The fair market value of the 29 lots on June 15, 1979, can now be calculated as follows. Utilizing the same methodology employed by the expert witnesses herein, but substituting the Court's conclusions with respect to the appropriate price per square foot ($1.63), 103 absorption period (10 years), and discount rate (12 percent per annum), our calculation is as follows: Square footage sales price ($1.63) times total square feet in 29 lots (941,700) equals total sales price ($1,534,971). Using a 10-year absorption period, the projected sales proceeds would be $153,497 annually for 10 years. Utilizing annuity tables and a discount rate of 12 percent, the present value of $1 paid annually for 10 years is 5.650 times the annual payment, or .5650 times the entire principal amount to be paid out over the 10-year period 6 (.5650 times $1,534,971 equals $867,258.62). Rounding the result, we conclude that the fair market value of the 29 lots was $867,300 on June 15, 1979. The next issue for consideration is the fair market value of lot 10A, Block 7. Petitioner's expert contends that the value of that parcel was $2,200 as of the date of decedent's death. Respondent's expert contends the value thereof was $5,000. Both expert witnesses agree that because104 of its small size (only 2,726 square feet) and irregular shape, the only value this property had was in connection with the development of one of the adjoining lots. The expert witnesses also agree that the small log cabin located on the lot was of little or no value. Because the lot fronts on a highway and two streets, there appears to be only one adjoining landowner who might be interested in purchasing it. Given such a limited market, the potential purchaser would likely be able to obtain the small lot at a bargain price. Based on the foregoing facts, we conclude that the value of this parcel was $4,000 on June 15, 1979. The last issue for consideration is the fair market value of the 39.5-acre tract of unimproved land located adjacent to the Wyoming Industrial Park. Petitioner's expert witness asserts that the 39.5-acre tract had a fair market value of $12,000 per acre as of June 15, 1979, for a total value of $474,000. Respondent's expert contends that the value was $17,000 per acre, for a total value of $671,500. A point which supports the value suggested by respondent's expert is the fact that petitioner (through its authorized agents) reported a value of $760,000105 with respect to this tract on both the original and the amended Federal estate tax returns filed with the Internal Revenue Service. Those statements may properly be considered by the Court as admissions against interest, and we accord them some weight. McShain v. Commissioner,71 T.C. 998">71 T.C. 998, 1010 (1979). Another factor that favors respondent's value is the fact that the 39.5-acre tract was located closer to the central business district of Casper, Wyoming, than the comparable properties examined by each expert witness (namely, approximately one mile versus two to five miles in the case of the closest comparables). Although petitioner's expert admitted on cross examination that the closer proximity of the subject tract to the central business district would make the land more valuable than the comparables he studied, he made no allowance for that factor in his calculations. Respondent's expert took that factor into account, along with the differences in size between the comparables and the subject property. 7106 Petitioner makes a number of objections to respondent's expert's calculations regarding comparables, such as that he did not discount promissory notes received in several non-cash sales to reflect present values, that he considered an option as a comparable even though the option was not in fact exercised, and that he added the cost of demolishing a useless building to the actual sales price of one comparable. Although we agree with petitioner that respondent's expert's report does contain some errors, we believe that the problems pointed out are comparatively minor and that the greater weight of the evidence favors the value forwarded by respondent's expert. The sale which both experts agree is "highly comparable" to the 39.5-acre tract in terms of geographic location, terrain, appropriate use of the land, and proximity in time, is a cash sale which occurred in October of 1978, at a price of $15,345 per acre. We agree with the expert's opinions herein that the other so-called comparables differ significantly from the subject property in one respect or another, and we believe that some upward adjustment should be made to reflect that the 39.5 acre tract had a slightly better location107 and access to utilities. Also, a slight downward adjustment should be made because the 39.5-acre tract is larger than the comparable (39.5 acres versus approximately 11.7 acres). We conclude, based on the foregoing factors and all of the evidence in the record, that the subject 39.5-acre tract of undeveloped land had a value of $16,000 per acre as of the date of decedent's death, for a total value of $632,000. In summary, we make the following conclusions with respect to the fair market value of the land at issue herein, as of June 15, 1979: Fair Market Value8 on June 15, 1979 29 Subdivided Lots$867,300Lot 10A, Block 74,00039.5-Acre Tract632,000Accordingly, Decision will be entered under Rule 155.Footnotes1. The parties herein agree that the actual square footage of the 25 lots was 853,194, an inadvertent error having been made when the contract specified the lesser figure of 803,269 square feet. The $1,204,903 stated purchase price was, however, the intended sales price for all 25 lots.↩2. Unless otherwise indicated, all section references are to the Internal Revenue Code of 1954, as amended and in effect during the year involved.↩3. Section 20.2043-1(a), Estate Tax Regs., provides, in pertinent part, as follows: Section 20.2043-1 Transfers for insufficient consideration--(a) In general. The transfers, trusts, interests, rights or powers enumerated and described in sections 2035 through 2038 and section 2041↩ are not subject to the Federal estate tax if made, created, exercised, or relinquished in a transaction which constituted a bona fide sale for an adequate and full consideration in money or money's worth. To constitute a bona fide sale for an adequate and full consideration in money or money's worth, the transfer must have been made in good faith, and the price must have been an adequate and full equivalent reducible to a money value. If the price was less than such a consideration, only the excess of the fair market value of the property (as of the applicable valuation date) over the price received by the decedent is included in ascertaining the value of his gross estate. 4. The only evidence in this case as to the value of the note indicated a value on the date of death of $639,000, which value we accept.↩5. There is discussion in the briefs herein as to whether the Court may properly consider evidence as to the subsequent (post-1979) sales rate of lots in the Wyoming Industrial Park. We have reached our conclusions herein independently of such evidence. However, we note that the post-1979 sales support the finding of a 10-year absorption period.↩6. See Financial Publishing Company, Financial Compound Interest and Annuity Tables 1797 (6th ed. 1980); David Thorndike, Thorndike's Compound Interest and Annuity Tables, Annual 5-10 (1982).↩7. According to the experts, smaller parcels are generally considered more valuable per acre because they are more affordable to a greater number of investors than are larger parcels.↩8. Our conclusions can be compared with the values for the properties as alleged by the parties at trial as follows: ↩PetitionerRespondent29 Subdivided Lots$751,000$1,324,700Lot 10A, Block 72,2005,00039.5-Acre Tract474,000671,500	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623693/	Isadore P. Klous, transferee of 8-10 White Street Corporation v. Commissioner. Edward A. Stone, transferee of 8-10 White Street Corporation v. Commissioner of Internal Revenue, Respondent.Klous v. CommissionerDocket Nos. 29820 and 29821.United States Tax Court1952 Tax Ct. Memo LEXIS 257; 11 T.C.M. (CCH) 357; T.C.M. (RIA) 52105; April 15, 1952257 Capital gain: Sale of corporate assets. - Following a genuine liquidation of a corporation, the former stockholders (petitioners) sold real estate distributed to them. Held, that the sale and a gain thereon may not be imputed to the corporation. United States v. Cumberland Public Service Co., 338 U.S. 451">338 U.S. 451, and Doyle Hosiery Corporation, 17 T.C. 641">17 T.C. 641, followed. Russell S. Knapp, Esq., for the petitioners. Joseph F. Rogers, Esq., for the respondent. TIETJENSMemorandum Findings of Fact and Opinion TIETJENS, Judge: These consolidated proceedings involve the respondent's determination of an income tax deficiency of $5,475.46 against the 8-10 White Street Corporation for its taxable year 1944 and his determination of258 the liability, in such amount, of each petitioner as transferee of the assets of that corporation. The issue presented is whether respondent erred in determining that a sale of certain real estate was made by the 8-10 White Street Corporation at a profit to it of $21,210.43, instead of by petitioners following a liquidating distribution of the property to them as stockholders of the corporation. An alternative issue presented is whether respondent is estopped from asserting a tax deficiency against the corporation, by his election to assess petitioners with a tax on capital gains from the sale. Certain adjustments made by respondent in his computation of the net income of the 8-10 White Street Corporation are not in issue. With respect to respondent's adjustment of the claimed deduction for compensation of officers of the corporation, the parties have stipulated an allowable deduction of $800 for officers' salaries and effect thereto will be given in the recomputation under Rule 50. A portion of the facts have been stipulated. Findings of Fact The stipulated facts are so found. The petitioners, residents of New York, New York, filed their respective income tax returns for259 1944, with the collector of internal revenue for the third district of New York, on or before March 15, 1945. On their returns each petitioner reported as a gain realized in connection with the property involved herein, a capital gain of $10,790.80, of which $5,395.40 was taken into account in reporting individual income tax due. The 8-10 White Street Corporation was a New York corporation organized on September 30, 1941, with an authorized capital stock of ten shares, and was dissolved on December 29, 1944. The corporation's principal asset was a building located at 8-10 White Street, New York, New York, and its principal business was the rental of that building. Throughout that corporation's existence Klous and Stone each owned five shares of its capital stock, Klous was its president, Stone was its secretary-treasurer and its board of directors consisted of those two men and their wives. Following the adoption of the resolution for liquidation and dissolution of the 8-10 White Street Corporation, notice thereof was filed with respondent on Form 966 as required by section 148 (d), Internal Revenue Code. On March 13, 1945, the 8-10 White Street Corporation260 filed, with the collector of internal revenue for the second district of New York, its income tax return for the stated period of January 1, 1944, to December 7, 1944, reporting thereon a net loss of $1,018.76 for such taxable year. Prior to and during most of 1944, the 8-10 White Street building was leased and occupied by the Stone, Klous & Co., Inc. in connection with its business of processing wool stock. All of the shares of capital stock of that company were owned by Stone and Klous and during the summer and early fall of 1944 they seriously considered changing their company's business from wool processor to wool jobber. Such a change would eliminate the use of the 8-10 White Street building and require only the rental of office space. Legal counsel for Stone and Klous advised a liquidating distribution of the 8-10 White Street Corporation's assets to its stockholders and thereafter a sale of the building by them as the individual owners thereof rather than a sale of the building by the corporation, because of the difference in tax consequences. During the fall of 1944 a real estate agent Muller brought to Stone's attention several offers for the 8-10 White Street building, 261 none of which was acceptable. In the latter part of October or early November, 1944, Stone listed the property with a real estate agent Kohler, but not on behalf of the corporation. In the early part of November 1944 a real estate agent Angevine inspected the building. A few days later Angevine's client Frank Pannizzio inspected the building and although he showed interest in the type of construction he was noncommittal as to any interest in purchasing the building. In the middle of November 1944 Stone instructed his lawyer to proceed with the liquidation and dissolution of the 8-10 White Street Corporation. The corporation's books of account were closed out on December 7, 1944. At a special meeting of all the stockholders of the corporation on December 8, 1944, it was resolved that the corporation be dissolved as of that date and its assets, subject to liabilities, be transferred to the stockholders. All necessary steps to effectuate that resolution were duly carried out. The corporation's deed of conveyance of the 8-10 White Street property to Stone and Klous was duly executed and delivered to them on December 8, 1944. Thereafter the corporation engaged in no further business activities. 262 The deed to Stone and Klous was recorded in the office of the Register of the City of New York on December 19, 1944. The certificate of dissolution of the corporation was duly signed and notarized on December 11, 1944. The application for consent to dissolution on Form 1001 CT was duly signed and notarized on December 19, 1944 and received on December 21, 1944 by the New York State Tax Commission. On December 29, 1944, the Secretary of State of New York issued a Certificate of Dissolution of the 8-10 White Street Corporation. On December 8, 1944, following the above mentioned liquidating distribution, Stone and Klous acting in their individual capacity as owners of the 8-10 White Street property and Pannizzio as a prospective purchaser of such property from those individuals and also counsel for the respective parties, met to negotiate terms of a sale of the property. After several hours of negotiations the parties resolved several disputed matters, as a result of which Stone and Klous agreed to reduce the asked sale price, Pannizzio agreed to purchase the premises subject to the mortgage thereon, and also agreed to pay a prospective assessment on the property for removal of the263 Sixth Avenue El, and Stone and Klous as the sellers agreed to pay the broker's commission. The written contract of sale dated December 8, 1944, signed by Stone, Klous and Pannizzio as the interested parties thereto, provided for a total purchase price of $34,500, to be paid by $5,000 cash on December 8th, $9,100 by taking the property subject to the mortgage and $20,400 cash on the closing of title on December 29, 1944. At the title closing meeting on December 29, 1944, the deed was delivered by and the purchase money paid to Stone and Klous, but $5,000 of the purchase money was escrowed pending the Title Company's receipt of a search from the New York City Department of Housing and Buildings as to any violations of its notices or orders and, if any, the removal of such violations by the sellers. The purchase money from the sale was divided equally between Stone and Klous. They each paid one-half of the broker's commission and their attorney's fee on the sale. Prior to the adoption on December 8, 1944, of the resolution to dissolve the 8-10 White Street Corporation and distribute its assets to its stockholders in complete liquidation, the corporation did not authorize, negotiate264 or enter into any agreement for the sale of its real property. The corporation's distribution in liquidation on December 8, 1944, was genuine. The petitioners acted solely on their own behalf as the individual owners of the 8-10 White Street property in negotiating the contract of sale on December 8, 1944. The petitioners are liable as transferees of the 8-10 White Street Corporation for any income tax deficiency determined against that corporation. Opinion The only question presented is whether the sale of the 8-10 White Street property was made by or on behalf of the corporation as determined by respondent. The record herein establishes and we have found as facts, that the corporation did not authorize, negotiate or make any sale of its property prior to liquidation, that the distribution in liquidation was genuine, and that thereafter petitioners made the sale on their own behalf as the individual owners thereof. Accordingly, the instant case is controlled by Cumberland Public Service Co., 338 U.S. 451">338 U.S. 451, and Dayle Hosiery Corporation, 17 T.C. 641">17 T.C. 641. The respondent erred in imputing the sale in question to the corporation. Decisions will be entered*265 under Rule 50.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623694/	STARK BRICK CO., PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Stark Brick Co. v. CommissionerDocket No. 12582.United States Board of Tax Appeals12 B.T.A. 667; 1928 BTA LEXIS 3492; June 15, 1928, Promulgated 3492 Deductibility of additional salaries and bonus determined. John E. O. Feller, C.P.A., for the petitioner. John F. Greaney, Esq., for the respondent. MILLIKEN 667 This proceeding results from the determination by respondent of deficiencies in income and profits taxes for the years 1920 and 1921, in the respective amounts of $23.38 and $6,585.67. One issue is involved for both years, viz., whether the respondent erred in refusing to allow as deductions from gross income for each year certain amounts for compensation of officers which petitioner claims should properly be allowed. The amounts of such deductions in issue are as follows: 19201921Claimed by petitioner$17,240.00$31,487.71Allowed by respondent11,776.0016,451.59Amounts in issue5,464.0015,036.12FINDINGS OF FACT. Petitioner is a corporation organized in 1909 under the laws of the State of Ohio and is engaged in the manufacture and sale of brick. On December 22, 1919, at a directors' meeting of petitioner, the following resolution was adopted: Meeting called to order by J. B. Fierstos. This being a special meeting all directors were3493 present except J. A. Lippert. The following resolution was introduced by G. A. Marks and seconded by C. A. Pontius: That the board call 668 a special meeting of the stockholders of the company at January 31st, 1920 at the office of the company at 10:00 A.M. for the purpose of acting on a proposed resolution to increase the preferred stock of the company from $10,000.00 to $60,000.00 and for such other business as may properly come before said meeting. Carried. On motion duly made and seconded and carried that E. A. Stewart be employed as General Manager of said company on the following terms: To be paid a yearly salary of $12,000.00. If the company shall earn more than 10% on its common stock over and above all ordinary expenses the manager shall be paid in addition thereto 30% of the amount earned above 10%. On motion duly made and carried the compensation of President was fixed at $600.00 per year; vice-president at $540.00 per year and treasurer at $1100.00 per year; the above salaries to continue until changed. On or about January 3, 1921, at a directors' meeting of petitioner, the following resolution was adopted: The meeting was called to order by President3494 Fierstos. Minutes of the previous meeting were read and approved. On motion by E. A. Stewart and Mrs. E. A. Stewart the following persons were elected for office. J. B. Fierstos, President. Mrs. E. A. Stewart, Vice President. J. A. Lippert, Treasurer. E. A. Stewart, Secretary. On motion duly made and carried the salaries of the above officers were fixed the same as the previous year. On motion made and carried E. A. Stewart was elected as general manager of said company on the following terms: To be paid a yearly salary of $12,000.00. If the company shall earn more than 10% on its common stock over and above all ordinary expenses, the manager shall be paid in addition thereto 30% of the amount earned above 10%. The capital stock outstanding during the taxable years was as follows: 1920, $25,000 common, par $100, and $7,000 preferred; 1921, $25,000 common and $14,900 preferred. Dividends paid during the years 1920 and 1921 were $490 and $744.33, respectively. Gross sales for the year 1920 were $107,920.71 and for the year 1921 were $220,642.13. The salaries and bonus claimed by petitioner as deductions for the years 1920 and 1921 are as follows: Official19201921General manager (E. A. Stewart):Salary$12,000.00$12,000.00Bonus8,187.71President (J. B. Fierstos), salary600.00600.00Plant superintendent (J. B. Fierstos):Salary3,000.003,000.00Bonus6,000.00Vice president (G. A. Marks), salary540.00500.00Treasurer (J. A. Lippert), salary1,100.001,100.00Total17,240.0031,387.713495 669 The books of account of petitioner for the years 1920 and 1921 were kept and maintained on an accrual basis. The salary of the plant superintendent for both the years 1920 and 1921 was included in the labor pay roll and deducted as such in the returns for those years. No bonus was paid or accrued to the general manager for the year 1920 as the earnings of that year did not warrant the same. E. A. Stewart was general manager of petitioner during the year 1920 and 1921, devoting his entire time to the business. Petitioner paid or incurred during the years 1920 and 1921 as a reasonable allowance for salaries or other compensation for services actually rendered the following amount: 1920, $14,240; 1921, $22,387.71. OPINION. MILLIKEN: For the years 1920 and 1921, we have not allowed as a deduction the salary of $3,000 per annum paid to the plant superintendent for the reason that said salary was charged to the labor pay roll and deducted as such in the returns filed by petitioner for the years in question. To allow as a deduction the $3,000 now claimed, would constitute a double deduction. We have also not allowed the bonus claimed of $6,000 for the plant3496 superintendent for the year 1921. The same was not paid during the year. The testimony on this phase of the case was given by the general manager and is as follows: Q. Did you enter into a contract with him (Plant Supt.); did this man have a right or liability to get $6,000 from you? A. Only as I granted to him. Q. Suppose you had not paid it to him, what could Mr. Fierstos have done? A. I do not suppose he could do anything. Q. He could not do anything, if you had not paid it to him, he would just be out? A. Yes, sir; perhaps get his ill will. Q. That is all there would be to it? A. Yes; he could not make me pay it. Q. He could not make you pay it? A. No, sir. Q. You do not have any contract to pay him? A. No, sir. Q. You did not enter into any contract with him at any time? A. No, sir. Judgment will be entered under Rule 50.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623696/	SUMMIT PUBLISHING COMPANY, INC., Petitioner v. COMMISSIONER OF INTERNAL REVENUE, RespondentSummit Pub. Co. v. CommissionerDocket No. 3187-88United States Tax CourtT.C. Memo 1990-288; 1990 Tax Ct. Memo LEXIS 306; 59 T.C.M. (CCH) 833; T.C.M. (RIA) 90288; June 11, 1990, Filed 306 Decision will be entered under Rule 155. Irwin D. Zucker, for the petitioner. William F. Burbach, for the respondent. GERBER, Judge. GERBERMEMORANDUM FINDINGS OF FACT AND OPINION Respondent, in a notice of deficiency, determined income tax deficiencies and additions to tax in petitioner's taxable years ended October 31, 1982, and October 31, 1983, as follows: Additions to TaxTaxable Year EndedDeficiencySec 6653(a)(1) 1Sec 6653(a)(2)Oct. 31, 1982$ 14,595.00$ 929.00 Oct. 31, 198361,561.003,330.80 **307 The issues presented for our consideration are: (1) Whether salary paid to one of petitioner's employees is reasonable and therefore deductible; and (2) whether petitioner is liable for additions to tax under sections 6653(a)(1) and (2). FINDINGS OF FACT The parties have entered into a stipulation of facts, along with exhibits, all of which are incorporated by this reference. At all times pertinent to this case, petitioner, Summit Publishing Company, Inc. (Summit), was a Texas corporation with its primary place of business in San Antonio, Texas. During the taxable years ended October 31, 1982, and October 31, 1983, Summit paid corporate officer and employee Marcia J. Mogavero (Mrs. Mogavero) compensation in the amounts of $ 72,780 and $ 183,910, respectively. These amounts were deducted in arriving at Summit's taxable income for the years in issue. Respondent determined that reasonable compensation for Mrs. Mogavero for the taxable years ended October 31, 1982 and 1983, was $ 41,050 and $ 50,083, respectively, and disallowed the difference between the amount claimed and determined. Summit was incorporated during 1977 by Alfred G. Mogavero, Sr. (Mr. Mogavero) who, at all308 pertinent times, was Summit's sole shareholder and president. Mr. and Mrs. Mogavero were married around the time of petitioner's incorporation and continued to be married throughout the end of the taxable years in issue. Mr. and Mrs. Mogavero were divorced subsequent to the taxable years in issue. Summit's business activity involved the publishing of an inflight magazine for Southwest Airlines (Southwest). Summit also did a limited amount of typesetting, production, layout, and art work for other companies. Southwest did not pay Summit for the magazine, but Southwest did disseminate the magazine to its airline passengers; Summit generated revenues from the magazine's advertisers. Mr. Mogavero began Summit's business activity in 1972. Kenneth E. Lively (Lively) worked for Mr. Mogavero nearly from the beginning and his expertise related to the editing-publishing or creative side of the business activity. Mr. Mogavero's expertise related to sales and management. During 1977, about the same time as the Mogaveros were married, Mrs. Mogavero began to work at Summit. Prior to that time she had no job experience, no formal education beyond high school, or any special skills, other309 than typing. Initially, Mrs. Mogavero performed routine clerical tasks. In time, and during the years in issue, she performed in the role of an office manager. Lively and Mr. Mogavero were principally responsible for publishing and sales, respectively, with Mr. Mogavero performing as the overall owner-operator of Summit. Mrs. Mogavero supervised the clerical and support personnel, oversaw accounts receivable and payable, and reviewed the credit worthiness of advertisers. Although Summit had an accountant, Mrs. Mogavero did some of the bookkeeping and assisted in the compilation of certain of the financial information necessary for top management. She also assisted in the approval and location or layout of advertisements. Summit was a small company and everyone, including Mrs. Mogavero, performed some of the magazine proofreading. When Mr. Mogavero was away from the business for any extended period of time (generally overnight), Mrs. Mogavero would act on Mr. Mogavero's behalf. Mr. Mogavero was away from the office from 3 to 8 days per month. During the years in issue, Summit generally employed between 16 and 25 employees. The majority of the employees, all of whom were under310 Mrs. Mogavero's supervision, were employed in the following categories: Bookkeeper, secretary, receptionist, office manager, and credit department personnel. The remainder of the employees were under the direct supervision of Lively. Prior to the years in issue, the number of employees generally increased beginning from 1977 forward. Mr. Mogavero, as owner-operator of Summit, decided to increase Mrs. Mogavero's salary because the business was doing well. For the taxable years ended October 31, 1978, through October 31, 1983, the gross profit of Summit and the compensation of its officers and other employees were as follows: Taxable Yr.Officers'IncreaseEmployees'IncreaseGrossIncreaseEndedComp. 2(%)Comp.(%)Profit(%)10/31/78$ 80,322-$ 38,594- $ 484,680- 10/31/79 152,0388967,20874748,9475510/31/80 200,79132121,346811,160,0205510/31/81 312,08055169,582401,835,5665810/31/82 358,86415238,013412,649,8224410/31/83 623,60174303,526283,409,43829311 Comparatively, Mr. Mogavero's and Mrs. Mogavero's compensation for the same periods, was as follows: Taxable Yr.IncreaseIncreaseEndedMr. Mogavero(%)Mrs. Mogavero(%)10/31/78$ 52,900- $ 16,715- 10/31/79112,30111224,6874810/31/80131,4961750,46210410/31/81231,4367655,8941110/31/82257,8481172,7803010/31/83427,53066183,910153For all taxable years after the one ended October 31, 1979, Mr. and Mrs. Mogavero also received 15-percent profit sharing paid by Summit and health plan coverage. Mrs. Mogavero also received an annual $ 500 bonus, as did all other employees of Summit. During the taxable years ended October 31, 1982 and 1983, Summit paid cash dividends to its sole shareholder in the amounts of $ 232,690 and $ 382,359, respectively. Judy Christa (Christa) was Promotion Manager of Southwest and was responsible for the in-flight magazine during the years in issue. Her major contacts were with Mr. Mogavero, Mrs. Mogavero and Lively. Christa generally attempted to conduct business with Mr. Mogavero, but would312 deal with Mrs. Mogavero or Lively when Mr. Mogavero was not available. Christa saw Mr. Mogavero and Lively as responsible for improvement in the editorial quality of the magazine and the driving forces behind Summit. Christa also believed that Summit's success was tied directly to the success of Southwest and its expansion, which permitted more potential for advertisers and, presumably, larger advertising revenue. She felt that sales improvement was attributable to Mr. Mogavero. Christa did not observe editorial or sales activity performed by Mrs. Mogavero, but saw her role as administrative and financial. Mary Ann Garza (Garza) worked for Summit beginning March 1982 as Administrative Assistant to Mr. and Mrs. Mogavero and later as Office Manager of Summit's bookkeeping department. Garza considered Mrs. Mogavero as a part owner, but recognized a distinction as to the level of authority between Mr. and Mrs. Mogavero. Mr. Mogavero looked after major matters and Mrs. Mogavero looked after minor matters. Both Mr. and Mrs. Mogavero put in long hours and took work home in the evenings. Lively was Associate Publisher and Editor of Summit's inflight magazine during the year 1979313 through 1984. He worked with Mrs. Mogavero on financial matters, but did not work with her on matters concerning editorial or publication substance. Lively worked with Christa on a monthly basis by telephone. Lively observed Mrs. Mogavero's role as financial and administrative management. He also observed that she performed her job diligently. During the years in issue, Lively supervised six employees and was responsible for hiring, firing and recommending pay raises for employees under his supervision to Mr. Mogavero. Lively believed that Summit's profits increased, in part, due to Lively's creative talents. During the taxable years ended October 31, 1982, and October 31, 1983, Summit compensated Lively in the $ 40,000 to $ 50,000 range. We find as ultimate facts that a reasonable compensation for Mrs. Mogavero for the taxable years ended October 31, 1982, and October 31, 1983, is $ 70,000.00 and $ 85,000.00, respectively. OPINION Section 162(a)(1) allows a deduction for ordinary and necessary business expenses including "a reasonable allowance for salaries or other compensation314 for personal services actually rendered." There is a two-prong test for deductibility under section 162(a)(1): (1) The amount of the compensation must be reasonable; and (2) the payments must in fact be purely for services. Elliotts, Inc. v. Commissioner, 716 F.2d 1241">716 F.2d 1241, 1243 (9th Cir. 1983), revg. on another matter and remanding a Memorandum Opinion of this Court. The inquiry into reasonableness is a broad one and generally subsumes the inquiry into compensatory intent. Elliotts, Inc. v. Commissioner, supra at 1245. Whether compensation is reasonable is a question to be resolved on the basis of an examination of all the facts and circumstances of a case. Charles Schneider & Co. v. Commissioner, 500 F.2d 148">500 F.2d 148, 151 (8th Cir. 1974), affg. a Memorandum Opinion of this Court, cert. denied 420 U.S. 908">420 U.S. 908 (1975); Pacific Grains, Inc. v. Commissioner, 399 F.2d 603">399 F.2d 603, 605 (9th Cir. 1968), affg. a Memorandum Opinion of this Court. The determination of the Commissioner is presumptively correct, and the burden of proving the reasonableness of compensation is upon the taxpayers. Botany Worsted Mills v. United States, 278 U.S. 282 (1929).315 Many factors are relevant in determining whether compensation is reasonable, and no single factor is decisive; the totality of facts and circumstances must be weighed. Mayson Mfg.Co. v. Commissioner, 178 F.2d 115">178 F.2d 115, 119 (6th Cir. 1949). The parties in this case have focused on about six of the factors enumerated in Foos v. Commissioner, T.C. Memo. 1981-61. In Foos v. Commissioner, supra, the following factors were referenced: 1. Employee's qualifications and training. 2. Nature, extent, and scope of his duties. 3. Responsibilities and hours involved. 4. Size and complexity of the business. 5. Results of the employee's efforts. 6. Prevailing rates for comparable employees in comparable business. * * 7. Scarcity of other qualified employees. 8. Ratio of compensation to gross and net income (before salaries and Federal income tax) of the business. 9. Salary policy of the employer to its other employees. 10. Amount of compensation paid to the employee in prior years. 11. Employee's responsibility316 for employer's inception and/or success. 12. Time of the year the compensation was determined. 13. Whether compensation was set by corporate directors. 14. Correlation between the stockholder-employees' compensation and his stockholdings. 15. Corporate dividend history. 16. Contingent compensation formulas agreed on prior to the rendition of services and based upon a free bargain between the employer and employee. * * 17. Under-compensation in prior years. 18. Compensation paid in accordance with a plan which has been consistently followed. 19. Prevailing economic conditions. 20. Whether payments were meant as an inducement to remain with the employer. 21. Examination of the financial condition of the company after payment of compensation. We have provided the entire list because certain of the categories not specifically mentioned by the parties seem pertinent and/or were discussed by the parties under a different or similar classification. Employee's Qualifications and TrainingRespondent argues that Mrs. Mogavero's educational background and training317 were insufficient to justify the level of compensation claimed by Summit. Petitioner agrees that Mrs. Mogavero "had very limited qualifications" when she began working for Summit in 1977, but that she acquired "extensive on-the-job training" qualifying her for the position held. We agree with petitioner's analysis on this point. If Mrs. Mogavero had been a new employee of Summit, without prior experience, we would have agreed with respondent. In the setting of this case, Mrs. Mogavero had about 3 years experience and had been tested in the position of second-in-command of Summit. Although weight should be given to advanced education, it is likely that actual experience is more significant than academic achievement in the operation and success of a particular business, especially one which is relatively small and unique requiring the personal service of the particular employee. Moreover, when measuring the value of education as opposed to actual experience, greater weight should usually be afforded to actual and successful experience in a particular position or discipline. Although it may have been said that Mrs. Mogavero began her career with Summit principally because her318 husband was Summit's president and sole shareholder, eventually, employees and a representative of Summit's major "customer" looked to Mrs. Mogavero for management skills and decisions every day in the running of the corporate business. Additionally, she was left in charge of all matters in the absence of the owner-operator (Mr. Mogavero). Nature, Extent, and Scope of Employee's WorkPetitioner contends that Mrs. Mogavero should be characterized as second-in-command of Summit. Respondent counters that Mrs. Mogavero was relegated to the more menial tasks and the major contributions that resulted in Summit's success were made by Mr. Mogavero and Lively. Respondent also argues that Mrs. Mogavero's position (second-in-command) with Summit is "primarily a function of her marriage to [Mr. Mogavero]." To the extent that the subject employee has an ownership interest or is related to the owner, we should carefully scrutinize the question of the reasonableness of compensation. See Charles Schneider & Co. v. Commissioner, 500 F.2d 148">500 F.2d 148, 152 (8th Cir. 1974), affg. a Memorandum319 Opinion of this Court; Capitol-Barg Dry Cleaning Co. v. Commissioner, 131 F.2d 712 (6th Cir. 1942). In so doing we find that Mrs. Mogavero did not receive, relative to her experience, a large beginning salary when she began working for Summit at a time when all agree that her experience and skill levels were not great. In her first 2 years her compensation was $ 16,715 and $ 24,687. For the same time periods, Mr. Mogavero was paid $ 52,900 and $ 112,301, respectively. It should also be noted that Mr. Mogavero's salary more than doubled and that Mrs. Mogavero's salary increased, for the same period, by about 48 percent. During this same period, Summit's gross profit increased by 55 percent. Beginning in the third year, Mrs. Mogavero's salary more than doubled from $ 24,687 to $ 50,462, at a time when Mr. Mogavero's salary increased only 17 percent from $ 112,301 to $ 131,496. During the first 4 taxable years ending October 31, 1981, Summit's increase in gross profit was about 50 percent per year going from just under one-half million to just under two million dollars. During this same period, the compensation increases to Mr. Mogavero and to Mrs. Mogavero did320 not rise in tandem. There does not appear to be any pattern to the increases in terms of the percentages or in direct or proportionate relationship to the increases in profits. Moreover, Summit paid cash dividends to Mr. Mogavero (its sole shareholder) in the amounts of $ 232,690 and $ 382,359 for the taxable years ended October 31, 1982, and October 31, 1983, respectively. For the taxable year ended October 31, 1982, the amount of the dividend approached Mr. Mogavero's compensation and was about three times Mrs. Mogavero's salary. For the taxable year ended October 31, 1983, the amount of the dividend was about 89 percent as large as Mr. Mogavero's compensation and was more than two times the size of Mrs. Mogavero's salary. Although this analysis is somewhat superficial, it, to some degree, satisfies our concerns about the potential for abuse in situations where the reasonableness of a spouse's or relative's salary is under scrutiny. There is no clear or obvious plan to avoid tax. Generous dividends (which are not deductible from the gross income of Summit) were paid and Mrs. Mogavero's compensation was not raised based upon similar raises of her spouse. Additionally, the321 raises seem to correspond to the potential for increased experience and/or increased responsibility facilitated by the passage of time. Moreover, the raises to Mr. and Mrs. Mogavero are not, per se, inappropriate when considering the financial success of Summit. Accordingly, we disagree with respondent's contention that Mrs. Mogavero's pay is, to some great extent, attributable to family nepotism. Mrs. Mogavero's role in the operation and success of Summit falls somewhere between that of Lively and Mr. Mogavero. Ignoring the ownership aspect for purposes of this discussion, Mr. Mogavero was the person clearly in command of Summit. Additionally, his expertise and performance in the sales area was a major factor (likely the most important) in the success of Summit. Likely, on the other hand, was possessed of expertise in the area of editing and publishing and was responsible for the quality of the product that was the basis of Summit's relationship with Southwest. Obviously, if the quality of the in-flight magazine was inadequate, Summit's opportunity to supply the magazine to Southwest would be jeopardized. In this connection, Mr. Mogavero, Mrs. Mogavero and Lively were all322 involved, to some extent, in maintaining the business relationship between Summit and Southwest, generally through Christa (Southwest's Promotion Manager). Mrs. Mogavero was responsible for the day-to-day administrative and financial operation of Summit. In addition to playing a significant role in the business relationship with Southwest, she was also primarily responsible for matters which had a direct effect on Summit's success. Her review of the credit worthiness of advertisers (customers) would have a direct effect on the profitability of Summit due to the potential for losses from bad debts. She also played some role in the placement of advertisements. Most importantly, Mrs. Mogavero acted on Mr. Mogavero's behalf while he was away on the business of Summit. Because sales are likely the most significant factor in the profitability of Summit, it follows that Mr. Mogavero's time and effort are the most valuable (which is reflected in the salary patterns for all years in evidence). Accordingly, reliance on Mrs. Mogavero's expertise to run the company while Mr. Mogavero is on business travel, in direct and indirect ways, constitutes a real and important contribution to the323 success of Summit. In summary, we have found that Mrs. Mogavero's importance and contribution to the success and operation of Summit is somewhere between Lively's and Mr. Mogavero's. An analysis of the other factors under consideration will provide some basis for determining the reasonable value or worth of that difference. Summit's Salary Scale and PolicyHere, respondent points to the wide disparity between owner, family members and other nonowner, nonfamily employees, citing, among other cases, Owensby & Kritikos, Inc. v. Commissioner, 819 F.2d 1315">819 F.2d 1315, 1329, 1333 (5th Cir. 1987), affg. a Memorandum Opinion of this Court. The analysis on this aspect focuses upon "whether the entity as a whole pays top dollar to all of its employees, shareholder- and nonshareholder-employees alike." Owensby & Kritikos, Inc. v. Commissioner, 819 F.2d at 1330. In this case total officer's compensation increased 89, 32, 55, 15 and 74 percent during the taxable years ended October 31, 1979 through October 31, 1983, respectively. Total employees' compensation increased 74, 81, 40, 41, and 28 percent during the taxable years ended October 31, 1979, through324 October 31, 1983, respectively. These figures are not fully comparable because the number of officers remained constant during that period and the number of employees increased during that same period. Accordingly, some of the increases to total employees compensation is attributable to the addition of new employees, rather than increases to the compensation of existing employees. During the 2 taxable years in issue, however, the number of employees did not appear to have increased by a significant amount. Accordingly, during the taxable years in issue, the employees' increases would be more comparable to those of officers. During the 2 years in issue, total officers' compensation increased 15 and 74 percent and total employees' compensation increased 41 and 28 percent. Although one might argue that, overall, officers' compensation (on a percentage basis) was increased somewhat more than employees' compensation, we find that petitioner appears to have had a relatively generous policy regarding the increases of officer and employee compensation. We also note that, in a relative sense, it may be appropriate to give larger raises to the officers, as opposed to other employees, 325 if the officers' efforts were more instrumental to the success of the business. Accordingly, we do not agree with respondent's analysis that cases like Owensby & Kritikos, Inc. v. Commissioner, supra, would operate to defeat petitioner's position in this case. Compensation in Prior Years Size and Complexity of the BusinessRegarding this aspect, respondent argues that Mrs. Mogavero's "salary increased from $ 16,715.53 per year to $ 183,910.00 per year over a period of only five years." Respondent cites several cases for the proposition that increases in salary should be a result of increases in responsibility. See, e.g., Rutter v. Commissioner, 853 F.2d 1267">853 F.2d 1267 (5th Cir. 1988), affg. a Memorandum Opinion of this Court. Petitioner agrees that Mrs. Mogavero's salary was low and her experience was limited when she started with petitioner. Petitioner, however, argues that Mrs. Mogavero's salary increased in accord with her increased responsibilities in subsequent years. Petitioner cites a few cases supporting that proposition. E.g., Atlantic-Pacific Manufacturing Corp. v. Commissioner, a Memorandum Opinion of this Court dated January 23, 1945. 326 For the taxable years ended October 31, 1982 and 1983, Mrs. Mogavero's compensation was $ 72,780 and $ 183,910, respectively. Respondent determined that reasonable compensation for Mrs. Mogavero for the taxable years ended October 31, 1982 and 1983 was $ 41,050 and $ 50,083, respectively. Accordingly, respondent agrees that Mrs. Mogavero is entitled to about two and one-half to about three times her original salary of $ 16,715.53 about 5 years before. We assume that some of the increase determined by respondent may be attributable to increased expertise, increased responsibilities, inflation, and the improved business success of Summit. Considering that Summit's business was so successful, the number of employees supervised increased, inflationary indexing may have played a role, and Mrs. Mogavero played a significant role in some areas of the business which helped the business success, we believe that respondent has not determined sufficient compensation to Mrs. Mogavero for the years before the Court. Prevailing Rates of Compensation in the IndustryHere respondent argues that two of petitioner's witnesses provide the basis for arguing that prevailing compensation for327 Mrs. Mogavero's job "were far below those paid to her by" Summit. Respondent relies on Lively's testimony and that of "Mr. Friedman." Initially, we note that Mr. Friedman was not permitted to testify because of respondent's objection to his qualifications regarding his ability to provide an expert opinion in the area of executive compensation in this case. Accordingly, we find it surprising that respondent should refer to or rely upon Mr. Friedman on brief. Concerning Mr. Lively, he was not qualified as an expert and we do not rely upon his testimony for that purpose. To the extent that he was an employee of Summit during the years in issue and performed some management, editing, and publishing activity, we have referred to his salary and expertise. Accordingly, neither petitioner nor respondent has established, by expert testimony, or otherwise, the prevailing rates of compensation in this industry. We are herein limited to considering whether Mrs. Mogavero's salary is reasonable based upon the facts in the record. Comparison of Salaries Paid with Summit's Gross and Net IncomeRespondent argues that as Summit's profits increased the Mogaveros' attempted to "remove328 as much of the increased profits from the corporation without paying corporate tax." Petitioner argues that Mrs. Mogavero's salary was 2.71 and 5.34 percent of gross income and 7.55 and 13.42 percent of net income for the taxable years in issue. For the same 2 years Summit paid dividends to Mr. Mogavero (its sole shareholder) in the amounts of $ 232,690 and $ 382,359, which represented 24.14 and 27.89 percent of net income in those same 2 taxable years. The relatively sizeable dividends paid by petitioner (in addition to a relatively large salary to its president and sole shareholder) substantially diminish respondent's argument that there was a motive of tax avoidance in this case. SummaryOur review of the record in this case results in our conclusion that Mrs. Mogavero's responsibilities and contribution to the success of Summit fell somewhere between those of Lively and Mr. Mogavero. Although Lively was also somewhat responsible for a part of the business which contributed to the financial success, his management contribution was less than Mrs. Mogavero's. Additionally, Mrs. Mogavero did have certain responsibilities which directly contributed to the success of the329 business, including her overall management of day-to-day administrative aspects, consideration of credit worthiness of advertisers, development of management's financial data, help in the placement of advertisements, relationship with Southwest (the source of most revenue), and most importantly, acting, on a regular basis, on behalf of Mr. Mogavero while he was away from the business premises. Based upon these considerations, we have found that Mrs. Mogavero's reasonable salary for the taxable years ended October 31, 1982 and October 31, 1983 is $ 70,000 and $ 85,000, respectively. Addition to Tax Section 6653(a)(1) and (2)Respondent has determined that petitioner is liable for an addition to tax for negligence and intentional disregard of the rules and regulations in both taxable years. The only other issue before us concerns whether Mrs. Mogavero's compensation was reasonable. Petitioner bears the burden of showing that respondent's determination is in error. Bixby v. Commissioner, 58 T.C. 757">58 T.C. 757, 791 (1972), Rule 142(a). Petitioner, considering the facts of this case, has shown that the amount reported as compensation for Mrs. Mogavero for the330 taxable year ended October 31, 1982, was substantially reasonable. Accordingly, we find that petitioner is not liable for the section 6653 (a)(1) and (2) addition to tax for its taxable year ended October 31, 1982. On the other hand, petitioner reported compensation of $ 183,910 for Mrs. Mogavero for the taxable year ended October 31, 1983. We have found that only $ 85,000 of that amount was reasonable. Accordingly, we find that petitioner is liable for an addition to tax under section 6653(a)(1) and (2) for the taxable year ended October 31, 1983. To reflect the forgoing and concessions of the parties, Decision will be entered under Rule 155.Footnotes1. Section references are to the Internal Revenue Code of 1954, as amended and in effect for the taxable years in issue. Rule references are to the this Court's Rules of Practice and Procedure.↩. 50 percent of the interest due on $ 18,576.00 * 50 percent of the interest due on $ 66,616.00 ↩2. All information is taken from Summit's U.S. Corporation Income Tax Returns, Forms 1120. Each of the returns reflect the officers as Mr. Mogavero, Mrs. Mogavero and Albert G. Mogavero, Jr., (presumably Mr. Mogavero's son). All amounts have been rounded to the nearest dollar.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623697/	Bartmer Automatic Self Service Laundry, Inc., et al., 1 Petitioners, v. Commissioner of Internal Revenue, RespondentBartmer Automatic Self Service Laundry, Inc. v. CommissionerDocket Nos. 64464, 64465, 65229United States Tax Court35 T.C. 317; 1960 U.S. Tax Ct. LEXIS 18; November 23, 1960, Filed 18 Decisions will be entered under Rule 50. 1. Respondent made a jeopardy assessment against transferor on June 6, 1951, and was entitled to 6 years thereafter within which to take action against the transferee. Held, a deficiency notice asserting transferee liability sent to petitioner in September 1956 was timely.2. The transferor transferred the assets after a jeopardy assessment, jeopardy notice, and demand, after the liens were filed, levies served, and after engaging in conduct aimed at concealing assets. Since the transfer took place under circumstances exhibiting the "badges of fraud" under Missouri law, held the transfer under such facts was a voluntary conveyance, conceived and made with the intent of hindering, delaying, and defrauding the Government in its efforts to collect the taxes and additions to tax owed by the transferor and as such was void under Missouri law, thereby relieving respondent of the necessity of showing that transferor was insolvent at the time the transfer was made.3. Respondent succeeded in showing that a transfer was made and that it was made without consideration (this being admitted by petitioner), that the transfer was fraudulent19 as to existing creditors, that the assets transferred had value, and that he made a reasonable effort to collect the amounts due from transferor. Held, respondent established a prima facie case of transferee liability.4. The evidence indicated a transfer of either cash and equipment or the stock of the corporation which acquired these assets. Held, the respondent did not show that the value of these assets exceeded $ 5,500 on the date of transfer. William J. Becker, Esq., for the petitioners.Robert A. Roberts, Esq., for the respondent. Van Fossan, 21 Judge. VAN FOSSAN 318 The respondent has determined that petitioners, Bartmer Automatic Self Service Laundry, Inc., Helen Comb Smith Thornton, and Marlene J. Smith Clukies, are liable as transferees of Arthur A. Smith to the extent of assets alleged to have been transferred to them, plus interest, for the following deficiencies and additions to tax of transferor:Additions toYearDeficiencytax, sec. 293(b),I.R.C. 19391946$ 3,017.95$ 1,508.98194711,093.795,546.90194810,204.995,102.50Each of the deficiency notices contained the following paragraph:Inasmuch as the value of the assets received by you amounted to $ 13,159.53, your liability as transferee is limited to that amount plus interest thereon as provided by law. Such is your liability as transferee of the assets of said Arthur A. Smith for the deficiencies above set forth.Respondent concedes that Marlene J. Smith Clukies is not liable as a transferee.The issue is whether the petitioners, or either of them, are liable, to the extent specified above, as transferees of Arthur A. Smith.FINDINGS OF FACT.Some of the facts are stipulated and are incorporated herein by this reference. 22 Helen Comb Smith Thornton (hereinafter sometimes referred to as petitioner), 2 resides in Afton, Missouri. The Bartmer Automatic Self Service Laundry, Inc. (hereinafter sometimes referred to as the corporation), is a Missouri corporation having its principal office in St. Louis, Missouri.Petitioner returned from California to her Missouri home on June 29, 1951, and on July 14, 1951, she married Arthur A. Smith (hereinafter sometimes referred to as transferor), who died intestate on September 9, 1952. Marlene J. Smith Clukies (hereinafter sometimes referred to as Marlene), petitioner in Docket No. 65229, is the daughter of the transferor.Transferor filed separate Federal income tax returns for each of the taxable years 1946, 1947, and 1948 with the collector of internal 319 revenue for the first district of Missouri, St. Louis, Missouri.On June 6, 23 1951, a jeopardy assessment was made against transferor for deficiencies in income tax, additions to tax, and interest for the taxable years and in the amounts as follows:YearTaxInterestAdditionsTotalto tax1946$ 3,054.05$ 774.56$ 1,527.03$ 5,355.64194714,574.362,821.847,287.1824,683.38194811,137.631,488.175,568.8218,194.62On June 8, 1951, a jeopardy notice and demand was served upon transferor for payment of the aforesaid amounts. At this time transferor advised the collector that he was unable to and could not pay the tax assessment.Two levies were served upon the secretary of the Judge Realty Company on the same date, giving notice of taxes due from the transferor and Virginia Smith (transferor's former wife). A levy was prepared on June 8, 1951, for the First National Bank of Wellston, Wellston, Missouri, but was not served because transferor had no account.Notices of Federal tax liens covering the deficiencies were recorded on June 8 and 18, 1951, in the offices of the recorders of deeds, St. Louis, Missouri, and St. Louis County, Missouri. On or about June 18, 1951, respondent requested but was refused a copy of the24 transferor's balance sheet.Between June 18, 1951, and December 31, 1951, respondent checked three banks but was unsuccessful in locating any assets. No levies were executed or served in this period.On or about July 2, 1951, Tom G. Smith, Marlene, and petitioner signed articles of incorporation of the Bartmer Automatic Self Service Laundry, Inc., under "the General and Business Corporation Act of Missouri." A certificate of incorporation was issued to the corporation on September 15, 1951. The articles specified that the minimum amount of paid-in capital was $ 1,500.The books and records of the corporation disclose that the stock was issued to petitioner, Marlene, and Tom G. Smith. However, the latter two individuals were not the legal or the beneficial owners of the stock. It was stipulated that ownership of all the stock rested in petitioner during the period July 1951 through December 1959. The stock certificates were dated September 21, 1951.Petitioner was the president of the corporation, and actively managed its operations between October 19, 1951, and August 1956. With the assistance of Marlene, she maintained the corporation's books and records.320 On July 25 16, 1951, the respondent mailed a notice of deficiency to transferor with respect to the jeopardy assessment, and from the notice an appeal was taken to this Court (Docket No. 37193).On September 17, 1952, the Probate Court of the city of St. Louis (hereinafter referred to as the Probate Court) appointed petitioner administratrix of the estate of the transferor. She filed with the Probate Court on November 12, 1952, a "Report in Lieu of Inventory" in which she declared:that although she [petitioner] has made due and diligent search and is continuing to investigate and discover assets, she is at the present time unable to identify, describe or itemize any real or personal property, belonging to said deceased [transferor] at the time of his death.Respondent filed a claim for the amounts due with the Probate Court.On or about December 3, 1953, a stipulation was entered into between the parties in Docket No. 37193 (then entitled "Estate of Arthur A. Smith, Deceased, Helen Smith, Administratrix, Petitioner v. Commissioner of Internal Revenue, Respondent"), whereby it was agreed that there were deficiencies in tax and additions to tax due from transferor for the years and in26 the amounts as follows:YearTaxAdditionsto tax1946$ 3,017.95$ 1,508.98194711,093.795,546.90194810,204.995,102.50Pursuant to and in accordance with the stipulation, this Court, on December 8, 1953, entered its decision for the tax and additions to tax set forth above.Respondent resumed collection efforts in 1954. On May 6, 1954, levies were prepared and served on the following individuals or companies: E. Linton Joaquin (transferor's accountant); William J. Becker (counsel herein); Arthur A. Smith, Jr.; Gloria Miller, petitioner; Marlene; Smithold Realty & Investment Company; and the corporation.Petitioner was requested in 1954, and repeatedly thereafter, to file an inventory of assets of the transferor's estate. Petitioner filed on October 24, 1956, a document entitled "Inventory" with the Probate Court in which she declared that transferor owned undefined interests in four corporations which were worthless and an automobile with the value of $ 100. The automobile, in fact, belonged to Marlene.Except for amounts realized through the sale of some assets belonging to the various businesses conducted by transferor, payments from rental property, 27 and collection on a bond posted by transferor, respondent was unsuccessful in locating any assets belonging to the 321 transferor with which to satisfy the claims. The "Certificate of Assessments and Payments" indicates that in excess of $ 40,000 in taxes, additions to tax, and interest remain due and payable by transferor.Transferor, at one time or another, owned all, or part of, the Bartmer Truck Service, Electric Supply Company, Inc., Electric Fixture Company, and Smithold Realty & Investment Company. Record title to the stock of these companies was held in the names of parties other than transferor. Similarly, petitioner owned, at one time or another, a bank account and an interest in an apartment building held in the names of straw parties.Petitioner received $ 1,500 from transferor in July 1951 either as a cash gift or as part of the assets (paid-in capital) of the corporation. In 1951 the transferor purchased equipment subsequently used by the corporation. Petitioner received this equipment in July 1951 either as a gift in kind or as part of the assets of the corporation. Petitioner was the actual or beneficial owner of all the corporation's stock, or the actual28 owner of the business. The value of the equipment when transferred to petitioner was not greater than $ 4,000. Both of the above transfers were without consideration.The books and records of the corporation indicate that petitioner advanced her personal funds to the corporation from time to time. The amount of $ 600 entered as a loan on the books was an advance of petitioner's personal funds.A book entry in the amount of $ 1,250 did not represent anything of value received by the petitioner from the transferor.Respondent determined that petitioner, or, in the alternative, the corporation, is liable as transferee to the extent of $ 9,914.51, plus interest thereon as provided by law. The value of the assets received by petitioner from transferor in July 1951 did not exceed $ 5,500.Subsequent to the jeopardy assessment, respondent has received from petitioner, the corporation, and Marlene, as transferees, the following payments:Docket No.Amount$ 103.64644641,000.00545.9564465912.9265229196.47OPINION.The issue is whether Helen Comb Smith Thornton, or, in the alternative, Bartmer Automatic Self Service Laundry, Inc., is liable as transferee to 29 the extent of the assets (cash and equipment) transferred to either party by Arthur A. Smith, for 322 the unpaid income tax deficiencies and additions to tax of the transferor.Respondent concedes that Marlene (petitioner in Docket No. 65229) is not liable as a transferee of Arthur A. Smith, and that there is an overpayment by Marlene in the amount of $ 196.47, which amount was involuntarily paid by her on October 24, 1956. This concession will be given effect under Rule 50.Respondent has the burden of proving liability as a transferee, i.e., he must establish all facts necessary to indicate liability, at law or in equity, on the part of the transferee. Sec. 1119, I.R.C. 1939; Arlington F. Brown, 24 T.C. 256">24 T.C. 256.A prima facie case of transferee liability is established if the respondent succeeds in proving, by competent evidence (1) that assets were transferred to the alleged transferee without consideration or for inadequate consideration; (2) that the transferor was insolvent or the transfer left the transferor insolvent or the transfer was a "purely voluntary conveyance conceived and made with the intent of hindering, delaying, and defrauding" 30 the Government; (3) that the assets transferred had value, and what that value was on the date of transfer; and (4) he has made every reasonable effort to collect the sums due.Petitioner first takes the position that the assessment of liability against her is barred by the statute of limitations.The parties placed certain stipulated facts in evidence. Some of these facts concerned a stipulation entered into in 1953 that there were deficiencies in tax and additions to tax by reason of fraud due from the transferor for the years 1946, 1947, and 1948 in the amount of $ 36,475.11 (this figure does not include interest). This Court adopted that stipulation by a decision entered on December 8, 1953. That stipulation and its subsequent adoption by this Court constituted a confirmation of the transferor's fraud. The Code provides under such circumstances that an assessment may be made at any time against the delinquent taxpayer, i.e., no statute of limitations bars assessment. See secs. 276(a) and 293(b), 1939 Code, and sec. 6501(c), 1954 Code. By the same token, where no statute of limitations bars assessment against the transferor, none bars assessment against the transferee. 31 Sec. 311(b), 1939 Code; sec. 6901, 1954 Code; Smith v. Commissioner, 249 F. 2d 218 (C.A. 5), affirming a Memorandum Opinion of this Court; Ruth Halle Rowen, 18 T.C. 874">18 T.C. 874, reversed on other grounds 215 F. 2d 641 (C.A. 2).The respondent chose to make a jeopardy assessment against the transferor on June 6, 1951. This action allowed the respondent 6 years to proceed against the transferee, or until June 6, 1957, to take action with respect to petitioner. Sec. 276(c), 1939 Code; sec. 323 6502, 1954 Code. George F. Krug, 30 B.T.A. 1376">30 B.T.A. 1376, affd. 78 F. 2d 57 (C.A. 9); United States v. Updike, 281 U.S. 489">281 U.S. 489. This period was further extended, however, by reason of the fact that transferor filed a petition in this Court sometime between July 16 and December 10, 1951. Sec. 277 of the 1939 Code; sec. 6503 of the 1954 Code. The decision of this Court was entered on December 8, 1953. Hence, the running of the statute was suspended for approximately 2 years plus the 60 days provided under the section. The32 total period of limitations was thus extended well into 1959. The notice of transferee liability asserted against petitioner was dated September 18, 1956, and the assessment was made in August 1956. We hold that the actions taken with respect to asserting transferee liability were timely. Payne v. United States, 247 F. 2d 481 (C.A. 8); Will T. Caswell, 36 B.T.A. 816">36 B.T.A. 816.Petitioner also argues, with specific and enumerated objections, that respondent has failed to prove a prima facie case of transferee liability.Our discussion above makes it obvious that the transferor was and is liable for the tax and additions to tax which here form the basis for the assertion of transferee liability. It is equally clear from the record that there are still due and payable from transferor amounts far in excess of the liability sought to be assessed against the transferee in this case. See Margaret Wilson Baker, 30 B.T.A. 188">30 B.T.A. 188, affd. 81 F. 2d 741 (C.A. 3). Petitioner has conceded on brief and the record establishes that the transfer was, in fact, made and made without consideration. 33 We have found as a fact that when demand for payment of the tax and additions to tax was made, transferor stated that he was unable to pay the assessment. Levies were issued and liens filed on the date of the demand or shortly thereafter. No assets were located. In our view these facts would be sufficient to establish a prima facie case that the transferor was insolvent in July 1951 when he made the transfer to petitioner. Petitioner has offered no evidence to the contrary and we think it rested upon petitioner to go forward with the proof on this point. However, we need not rest our decision on this foundation alone.The facts of this case fall within the doctrine promulgated in Meyer Fried, 25 T.C. 1241">25 T.C. 1241; Louise Noell, 22 T.C. 1035">22 T.C. 1035; and William Wiener, 12 T.C. 701">12 T.C. 701. Transferor made the transfer of assets after the jeopardy assessment, after notice and demand and after liens were filed and levies served. He made the transfer after he had stated that he was unable to pay the assessment. He was aware that he had filed false and fraudulent returns and even suggested to his wife that he 34 might go to prison as a result. The various businesses he 324 owned at one time or another were apparently conducted through straw parties, and the stock, which in fact was his, was concealed by placing record title in the names of others. Respondent requested a financial statement and was refused. We cannot overlook the confidential relationship of the parties and the fact that the transfer was made without consideration, i.e., the "badges of fraud" under Missouri law were present. Meyer Fried, supra.There was no offer of evidence to rebut the prima facie case made by respondent in this respect. Without entering into an analysis of what we consider a settled point, or into a discussion of Missouri law, we hold that the transfer of the cash and equipment or of the stock of the corporation by transferor to petitioner, under the circumstances described, was a purely voluntary conveyance conceived and made with the intent of hindering, delaying, and defrauding the Government in its efforts to collect the taxes and additions to tax owed by the transferor, and was, therefore, void under Missouri law. Mo. Ann. Stat. sec. 428.020 (Vernon). See, 35 also, Conrad v. Diehl, 344 Mo. 811">344 Mo. 811, 129 S.W.2d 870">129 S.W. 2d 870; Oetting v. Green, 350 Mo. 457">350 Mo. 457, 166 S.W. 2d 548; Godchaux Sugars v. Quinn, 95 S.W.2d 82">95 S.W. 2d 82. That being so, the respondent need not affirmatively show that the transferor was insolvent at the time the transfer was made. Meyer Fried, supra;Louise Noell, supra;William Wiener, supra;Leon Papineau, 28 T.C. 54">28 T.C. 54.We have set forth at length in our Findings of Fact the search made for transferor's assets, the levies served, and the liens filed. Respondent requested petitioner to render an inventory statement of transferor's estate in her capacity as administratrix, but she failed to do so until 1956. The inventory filed in the Probate Court in that year indicated that no assets were owned by transferor at his death. If these probate proceedings are still pending, respondent is not required to await the outcome since the estate has no assets. Petitioner offered no evidence indicating what assets36 respondent overlooked or tending to establish how respondent lacked diligence in his efforts. In view of the absence of evidence on the part of petitioner, the devious path taken by the transferor to cloak what assets he possessed, and the lack of cooperation exhibited by both transferor and petitioner, we think that the activities undertaken by respondent are sufficient to establish prima facie that he made every reasonable effort to collect the sums due.Respondent alleges that $ 9,914.51 was transferred to petitioner in the form of either cash or equipment. While it is not clear whether assets or stock were transferred, neither party offered proof demonstrating that the value of such stock, if that was what was transferred, was greater or lesser than the value of the underlying assets. We 325 find, therefore, that if stock was in fact transferred, its value equaled the aggregate value set by us for the individual assets transferred. 337 The corporate books show on the capital stock ledger sheet a $ 1,500 credit entry on October 12, 1951. This was the amount of the minimum paid-in capital necessary for the corporation to begin operations. The corporation, in fact, undertook to engage in business. Petitioner admits receipt of the laundry business from transferor. Respondent's agent testified that petitioner admitted being given this amount. Although the transfer took place in July 1951, cash is cash, and therefore it had the same value on October 12, 1951, as in July of that year. Petitioner offered no real explanation for the $ 1,500 entry inconsistent with respondent's interpretation. Accordingly, we find that respondent has established prima facie that petitioner received $ 1,500 from transferor in July 1951 either as a cash gift or as part of the assets (paid-in capital) of the corporation which petitioner owned.The books further show on the same sheet a credit entry of $ 6,564.51 as of December 31, 1951. There is also an entry as of December 31, 1951, for "equipment" on the equipment ledger sheet in the same amount. Respondent argues that these entries indicate the value of the equipment when transferred38 in July 1951. Petitioner produced evidence tending to show that the laundry was started in February 1951. It would be a fair inference that the equipment was in use before July 1951. Equipment generally declines in value with the passage of time, depending, of course, on the state of its repair and economic conditions. In July the equipment may have been damaged, out of repair, or otherwise valueless.We do not consider book entries, dated almost 6 months after the transfer in a context of possible fluctuating values, as sufficient evidence to fix the value of this equipment on the date of transfer. On the other hand, petitioner admittedly received the equipment (or stock) from the transferor without consideration. She testified that its value was somewhere in the neighborhood of $ 3,500 to $ 4,000 when she received it. Exercising our best judgment, and bearing heavily against the respondent, on whom the burden of proof of such value rests, we have determined that the value of the equipment on the transfer date was $ 4,000.The sum of $ 600 was entered upon the books as a loan from petitioner to the corporation. In denying that she received the money from transferor, petitioner39 testified that this amount came from her personal funds earned as a waitress. The sum is not so great that reasonably she could not have earned and saved this amount. Nor is is unreasonable that she should advance money to a corporation which 326 she owned and managed. Accordingly, we have found that the $ 600 represented petitioner's personal funds and that she was not in receipt of this amount from transferor.The capital stock ledger sheet shows an entry of $ 1,250 on December 31, 1951, the reference column containing the word "contra." Respondent alleges that this amount represented assets received by petitioner. No explanation of this book entry or what it represented was given by respondent. We hold that respondent has failed to show that the entry represented anything of value received by the petitioner from the transferor. See Arlington F. Brown, supra.A point was raised in the course of the testimony that the laundry equipment had been sold subsequent to the transfer in July 1951, apparently at a lesser value than here asserted by respondent. The fact that the transferee sold the assets is immaterial to our considerations. The*40 price at which she may have sold the equipment is not the measure of liability. Liability is measured by the value of the property that was transferred to her. See Estate of Geroge L. Cury, 23 T.C. 305">23 T.C. 305, 339.In view of the foregoing discussion and petitioner's admission, it is apparent that the corporation is not liable as a transferee, as contended in the alternative by respondent. We find that the Bartmer Automatic Self Service Laundry, Inc. (petitioner in Docket No. 64464), made an overpayment in the amount of $ 1,103.64. We hold that petitioner is liable, as transferee of Arthur A. Smith, to the extent of $ 5,500 ($ 4,000 plus $ 1,500), plus interest thereon as provided by law, 4 this being the value of the assets transferred to her in July 1951 without consideration.Decisions will be entered under Rule 50. Footnotes1. Proceedings of the following petitioners are consolidated herewith: Helen Comb Smith Thornton, Docket No. 64465, and Marlene J. Smith Clukies, Docket No. 65229.↩2. As it will appear infra↩, Helen Comb Smith Thornton was the transferee of Arthur A. Smith and is referred to in these proceedings as the sole petitioner.3. It appears more likely that assets rather than stock were transferred in July 1952, in view of the September date on the stock certificates.↩4. See Voss v. Wiseman, 237">234 F. 2d 237↩ (C.A. 10).	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623698/	Pelham G. Wodehouse v. Commissioner.Pelham v. CommissionerDocket No. 9887.United States Tax Court1950 Tax Ct. Memo LEXIS 155; 9 T.C.M. (CCH) 559; T.C.M. (RIA) 50161; June 30, 1950Watson Washburn, Esq., 36 West 44th St., New York 18, N. Y., and Royal E. Mygatt, Esq., for the petitioner. William B Springer, Esq., for the respondent. HARRON Memorandum Findings of Fact and Opinion HARRON, Judge: The Commissioner has determined156 deficiencies in income tax and 25 per cent penalties as follows: YearDeficiencyPenaltyTotal1921$5,005.57$1,251.39$6,256.9619225,771.341,442.847,214.18The notice of deficiency was mailed to petitioner on July 27, 1945. The determination has been made under section 276 (a) of the Internal Revenue Code which provides inter alia that in case of failure to file an income tax return, tax may be assessed at any time. The respondent has proceeded upon the belief that no income tax returns for the years 1921 and 1922 were filed for or by the petitioner. Unless the respondent's understanding is correct, assessment of deficiencies in tax is barred by the statute of limitations. See section 275 (a), Internal Revenue Code; and section 277 (a), Revenue Act of 1924. The primary question for decision is whether petitioner's income tax returns for 1921 and 1922 were filed with any collector of internal revenue. Petitioner contends that the returns in question were filed. Findings of Fact The petitioner is a professional writer of short stories, serial stories, plays, and other literary works, from the157 sale of which, income is derived. He is a subject of Great Britain, and he was a nonresident alien during the years 1921 and 1922. Petitioner was in England throughout the year 1921. During the period 1917 through 1920, he visited the United States at various times. He came to the United States for a temporary visit of about three weeks in the spring of 1922. Later, in September of 1922, he returned to the United States, remaining until the autumn of 1923 when he returned to England. During this sojourn in the United States, the petitioner lived at East Hampton, Long Island, New York. During 1921 and 1922, and for several years prior, Paul R. Reynolds was petitioner's literary agent for arranging sales of his stories and serials to magazines and book publishers, and the American Play Company was his dramatic agent for arranging sales of any plays which he wrote. John H. Rumsey is the president of American Play Company. In about 1917, petitioner appointed Rumsey as his agent to make and to file his income tax returns and to look after matters relating to his income tax liability; and Rumsey acted as petitioner's agent in these matters in subsequent years, including 1921 and 1922. 158 At various times, Rumsey was assisted by a friend of petitioner, R.J.B. Denby, in preparing petitioner's income tax returns. Petitioner received income from sources within the United States during 1921 and 1922 from sales of stories and royalties on books. Reynolds withheld tax on the taxable income and filed withholding returns. Rumsey kept accounting records of receipts and disbursements for petitioner's account. The ledger sheet records of the account in the name of petitioner showing receipts and disbursements for the years 1920, 1921, 1922, and 1923 are still in existence, and were received in evidence in this proceeding. These ledger sheets contain handwritten entries in ink of payments of income tax which were made by Rumsey or someone in his office for petitioner to a collector of internal revenue. The entries were made by Rumsey's bookkeeper, James Hart, deceased. James Hart was Rumsey's bookkeeper from October 1, 1914, until April, 1937. He died in March, 1943. The account of petitioner which was kept by Rumsey contains entries of payments of taxes for petitioner to a collector of internal revenue as follows: June 16, 1919$2,070.42March 24, 1923430.00March 31, 19231,781.22April 12, 19234,739.72August 23, 19231,267.24159 All of the foregoing payments were payments of income tax reported on returns of petitioner. None of the payments were for withholding tax. Petitioner filed income tax returns either himself or through Rumsey, his agent, for the years 1917, 1918, 1919, and 1920, which respondent does not deny. Rumsey moved his offices to smaller quarters in May, 1938. At that time he destroyed a great many of his records, cancelled checks, copies of income tax returns, and correspondence for years prior to 1930 or 1931, including copies of income tax returns of petitioner, and cancelled checks given in payment of petitioner's income tax. When Rumsey destroyed accumulated records in 1938, he understood that all income tax liability of petitioner for the years 1917 through 1922 had been settled and disposed of. In 1923, the Treasury Department raised questions about petitioner's income tax liability for prior years including 1922, upon the basis of a field audit. Rumsey and Denby had several conferences with an agent of the Department in the summer of 1923, which culminated in the payment of deficiencies for years up to 1923 in a total amount in excess of one thousand dollars. Denby understood160 that the payments disposed of petitioner's income tax liability for years prior to 1923. Rumsey received a letter from a Washington office of the Bureau of Internal Revenue in 1923 in connection with these payments, but the letter cannot be found. It may have been destroyed in 1938, along with other papers disposed of when Rumsey moved his office. Watson Washburn, petitioner's attorney, with his partner Halsey Malone, deceased, represented petitioner in the spring of 1933, when petitioner's income tax liability for years beginning with 1926 was the subject of a field audit. During the course of conferences with agents of the Treasury Department, Washburn inquired into the matter of whether income tax returns had been filed for petitioner for several years prior to 1926, and he was advised by Rumsey that returns had been filed for years including 1921 and 1922. He was advised by Denby that settlement had been made of and deficiencies paid in 1923 on petitioner's income tax liability up to 1923. Washburn, at the time of the investigation by the Treasury Department in 1933, was informed by revenue agents that they were unable to find any record of the filing of income tax returns161 of petitioner subsequent to 1924. The investigation continued for three years, and from time to time Washburn held conferences with agents about petitioner's income tax returns and his liability for income tax. During these conferences, the agents did not contend that returns had not been filed for years prior to 1925. Washburn made an office memorandum about the tax matters he was working on for petitioner in which he summarized the points at issue. Washburn's office memorandum stated, in part, the following: "With regard to the returns for the years prior to 1932, the attorneys and the federal auditors first endeavored to ascertain what was the last year for which a return was filed on behalf of Mr. and Mrs. Wodehouse. Mr. Wodehouse, who had relied on American agents to attend to his American tax matters, believed a return had been filed in 1925, but the attorneys and the auditors could not find proof that any return (other than withholding returns) was filed after 1924. Accordingly, it was agreed that the proper dates of liability should be fixed for the years 1925 to 1931, inclusive." Income tax returns and records of payments of taxes for the years including 1921 through 1923162 were destroyed by the Treasury Department under authorization of Congress to destroy old records. The authorization was given as of February 17, 1930, to make destruction on November 15, 1930, of income tax returns for the years 1913 to 1923. Income tax returns for years including 1921 and 1922 were destroyed by the Commissioner of Internal Revenue shortly after November, 1930. Any papers and records of audits which were attached to returns were destroyed, also. In July, 1946, card records which were kept in Washington of income tax returns and tax payments for years including 1921 and 1922 were destroyed by the Commissioner, as well as special correspondence relating to allegedly delinquent tax returns for the years 1921 and 1922. Personal income tax returns which report income in excess of $5,000 are forwarded to Washington from the offices of the various collectors, in due course, where they are held until they are destroyed pursuant to authorization. For the years 1921 and 1922, no distinction was made, in the keeping of records and tax returns, between the returns of resident citizens and nonresident aliens. The various collectors of internal revenue keep records of returns163 which are filed in their offices but the returns themselves are sent to the Bureau of Internal Revenue in Washington. The Bureau in Washington makes its own card records of returns received. The card records of the Bureau in the Washington offices of returns filed for years including 1921 and 1922 have been destroyed. They were destroyed in 1946. Withholding tax returns were audited in Washington. Withholding tax returns, filed by agents, listed the names of nonresident aliens for whom tax had been withheld. If some question was raised about the income tax returns of any nonresident alien, or if claim for refund was filed by or for a nonresident alien, some record was made in the division in Washington which held the withholding tax returns. When tax returns were destroyed in Washington, returns were destroyed for years for which collection of taxes was barred by the statute of limitations. Certain records and returns were not destroyed in 1930, but were held for various reasons. Such returns and records were destroyed, however, in July, 1946. The petitioner has filed with the respondent his election to claim the benefit of the Anglo-American Tax Treaty. On July 27, 1945, the164 respondent mailed a notice of deficiency to the petitioner for the years 1921 and 1922. Income tax returns for the years 1921 and 1922 were filed for petitioner. Opinion The chief question is whether income tax returns of petitioner for the years 1921 and 1922 were filed. If returns were filed, the deficiencies which the respondent has determined are barred by the statute of limitations prescribed in section 277 (a) of the 1924 Revenue Act and in section 275 (a) of the Internal Revenue Code. It has been found as a fact that income tax returns for 1921 and 1922 were filed for petitioner. This finding of fact is made upon the entire record in this proceeding, bearing in mind the difficult task which petitioner has of proving facts after approximately 25 years. Petitioner called as witnesses the two persons who handled his business affairs and tax matters during the years in question, and the attorney he had retained at some time close to the year 1933 to represent him in conferences with agents of the Treasury Department. Rumsey and Denby testified that, to the best of their knowledge, they had filed income tax returns for petitioner for the years 1921165 and 1922. In addition, they testified that during the summer of 1923 they reached a settlement with agents of the Bureau of Internal Revenue in respect to petitioner's income tax liability for years prior to 1923. The attorney testified that agents of the Treasury were satisfied in 1933 that returns had been filed for petitioner for years prior to 1925. There is no reason to disbelieve the testimony of these witnesses. In addition to their testimony, there are bookkeeping entries in the account of petitioner kept by Rumsey which show that income tax payments were made for petitioner. The entries were offered to prove that payments were made of petitioner's income taxes for 1921 and 1922, and we are satisfied that they were. The reasonable conclusion to be drawn is, therefore, that income tax returns were filed for petitioner for 1921 and 1922. It is held that the deficiencies asserted for 1921 and 1922 are barred by the statute of limitations. Decision will be entered for the petitioner.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623702/	Thomas J. Thompson v. Commissioner.Thompson v. CommissionerDocket No. 75384.United States Tax CourtT.C. Memo 1962-197; 1962 Tax Ct. Memo LEXIS 114; 21 T.C.M. (CCH) 1066; T.C.M. (RIA) 62197; August 16, 1962114 Petitioner owned and operated a profitable rigging business during the years 1945 through 1949, and during 1951. Held: 1. Petitioner substantially understated his income for each of the years involved. 2. At least a part of the deficiencies for each of the years was due to fraud with intent to evade tax. 3. None of the years is barred by the statute of limitations. 4. Additions to tax for petitioner's failure to timely file his 1946 income tax return sustained. 5. Additions to tax for petitioner's failure to file declarations of estimated tax for each of the years involved sustained. Stephen P. Cadden, Esq., and Dennis DeBerry, Esq., for the respondent. BRUCE Memorandum Findings of Fact and Opinion BRUCE, Judge: Respondent determined deficiencies in income tax and additions to tax for the years 1945 to 1949, inclusive, and for the year 1951, as follows: Additions to Tax, I.R.C. 1939YearDeficiencySec. 291(a)Sec. 293(b)Sec. 294(d)(1)(A)Sec.294(d)(2)1945$ 4,912.69$2,456.35$ 449.43$ 299.6219463,031.08$151.551,515.54285.95190.6219476,687.333,343.67615.71410.481948851.57425.7976.6451.0919493,253.341,626.67306.83204.56195117,579.368,789.681,587.341,058.22This case was regularly called 115 for trial at Philadelphia, Pennsylvania, on November 7, 1961, at which time no appearance was made and no evidence was offered by or on behalf of the petitioner. Nor has any brief been filed by or on behalf of petitioner. On opening statement and on brief, respondent has conceded that petitioner is not liable for the additions to tax under section 294(d)(2), Internal Revenue Code of 1939, for any of the years involved. Commissioner v. Acker, 361 U.S. 87">361 U.S. 87. The following issues are presented: (1) Whether petitioner failed to report for income tax purposes $14,143.38 in 1945, $10,903.40 in 1946, $18,889.43 in 1947, $3,978.55 in 1948, $12,055.76 in 1949, and $35,775.75 in 1951, or a total of $95,746.27; (2) whether petitioner is liable for additions to tax for fraud for each of the years involved under section 293(b), Internal Revenue Code of 1939; (3) whether the assessment and collection of deficiencies and additions to tax for any of the years 1945 to 1949, inclusive, are barred by the statute of limitations; (4) whether petitioner is liable for an addition to tax for delinquency for 1946 under section 291(a), Internal Revenue Code of 1939; and (5) whether petitioner is liable for 116 additions to tax for failure to file declarations of estimated tax for the years 1945 to 1949, inclusive, and for the year 1951 under section 294(d)(1)(A), Internal Revenue Code of 1939. Findings of Fact Petitioner was unmarried during all of the material years. His principal place of business was Philadelphia, Pennsylvania, where he owned and operated a rigging, engineering, and general contracting business dealing in ornamental and structural steel fabrication, erection and dismantling, and other heavy rigging work. The business was conducted by petitioner under several names, including Thompson Engineering and Construction Company, Thomas J. Thompson Engineering, American Elevator Rope Splicers, American House Movers, American Safe Movers, and American Wrecking Company. Petitioner filed individual income tax returns with the collector of internal revenue in Philadelphia. Returns for 1946, 1947, 1948, 1949, and 1951 contain no itemization of income sources and no specification of expenses. The returns for 1946, 1947, and 1948 only list an amount under total income. The return for 1949 lists $1,700 in Schedule E with the explanation "Self employed - (rigger)." The 1951 return shows 117 $1,850 as net profit from petitioner's business as a rigger. Petitioner's returns showed the following income and tax liabilities: IncomeYearReportedTax Reported1945$1,924 $ 81.0019461,950146.0019472,000154.0019481,80019491,700156.0019511,850138.63During examination of his tax liabilities for the years involved, petitioner told revenue agents that he was a journeyman rigger earning only enough money to enable his sister and himself to get by and never more than $35 to $40 per week. He stated that he reported for income tax purposes whatever cash was left over at the end of the year and that he never kept any records other than a small black notebook, which he had lost. He denied having a checking account. Petitioner maintained an active checking account at Central-Penn National Bank in Philadelphia from the year 1919 to and including the years in question. Petitioner denied ever having had employees. Records of the Pennsylvania Bureau of Employment Security disclose 118 that petitioner made reports to that agency, declaring that he had 3 employees in the third and fourth quarters of 1949, 14 in the first quarter of 1951, 13 in the second quarter of 1951, and 5 in the third and fourth quarters of 1951. Petitioner carried unemployment compensation policies for his employees with the United States Fidelity and Guaranty Company. Respondent determined petitioner's taxable income for the years 1945 through 1949 and for the year 1951 through analysis of petitioner's bank balances, estimated living expenses, assets acquired, and depreciation. Respondent gave petitioner credit for deductible business expenses in the amount of all withdrawals from petitioner's checking account, and his computations reflect redeposits made by petitioner. Petitioner had unreported income for the years and in the amounts disclosed by the following computations: EstimatedPersonalCapitalBank BalanceTotalIncomeUnreported[Year]ExpendituresExpendituresIncreasesAvailableReportedIncome1945$3,100$13,467.38$16,567.38$1,924$14,643.3819462,60010,753.4013,353.401,95011,403.4019472,600Delaware Ave.7,080.1821,389.432,00019,389.43Property - $7,109.25Autocar Truck - $1,600Improvements - $3,00019482,600Delaware Ave.(20,180.23)6,420.611,8004,620.61Property - $17,290.75Crane - $8,670Depreciation -($1,959.91)19492,000Buick - $2,376.2013,676.4114,755.761,70013,055.76Depreciation -($3,296.85)19512,000Depreciation -38,485.6238,625.751,85036,775.75($1,859.87)119 Known receipts from the business in the taxable years 1948, 1949, and 1951 are as follows: 194819491951Sloane-Blabon Corporation$1,862.50$39,035.72The Sharples Corporation2,115.87$ 615.80General Piping and Equipment Co.1,698.43Camden Forge Co.1,000.00Koedding, Inc.550.00Sears, Roebuck and Co.330.00Robert E. Lamb & Son, Inc.100.00H. W. Butterworth & Sons Co.59,790.23Lukens Steel Co.15,566.99Globe Ticket Co.2,560.11A. L. Hyde Co.131.37Total$1,862.50$44,830.02$78,664.50Following indictment by the Grand Jury on November 16, 1955, on two counts of willfully and knowingly attempting to evade and defeat income taxes for the years 1949 and 1951 by causing a false and fraudulent income tax return to be filed for each of those years, petitioner was tried before a jury in the United States District Court for the Eastern District of Pennsylvania and was found guilty on both counts on December 12, 1956. In the absence of any books of account or records, respondent computed petitioner's income tax liabilities on the basis of increases or decreases in petitioner's bank balances and gave consideration to petitioner's estimated living expenses, assets acquired, and depreciation. Petitioner failed to 120 report net taxable income in the following amounts: YearAmount1945$14,143.38194610,903.40194718,889.4319483,978.55194912,055.76195135,775.75Total$95,746.27Petitioner's individual income tax return for the year 1946 was due to have been filed March 15, 1947. The return was not filed by petitioner until March 24, 1947. Petitioner failed to make and file declarations of estimated taxes for each of the years involved within the time prescribed. At least a part of the deficiency for each of the taxable years involved was due to fraud with intent to evade tax. Petitioner filed a false or fraudulent return with intent to evade tax for each of the years 1945 to 1949, inclusive. Opinion Petitioner has the burden of overcoming the presumptive correctness of the deficiencies determined by respondent. Petitioner did not appear at the trial in person or by counsel. No evidence was offered and no brief has been filed by or on his behalf. In the absence of any evidence to refute the same, the deficiencies determined by respondent are sustained. The question remains, however, whether the assessment and collection of the deficiencies, as well as the additions to tax determined by respondent for the 121 years 1945 to 1949, inclusive, are barred by limitations as provided by section 275(a) of the Internal Revenue Code of 1939, or come within the exception provided by section 276(a). Limitation was not pleaded with respect to the year 1951 and that issue is not presented as to 1951. Closely related to the question of limitations is the question whether any part of the deficiency for each of the years involved was due to fraud with intent to evade tax so as to render petitioner liable for the additions to tax provided by section 293(b). The burden of establishing fraud for either purpose is upon respondent, section 1122; W. A. Shaw, 27 T.C. 561">27 T.C. 561, affd. 252 F. 2d 681 (C.A. 6), and must be established by clear and convincing evidence, Arlette Coat Co., 14 T.C. 751">14 T.C. 751. We think respondent has sustained his burden in both respects and have so concluded in our findings of fact. In the absence of any records maintained by petitioner, respondent computed petitioner's taxable income by the bank deposits method. He analyzed the deposits in petitioner's checking account, estimated living expenses, took cognizance of capital purchases, gave credit for depreciation and treated all checks written 122 as deductible business expenses. From this analysis respondent determined that petitioner had underestimated his income for each of the years involved in the amounts set forth in our findings. For the years 1948, 1949, and 1951, respondent also introduced corroborative evidence of specific business receipts which were in excess of the income reported by petitioner for those years. Not only is it well settled that unexplained bank deposits are evidence of receipt of taxable income, Goe v. Commissioner, 198 F. 2d 851 (C.A. 3), affirming a Memorandum Opinion of this Court; Russell C. Mauch, 35 B.T.A. 617">35 B.T.A. 617, affd. 113 F. 2d 555 (C.A. 3); Joseph Calafato, 42 B.T.A. 881">42 B.T.A. 881, affd. 124 F. 2d 187 (C.A. 3); Hoefle v. Commissioner, 114 F. 2d 713 (C.A. 6); Hague Estate v. Commissioner, 132 F. 2d 775 (C.A. 2); Louis Halle, 7 T.C. 245">7 T.C. 245, affd. 175 F. 2d 500 (C.A. 2); Fada Gobins, 18 T.C. 1159">18 T.C. 1159, 1168, affd. 217 F. 2d 952 (C.A. 9); Herman J. Romer, 28 T.C. 1228">28 T.C. 1228, 1244, 1254, but the failure to report such unexplained bank deposits has been held evidence of fraud, Goe v. Commissioner, supra; Oliver v. United States, 54 F. 2d 48 (C.A. 7); Russell C. Mauch, supra. See also Fada Gobins, supra; 123 Herman J. Romer, supra. Where, as here, in addition to the unexplained bank deposits there is evidence of identified income-producing activities and evidence of attempted concealment, it is reasonable to infer that the failure to report such income was due to fraud with intent to evade tax. Gleckman v. United States, 80 F. 2d 394 (C.A. 8); Goe v. Commissioner, supra. In each of the taxable years in question, except 1948 during which he made capital purchases in excess of $25,000, petitioner's bank balance increases ranged from $7,080.18 (in 1947) to $38,485.62 (in 1951). During each of these years petitioner never reported income in excess of $2,000. During all these years petitioner owned and operated a rigging, engineering and general contracting business dealing in ornamental and structural steel fabrication, erection and dismantling, and other heavy rigging work. His business was conducted under several names, including Thompson Engineering and Construction Company, Thomas J. Thompson Engineering, American Elevator Rope Splicers, American House Movers, American Safe Movers, and American Wrecking Company. He employed from 3 to 14 employees at various times for whom he made reports 124 to the Pennsylvania Bureau of Employment Security and carried unemployment compensation insurance. Notwithstanding such business activities petitioner represented to the revenue agents investigating his income tax liability that he was a journeyman rigger and never earned more than $35 to $40 per week. He further denied having a checking account. Moreover, petitioner's return for each of the years involved (except 1945 for which no return was available) lists only a single amount as total income and contains no itemization as to sources of income or expenses. On the facts presented, it is clear that the petitioner understated his taxable income for each of the years involved and that such understatements were due to fraud with intent to evade tax. Accordingly, we hold that at least a part of the deficiencies for each of the years involved was due to fraud with intent to evade tax and that petitioner is liable for the additions to tax imposed by section 293(b) of the Internal Revenue Code of 1939. It necessarily follows that petitioner filed a false or fraudulent return for each of the years 1945 to 1949, inclusive, and that the assessment and collection of the deficiency for each of 125 said years are not barred by limitations. Section 276(a), Internal Revenue Code of 1939. The fact that the return for 1945 was not available at the time of trial is immaterial in view of petitioner's admission on pleading that he had adjusted gross income in the amount computed by respondent. Granauist v. Harvey. 258 F. 2d 599 (C.A. 9). Alex Rubinstein, 29 T.C. 861">29 T.C. 861, affd. 264 F. 2d 478 (C.A. 3), is distinguishable on the facts. Petitioner failed to timely file his income tax return for the year 1946. In the absence of any showing that this failure was due to reasonable cause, he is liable for the addition to tax provided by section 291(a), Internal Revenue Code of 1939. Petitioner failed to file declarations of estimated tax as to each of the years involved within the time prescribed. In the absence of any showing that these failures were due to reasonable cause, petitioner is liable for the additions to tax under section 294(d)(1)(A), Internal Revenue Code of 1939. Decision will be entered for the respondent in the amounts of the deficiencies and additions to tax determined by respondent, except the additions to tax under section 294(d)(2). Footnotes. No return is available for 1945. Respondent computed income reported on the basis of the tax reported. In his reply to respondent's answer, petitioner admitted having reported adjusted gross income in the amount shown.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623703/	LYLE A. AND FLORENCE WHITNEY CHAPMAN, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, Respondent; DURANT FOUNDRY AND MACHINE CO., Petitioner v. COMMISSIONER OF INTERNAL REVENUE, RespondentChapman v. CommissionerDocket Nos. 3434-78, 3435-78.1United States Tax CourtT.C. Memo 1982-307; 1982 Tax Ct. Memo LEXIS 441; 44 T.C.M. (CCH) 35; T.C.M. (RIA) 82307; June 3, 1982. Lyle A. Chapman, pro se. Robert M. Fowler,442 for the respondent. SHIELDSMEMORANDUM FINDINGS OF FACT AND OPINION SHIELDS, Judge: Respondent determined deficiencies and additions to tax in petitioners' Federal income taxes for 1973 and 1974 as follows: Lyle A. and Florence Whitney Chapman (Chapmans) YearDeficiencySec. 6653 (a) 21973$ 42,319.03$ 2,115.95197415,847.26792.36Durant Fountry and Machine Co. (Durant) YearDeficiencySec. 6653 (a)1973$ 33,464.41$ 1,673.2219744,021.34201.06After concessions by the parties, the issues remaining for decision are (1) whether the Chapmans failed to report in 1973 wage income of $ 30,000; (2) whether the Chapmans received dividend income from Durant in 1973 and 1974; (3) whether respondent abused his discretion in requiring443 Durant to change its method of accounting from cash basis to accrual; (4) whether respondent properly adjusted the ending 1973/beginning 1974 inventory of Durant to reflect a metals purchase made in 1973; and (5) whether petitioners are liable for additions to tax in 1973 and 1974 under section 6653(a). FINDINGS OF FACT Lyle A. Chapman and Florence Whitney ChapmanPetitioners Lyle A. Chapman and Florence Whitney Chapman resided in Durant, Iowa, when they filed their petition herein. Mr. Chapman was president and majority shareholder of Durant Foundry and Machine Co. during the years in issue. Durant issued and delivered three checks, totalling $ 30,000, to Mr. Chapman as wages in 1973. Durant then claimed a deduction of $ 30,000 on its corporate return for that year as compensation paid to Mr. Chapman. Although Mr. Chapman received the checks in 1973, the record is not clear as to when he cashed them. However, he did not report the $ 30,000 as wage income in that year. Sometime in 1973, Durant sought to invest $ 150,000, which it held in a certificate of deposit, in common stock. Mr. Chapman, as president, was advised that Durant could not legally invest those444 monies in common stocks. Consequently, Durant cashed the certificate of deposit and transferred the monies to Mr. Chapman's personal account. Durant characterized this transaction on its books as an interest free loan to Mr. Chapman. Mr. Chapman subsequently invested the loan proceeds in various common stocks. At the time of trial, Mr. Chapman had paid down the original $ 150,000 loan balance to $ 43,800. Upon the advice of an accounting firm, Durant declared dividends payable to Mr. Chapman of $ 32,100 in 1973 and $ 14,500 in 1974. Also upon the advice of the accounting firm, Mr. Chapman applied these dividends against his outstanding loan balance with Durant. The Chapmans reported the dividends received by Mr. Chapman from Durant in 1973 on their joint return for that year. 3 They did not report the 1974 dividends on their joint return for that year. The Internal Revenue Service began an examination of the Chapmans' 445 1973 income tax return in 1974.The examining agent told the Chapmans that he would challenge their method of reporting the dividends which Durant had declared in 1973. 4 Mr. Chapman told the agent that since no money had actually changed hands between him and Durant, he would erase 5 the declared dividends from the books and would restore the loan to its original balance so as to avoid respondent's unexpected challenge. The agent did not inform Mr. Chapman that he could not undo the challenged transaction by making compensating book entries. During the years in issue, the Chapmans drove their personally-owned truck in the course of Durant's business. Mrs. Chapman kept weekly records of the expenditures and the mileage they incurred when operating the truck for Durant. She gave these records to Mr. Chapman each week, and he would total the expenses and mileage figures before recording the totals on a sheet446 which he kept for that purpose. In this manner, he determined that he and his wife spent 20.35 cents per mile operating their truck for Durant. 6The Chapmans also operated a truck owned by Durant in the course of Durant's business. The record does not show the amount of the expenses the Chapmans incurred when operating that truck for Durant. Durant Foundry and Machine Co.Durant was a corporation doing business in Iowa at the time it filed its petition herein. During the years in issue, it was a cash basis taxpayer and had so reported its income since 1957. Durant made aluminum castings to order following customer specifications. 447 It kept inventories of aluminum ingot which did not exceed a one-month supply because: (1) its sales of castings did not vary significantly month to month; (2) it had limited storage space, and the capital cost of carrying inventory was high; and, (3) it used ingot of different specifications for each order. Generally, Durant would monthly consume its entire aluminum ingot inventory by making and selling castings. During 1973, Durant purchased metals as follows: February 6, 1973$ 666.45June 26, 1973646.03July 27, 1973832.51August 6, 197311,123.43October 25, 19731,219.75November 20, 1973286.00December 24, 1973 713,718.64Total$ 28,492.81It also made two additional metals purchases of approximately $ 9,150 each. However, the record does not show when these purchases were made. Durant's sales for the first eight four-week periods in 1973 were approximately $ 16,000; $ 17,000; $ 17,000; $ 18,000; $ 18,000; $ 18,000; 448 $ 18,000; and $ 19,000, respectively. Its sales for the last four-week period of 1973 was $ 19,634. At the beginning of 1973, Durant had inventories valued at $ 8,500. At the end of 1974, Durant had inventories valued at $ 7,444. Since Durant made all of its sales on credit, it also had accounts receivable. At the beginning of 1973, its accounts receivable were $ 29,644, at the beginning of 1974, they were $ 27,655.61, and at the end of 1974, they were $ 63,532. OPINION Lyle A. Chapman and Florence Whitney Chapman1. 1973 Wage Income from DurantThe parties have stipulated that Durant paid Mr. Chapman wages of $ 30,000 in 1973 by signing and delivering to him, in 1973, three checks totalling $ 30,000. The record shows that Mr. Chapman did not believe checks were taxable income until he cashed them. Although the record is not conclusive, it also appears that Mr. Chapman did not negotiate these checks in the year in which he received them. In any event, Mr. Chapman did not report the $ 30,000 as wages during 1973, although Durant deducted the $ 30,000 as wages paid. As a general rule, 449 checks are considered income during the year in which they are received. This is true whether or not they are cashed during the year. There are limited exceptions to this rule if the issuer is insolvent or if there are substantial restrictions on the check's current negotiability. See, e.g., Lavery v. Commissioner,158 F.2d 859">158 F.2d 859 (7th Cir. 1946), affg. 5 T.C. 1283">5 T.C. 1283 (1945); Kahler v. Commissioner,18 T.C. 31">18 T.C. 31 (1952). Here, there is no evidence that either of these exceptions apply. Durant was not insolvent and there were no limits on the negotiability of the checks. Thus, the checks totalling $ 30,000 which Mr. Chapman received in 1973 from Durant were income in 1973 whether or not he cashed the checks in 1973. Accordingly, respondent's determination that the Chapmans had $ 30,000 additional wage income in 1973 will be sustained. 2. Dividend Income in 1973 and 1974The Chapmans concede that Durant declared dividends in 1973 and 1974, albeit upon the faulty advice of an accountant. They also agree that, initially, Mr. Chapman applied the amount of the dividends against the balance of Durant's $ 150,000 loan to Mr. Chapman. 450 However, they point out that the substance of the transactions was a series of offsetting book entries in which no money physically changed hands. Thus, they argue that since Mr. Chapman "erased" the dividends and restored the loan to its pre-dividend balance, the purported tax consequences of the original transactions should be disregarded. We sympathize with the Chapmans' frustrations at having received faulty advice from their accountant. Moreover, we understand that when no hard cash has passed between hands, it can appear inequitable to treat an easily-reversed book entry as having particular tax consequences. However, the Chapmans chose to operate their business in the corporate form. They must accept the consequences of Durant's corporate existence. See Moline Properties, Inc. v. Commissioner,319 U.S. 436">319 U.S. 436 (1943). One consequence is that a shareholder has taxable income when he receives a dividend. Sections 301(c), 316.This consequence is not altered by the fact that Durant did not pay Mr. Chapman's dividends in cash. Mr. Chapman constructively received the451 dividends because he was able to apply them against his outstanding personal loan balance with Durant.See, e.g., Roe v. Commissioner,192 F.2d 398">192 F.2d 398 (5th Cir. 1951); Bush Brothers & Co. v. Commissioner,73 T.C. 424">73 T.C. 424 (1979), affd. 668 F.2d 252">668 F.2d 252 (6th Cir. 1982). Nor is the consequence altered by the fact that Mr. Chapman effectively returned the monies to Durant by changing its book entries. When a dividend has been declared and paid, it is income to the recipient shareholder. This is true even if the recipient shareholder immediately restores the amounts he has received to the distributing company pursuant to a prior agreement, by his own initiative, or upon request of the issuing board of directors. See Crellin's Estate v. Commissioner,203 F.2d 812">203 F.2d 812 (9th Cir. 1953), cert. denied 346 U.S. 873">346 U.S. 873 (1953); Soreng v. Commissioner,158 F.2d 340">158 F.2d 340 (7th Cir. 1946); Barnhardt v. United States,98 F. Supp. 552">98 F. Supp. 552 (D. N.C. 1951); Swanson v. Commissioner,2 B.T.A. 1112">2 B.T.A. 1112 (1925). Thus, we find that the Chapmans received dividend income from Durant in 1973 and 1974. Respondent's452 determination on this issue will be sustained. 3. Deduction for Truck Mileage ExpensesIn 1973 and 1974, the Chapmans drove their own truck, as well as a truck owned by Durant, in the course of Durant's business. They incurred various expenses in operating their own truck. Durant reimbursed them for these expenses at a rate per mile which exceeded the rate then allowed by the respondent, 8 and petitioners included such reimbursement in income. Respondent contends that the Chapmans are not entitled to deduct the excess amount because they did not introduce documentary evidence showing that their expenses per mile equalled or exceeded the rate at which they were reimbursed. The Chapmans have the burden of showing error in respondent's determination. 453 Rule 142(a). 9 We find that they have satisfied their burden of proof in this case. The transcript of Mr. Chapman's testimony shows him to be forthright and credible.He brought with him figures and gave precise testimony as to events and costs relating to the operation of his own truck. Moreover, his testimony was based upon weekly records that he and his wife maintained. 10 While we agree that the production of documentary evidence would have been desirable, 11 we have no cause to disbelieve the figures Mr. Chapman presented. 12 Moreover, it is evident from the transcript that the Chapmans were unaware that respondent sought particularized documentary substantiation of the truck mileage expenses, and that they would have produced for him adequate records prior to trial had he requested them. From these facts, we hold that the Chapmans are entitled to a mileage deduction of 20.35 cents per mile for those miles they drove their own truck on Durant's business in 1973 and 1974. 454 Respondent also challenged the Chapmans' mileage deduction in excess of the standard rate with respect to their business operation of a truck owned by Durant. The Chapmans did not produce documentary or testimonial evidence to support a deduction in excess of the standard rate. Mr. Chapman's testimony related only to the costs of operating his own truck. Because the Chapmans have failed to produce evidence from which we can determine their expenses of operating Durant's truck, they have failed to meet their burden of proof on this point. Rule 142(a). Accordingly, respondent's determination is sustained with respect to the operation of Durant's truck. 4. NegligenceRespondent asserts that the Chapmans are liable for additions to tax under section 6653(a) in 1973 and 1974 because they failed to report $ 30,000 of wage income in 1973 and $ 14,500 of dividend income in 1974. We disagree. By the time of the trial, Mr. Chapman had forgotten why he failed to report, in 1973, the $ 30,000 he received from Durant. However, his incomplete present recollection does not show that he was negligent in 1973. The record shows that Mr. Chapman was under the mistaken belief that455 a check is not income until it is cashed. Moreover, his uncontradicted testimony established that, as a matter of habit, he often deferred cashing checks from Durant to help its financial position. We believe that Mr. Chapman failed to cash the checks in 1973 and failed to report them under his honest belief that they were not yet income. Nevertheless, he caused Durant to report, in 1973, the wage income it had paid him. This left a trail to Mr. Chapman which does not comport with intentional disregard of income tax rules and regulations. We are also not convinced that the Chapmans' failure to report dividend income in 1974 was due to negligence. They initially caused this corporation to declare the dividends pursuant to wrongful advice from their accountant. Their later attempts to undo the unanticipated effects of the declaration were fully disclosed to respondent. These attempts were executed in the good faith belief that a transaction executed only on paper could be completely reversed by book-keeping entries. Under the aforementioned circumstances, we find that the Chapmans are not liable for an addition to tax under section 6653(a). Durant Foundry and Machine Co.456 1. Change in Method of AccountingDurant has reported its income on the cash receipts and disbursements method since 1957, although it has inventories and accounts receivable. Respondent has several times audited Durant's returns without requiring it to change its accounting method. Respondent now asserts that Durant should report its income using the accrual method. Section 1.446-1(a)(4)(i), Income Tax Regs., provides that a taxpayer who is involved in the production, purchase, or sale of merchandise must account for merchandise on hand at the beginning and end of each year, so as to compute properly taxable income for each year. The regulation further provides that such merchandise is to be acounted for under the methods of computing inventories provided in sections 471 and 472, and the regulations thereunder. Following the regulations under section 446, it becomes apparent that it is necessary for Durant to use inventories. As stated in section 1.471-1, Income Tax Regs.457 : In order to reflect taxable income correctly, inventories at the beginning and end of each taxable year are necessary in every case in which the production, purchase, or sale of merchandise is an income-producing factor. [Emphasis added.] Thus, because Durant is involved in the purchase, production, and sale of merchandise, it must use inventories. 13 Accordingly, under section 1.446-1(c)(2)(i), Durant must use the accrual method of accounting to report its purchases and sales unless it can show that it has been otherwise authorized by respondent. Section 1.446-1(c)(2)(i), Income Tax Regs.Durant stresses that it has reported its income on the cash receipts and disbursements method since 1957 and that respondent has several times458 audited its returns without requiring it to change its method. Durant argues, in effect, that respondent's past acceptance of its cash basis accounting constitutes authorization of that method. Unfortunately for Durant, the case law is otherwise. Respondent's acceptance of Durant's cash basis accounting in earlier years does not constitute authorization of Durant's method of accounting. Caldwell v. Commissioner,202 F.2d 112">202 F.2d 112, 115 (2d Cir. 1953), affg. a Memorandum Opinion of this Court; Ezo Products Co. v. Commissioner,37 T.C. 385">37 T.C. 385 (1961). Moreover, respondent's failure to object to Durant's method of accounting does not estop him from later challenging that method. Niles Bement Pond Co. v. United States,281 U.S. 357">281 U.S. 357 (1930); Caldwell v. Commissioner,supra.Although Durant's surprise at respondent's challenge to its accounting method is understandable, it is not unusual for respondent to make such belated challenges. As has been stated in the past: The record shows that the taxpayers have consistently used the * * * system of accounting of which the Commissioner now complains. * * * Nevertheless, 459 the fact that the Commissioner accepted taxpayers' previous returns upon a cash basis without objection does not preclude him from computing the tax on the returns here involved upon an accrual basis. Iverson's Estate v. Commissioner,supra at 5. We are, thus, constrained to hold that respondent may require Durant to change to the accrual method even though he accepted Durant's cash basis method of accounting in the past. Accordingly, respondent's determination with respect to Durant's method of accounting will be sustained. 2. Durant's Inventory Ending 1973/Beginning 1974On December 14, 1973, U.S. Reduction Company shipped aluminum ingot to Durant. On December 24, 1973, Durant paid U.S. Reduction $ 13,718.64 for the metal. 14 However, Durant reported its ending 1973/beginning 1974 inventory value as only $ 6,500. In the notice of deficiency, respondent adjusted this reported inventory figure to reflect Durant's December 1973 metals purchase from U.S. Reduction Company. Durant argues that respondent should not have460 added any part of the metals purchase from U.S. Reduction Company to its ending 1973/beginning 1974 inventory. It claims that it had a consistent pattern of purchases and sales. In particular, Durant's president testified that Durant would monthly use up all of the ingot it had purchased. Moreover, his uncontradicted testimony showed that the company did not have space to store more than a month's supply of ingot and could not afford capital costs and carrying charges of a greater supply. Thus, Durant maintains that the metal it purchased in December from U.S. Reduction must have been used before year's end 1973, consistent with its pattern of use. Respondent insists that Durant could not have cast and sold ingot worth approximately $ 13,700 in two weeks. He points out that Durant's beginning inventory and check spreads show that the company could have consumed ingot worth only $ 10,644.99. during the first seven months of 1973. 15 In that same period, it had total sales of approximately $ 122,000. To contrast, during the last four weeks of 1973, it made a metals purchase of $ 13,718.64. Its total sales for those four weeks were only $ 19,634. Respondent claims that this461 discrepancy between Durant's sales and purchases for the first seven months and for the last four weeks of 1973 demonstrates that Durant could not have cast and sold approximately $ 13,700 worth of aluminum ingot in two weeks. Durant asserts that respondent's list of its metals purchases for 1973 is incomplete. It maintains that it made two additional metals purchases of approximately $ 9,150 each. Thus, Durant contends that respondent improperly analyzed its monthly purchases and sales, and erroneously concluded that Durant could not have consumed the metals purchased from U.S. Reduction in two weeks.The parties have stipulated that Durant made two metals purchases in the amounts claimed by Durant. However, the stipulation does not show whether these purchases were made in 1972 or 1973. Moreover, there is no evidence as to the months in which these purchases were made. Durant asserts that respondent has copies of its records for these purchases, including cancelled checks. Thus, 462 Durant argues that respondent should have considered them as metals purchased and used in 1973. Unfortunately, these records were not introduced into evidence by either party through documentation or testimony. Because we do not have any evidence from Durant demonstrating when the additional metals purchases occurred, we must accept respondent's determination that Durant made only seven metals purchases in 1973. Welch v. Helvering,290 U.S. 111">290 U.S. 111 (1933); Rule 142(a). Respondent's list of Durant's metals purchases for 1973, when compared with Durant's monthly sales, is compelling evidence that the company did not use the ingot purchased in December from U.S. Reduction Co. before the end of 1973. The transcript of Mr. Chapman's testimony relating to Durant's general pattern of metals consumption was credible. Nonetheless, it was circumstantial evidence which, in this case, was too weak to overcome the presumptive correctness of respondent's determination. See Welch v. Helvering,supra.Accordingly, we find that an adjustment to Durant's ending 1973/beginning 1974 inventory to reflect the metals purchase from U.S. Reduction Co. is proper. 463 Respondent's determination will be sustained. 3. NegligenceRespondent contends that Durant is liable for an addition to tax under section 6653(a) because it maintained its records in poor condition. We find respondent to be overzealous. The exhibits of Durant's check spreads are carefully and clearly prepared. The testimony of Durant's president, Mr. Chapman, demonstrated that he maintained thorough records of the business and had a detailed memory for much of Durant's operations. The review of Durant's records for 1973 and 1974 by Durant's accountants for 1977 through 1979, showed that it had overstated, rather than understated, its income for those years using the cash receipts and disbursements method. Finally, there is no evidence that respondent has previously objected to Durant's manner of recordkeeping, although he has audited Durant's returns several times in the past. These facts demonstrate that Durant is not liable for an addition to tax under section 6653(a) due to negligence. Decisions will be entered under Rule 155.Footnotes1. These cases have been consolidated for purposes of trial briefing, and opinion.↩. These cases were tried before Judge Cynthia Holcomb Hall, who subsequently resigned from the Court. By order of the Chief Judge dated February 8, 1982, the cases were reassigned to Judge Perry Shields↩ for disposition.2. All section references are to the Internal Revenue Code of 1954, as amended during the years in issue, unless otherwise indicated.↩3. They now contend, in their petition and in a letter to respondent dated July 19, 1974, that they should not have reported these monies as dividends in 1973. Accordingly, they maintain that they overreported their income and are entitled to a refund.↩4. The substance, of the agent's objections was not apparent from the record. ↩5. From the evidence before us, we are uncertain whether this event was literal or figurative. It is not clear that the initial dividend transactions were ever recorded in Durant's books.↩6. The Chapmans brought to the trial the various expense figures for their operation of their truck in the course of Durant's business. The cost per mile of operating their truck was as follows: depreciation, 9.08 cents; gasoline, 5.08 cents; tires, 1.21 cents; insurance, 1.07 cents; repairs, 2.43 cents; oil and lubrication,.76 cents; and tolls,.72 cents. At trial, Mr. Chapman stated that their operating cost per mile totalled 20.95 cents. However, based upon the itemized costs, we find that the operating costs were 20.35 cents per mile.↩7. Durant paid U.S. Reduction Co. on December 24, 1973, for ingot which was shipped from Alabama on December 14, 1973. The record does not show when the ingot arrived, or whether Durant paid for it before it arrived.↩8. In 1973, the standard mileage rate for business use of a car was 12 cents per mile for 15,000 miles, and 9 cents per mile thereafter. Rev. Proc. 70-25, 2 C.B. 506">1970-2 C.B. 506. In 1974, the rates were 15 cents per mile for 15,000 miles, and 10 cents per mile thereafter. Rev. Proc. 74-23, 2 C.B. 476">1974-2 C.B. 476↩.9. All rule references are to the Tax Court Rules of Practice and Procedure.↩10. See Frankel v. Commissioner,T.C. Memo. 1968-168↩. 11. See Stewart v. Commissioner,T.C. Memo. 1976-390↩.12. Sec. 1.274-5(c)(2), Income Tax Regs., requires that travel expenses away from home be substantiated by adequate records, such as an account book, diary, or statement of expense. However, it requires that expenses of transportation away from home be supported by documentary evidence only where readily available. Sec. 1.274-5(c)(2)(iii)(b), Income Tax Regs. Moreover, it does not apply at all to local transportation expenses. See, e.g., Cobb v. Commissioner,77 T.C. 1096">77 T.C. 1096, 1101↩ (1981). Respondent does not contest that Mr. Chapman kept statements of expense, nor does he dispute that Mr. Chapman testified with particularity as to the contents of these expense statements. Thus, petitioners have adequately substantiated their away from home truck mileage expenses, as well as their local truck mileage expenses.13. For other discussions relating to inventory accounting and the accrual method see, e.g., Iverson's Estate v. Commissioner,255 F.2d 1">255 F.2d 1 (8th Cir. 1958), affg. 27 T.C. 786">27 T.C. 786 (1957), cert. denied 358 U.S. 893">358 U.S. 893 (1958); Primo Pants Company v. Commissioner, 78 T.C. (filed April 26, 1982); Ezo Products Co. v. Commissioner,37 T.C. 385">37 T.C. 385↩ (1961).14. The record does not show when the ingot arrived at Durant's factory.↩15. Durant's beginning 1973 inventory was $ 8,500. It made metals purchases totalling $ 2,144.99 between January 1, 1973, and July 27, 1973. The sum of $ 8,500 and $ 2,144.99 is $ 10,644.99.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623705/	Estate of Frank Pangas, Deceased, First National Bank of Akron, Executor (and) Andrew J. Michaels, Administrator w.w.a., Petitioner v. Commissioner of Internal Revenue, RespondentEstate of Pangas v. CommissionerDocket No. 5782-66United States Tax Court52 T.C. 99; 1969 U.S. Tax Ct. LEXIS 148; April 21, 1969, Filed 148 Decision will be entered under Rule 50. Decedent left a will providing for a residual trust to his wife and payment of Federal and State death taxes from the residue of of the estate. His spouse elected to take against the will, and her intestate share passed to her free from the burden of any State or Federal death taxes, pursuant to an order of the State Probate Court. Held: In determining the effect of Federal estate and State inheritance taxes on the surviving spouse's intestate share of the estate for purposes of computing the marital deduction the decision of the State Probate Court is not binding on this Court. Under Ohio law the decedent has not the power to relieve the electing spouse of the burden of her prorata share of Federal estate and State death taxes by provisions in the will. Therefore the marital deduction for Federal estate tax purposes is computed by reducing the value of the property passing to the surviving spouse by an appropriate portion of Federal estate and State inheritance taxes. Andrew J. Michaels, for the petitioner.F. E. Wrenick, for the respondent. Scott, Judge. SCOTT 99 OPINIONRespondent determined a deficiency in the amount of $ 19,778.11 in estate tax for the Estate of Frank Pangas. 1150 The only issue for decision in this case is the amount of the marital deduction to which the estate is entitled under section 2056, I.R.C. 1954. 2 The determination of this issue depends upon whether the widow's portion of the estate should be reduced by a proportionate share of State inheritance and Federal estate tax in computing the marital deduction for the purposes of Federal estate tax where the will provides for payment of all taxes from the residue of the estate and the widow elects to take against the will.The parties have fully stipulated the facts herein and the stipulated facts are found accordingly.Petitioner is the Estate of Frank Pangas, deceased, First National Bank of Akron, executor, and Andrew J. Michaels, administrator w.w.a., with principal offices at the date of the filing of the petition in this case in the First National Tower Building, Akron, Ohio. The 100 Federal estate tax return for the Estate of Frank Pangas, deceased151 was filed December 23, 1963, with the district director of internal revenue, Cleveland, Ohio.The decedent died testate September 25, 1962, and was survived by his wife and four children.In his will decedent left the residue of his estate in trust for the benefit of his widow and children. The residue was separated into two trusts, the first being for the benefit of the widow alone and consisting of approximately one-half of the "adjusted gross estate" as defined in the Internal Revenue Code, reduced by the amount of Federal estate taxes and Ohio inheritance taxes, and further reduced by the value, as found for Federal estate tax purposes, of all other property qualifying for the marital deduction, passing either under the will or independently of it. The second consisted of the remainder of the estate, and provided for the income to be paid to the wife for life, the remainder to be divided upon termination in equal shares among the living children, including by right of representation, the living grandchildren of the decedent.The will also provided that all death taxes, both Federal estate and local inheritance taxes, assessed or imposed "upon and with respect to property passing152 under this will or property not passing under this will shall be paid out of and charged to the residue of my estate."On November 16, 1962, the decedent's surviving spouse, Sultana Pangas, renounced the will and elected to take pursuant to the Ohio Statute of Descent and Distribution. The executors of the estate filed a petition in the Probate Court of Summit County, Ohio, to determine whether the widow's share, taken under the election, would bear any of the estate tax burden, or whether such taxes should be paid out of the residue as directed in the will of the decedent. On October 15, 1963, judgment was obtained in that proceeding, providing that the widow's share would pass free of the estate tax burden, which would be paid out of and charged to the residue of the estate as provided by the will.On the estate tax return a marital deduction was taken of the amount of the estate passing to the widow unreduced by Federal estate tax and State inheritance tax. Respondent in his notice of deficiency increased the taxable estate as reported on the return by $ 129,477.68 with the following explanation:The deduction for property passing to the surviving spouse is limited to $ 177,871.06153 reflecting the election of the surviving spouse to take under the statute of descent and distribution as reduced by its share of federal and state estate and inheritance taxes. 3101 In computing the marital deduction allowed by section 2056(a), section 2056(b)(4)(A) provides that the effect of any estate, succession, or inheritance taxes, including the Federal estate tax, shall be taken into account in valuing any interest in property passing to the surviving spouse and qualifying for the marital deduction.Whether any estate taxes are payable from the surviving spouse's interest is a matter governed by State law. Riggs v. del Drago, 317 U.S. 95 (1942). We must, therefore, look to the applicable laws154 of the State of Ohio to determine whether the property passing to a spouse who elects to take against the will of the decedent must bear a proportionate share of the estate taxes. If so, then the value of her interest must be proportionately reduced in computing the marital deduction allowable in computing Federal estate tax.Petitioner argues that this Court should be bound by the decision of the Probate Court of Summit County, Ohio, entered on October 15, 1963. As petitioner recognizes, the decision of the Supreme Court in Commissioner v. Estate of Bosch, 387 U.S. 456">387 U.S. 456 (1967), holds that Federal courts will no longer be bound by decisions of inferior State courts in determining a taxpayer's rights and liabilities under State law where Federal tax consequences are dependent on State laws. Rather in the absence of a decision of the highest court of a State, it is the responsibility of a Federal court in reaching its decision as to Federal tax liabilities to make its own determination of the applicable State law. The Federal court is bound only by a decision by the highest court of the State as to the law of that State. Petitioner contends, however, 155 that Commissioner v. Estate of Bosch, supra, is applicable only with respect to decisions of lower State courts entered after that decision by the Supreme Court. In the Bosch case an inferior State court had determined that the surviving spouse's share of the decedent's estate was not charged with a pro rata portion of the Federal estate tax. The Supreme Court held that the inferior State court's interpretation of the applicable State law was not controlling for the purposes of Federal estate tax. Since the decision of the inferior State court in the Bosch case had obviously been entered prior to the decision of the Supreme Court in that case we find no merit in petitioner's contention that the decision in Bosch is applicable only when the lower State court's decision was entered after the Supreme Court decided the Bosch case. We therefore hold that the Summit County Probate Court decision is not binding in this case and that we must make our own determination as to the law in the State of Ohio on which the question here in issue is dependent.Petitioner also argues that the Probate Court's decision was an accurate reflection 156 of the Ohio law as it existed at the time that decision 102 was rendered and that this Court should decide the issue in this case in accordance with the Probate Court's decision. Petitioner cites numerous cases which in the aggregate form the basis for its interpretation of the Ohio law at the time of the Probate Court's decision. Petitioner recognizes that in the recent case of Weeks v. Vanderveer, 13 Ohio St. 2d 15">13 Ohio St. 2d 15, 233 N.E. 2d 502 (1968), on facts indistinguishable from those in the instant case, the highest court of Ohio held directly opposite to the holding of the Probate Court in the instant case. Petitioner argues that the holding in Weeks v. Vanderveer, supra, changed the previously existing Ohio law and that the law of Ohio as it existed at the time the Probate Court entered its decision should govern this case. In Estate of Rose Gerber Jaeger, 27 T.C. 863">27 T.C. 863 (1957), affirmed per curiam 252 F. 2d 790 (C.A. 6, 1958), we held under facts somewhat different from those in the instant case that the most recent pronouncement157 of the highest court of a State controlled a case the determination of which was dependent on State law even though the decision had been entered after the date of the decedent's death and the filing of the estate tax return and had overruled a prior decision of the same State court. It would logically follow from our holding in Estate of Rose Gerber Jaeger, supra, that we should accept as controlling in the instant case the decision of the Supreme Court of Ohio in Weeks v. Vanderveer, supra.However, in our view the law as set forth in Weeks v. Vanderveer, supra, was the law of Ohio at the date of decedent's death and at the date the Probate Court entered its decision as to whether the portion of the decedent's estate passing to his surviving spouse should be charged with its prorata portion of Federal estate tax.The Ohio Supreme Court first considered the question of the Federal estate tax burden relative to the surviving spouse's intestate share in Miller v. Hammond, 156 Ohio St. 475">156 Ohio St. 475, 104 N.E. 2d 9 (1952).158 In that case the spouse had elected to take against the will, and had been charged pursuant to order of the Probate Court with her proportionate share of the Federal estate tax. In reversing the Probate Court's decision the Ohio Supreme Court applied an equitable theory of proratum and held that the widow's share of the estate was chargeable with only those taxes directly assessed by reason of her inheritance, thereby permitting her share up to the full allowable marital deduction to pass to her free from the burden of Federal taxes.In 1954, however, Miller v. Hammond, supra, was specifically overruled as to the equitable proratum holding by Campbell v. Lloyd, 162 Ohio St. 203">162 Ohio St. 203, 122 N.E. 2d 695 (1954). In the latter case the decedent's spouse elected to take against the will and the executor sought a declaration by decree as to whether there should be a deduction of the Federal estate tax from the estate before computing the widow's statutory 103 share. Making such a deduction would effectively charge the widow's share of the estate with a prorata portion of the Federal estate159 tax. The Probate Court held that the taxes should be so deducted and the widow appealed, citing Miller v. Hammond, supra.The Ohio Supreme Court held that Miller v. Hammond, insofar as it dealt with proration of Federal estate taxes to a widow's share of an estate, was inconsistent with the provisions of the Descent and Distribution Statutes, which limit the widow's share to one-half of the net estate.Campbell v. Lloyd, supra, was the law in Ohio at the time of the Probate Court's decision as to whether the portion of the estate of Frank Pangas passing to his surviving spouse bore any of the Federal estate tax burden. Petitioner makes much of the fact that there was no tax payment provision in the will involved in Campbell v. Lloyd, supra, as there is in the case before us. 4 Petitioner would limit the decision in Campbell v. Lloyd, supra, on such basis and deny its applicability to the present case. However, Campbell v. Lloyd, supra,160 does not stand alone. Miller v. Hammond, supra, which was only partially overruled by the Campbell case contains language indicating the provisions of the will are immaterial to a determination of the rights of a spouse electing to take against the will. There is found the following language immediately after the court's discussion in Miller v. Hammond, supra, of the general rule of equitable apportionment in other jurisdictions as applicable to cases where there is an absence of testamentary intent as to the source of payment of Federal taxes (104 N.E. 2d at 18):It should be borne in mind that in the instant case the estate which the widow takes passes to her not by the will but as a result of her election not to take under the will. By reason of such election she takes under the statute of descent and distribution and, therefore, the provisions of the will are entirely immaterial in the determination of her rights.This Court is further persuaded by the recent case of Weeks v. Vanderveer, supra,161 that Campbell v. Lloyd, supra, announced a new doctrine on the question of whether under Ohio law a widow can take her portion free of Federal estate taxes and was not merely a limited departure in this respect from Miller v. Hammond, supra.In Weeks v. Vanderveer, supra, the decedent's spouse elected to take against the will and argued that she should take free of the estate tax burden because of a tax clause in the162 will, which authorized the executors to pay from the residuary estate all estate and inheritance taxes regardless of whether the property passed under the will. It was conceded 104 that the widow would benefit under the provision if it were operable. However, the court held that a testator lacks the power to benefit his widow who elects to take against the will, by the manner in which he chooses to provide for payment of taxes stating that "the presence or absence of a tax provision in the will of the testator cannot be permitted to alter the statutory share of a surviving spouse electing to take against the will."Petitioner argues that Weeks v. Vanderveer, supra, represents such a substantial departure from prior Ohio law that it should be disregarded, as not being the law of Ohio at the time of death of decedent, when all incidents of the estate tax become fixed. We disagree with petitioner, however, and are of the opinion that Weeks v. Vanderveer, supra, was merely the reasonable extension and corollary of Campbell v. Lloyd, supra,*163 and could have been reasonably anticipated. It should be pointed out that Weeks v. Vanderveer, supra, overruled and in fact found it necessary to distinguish no prior decision of the Ohio Supreme Court. In addition Weeks v. Vanderveer, supra, relied heavily on Campbell v. Lloyd, supra.In light of these cases we conclude that under Ohio law, the widow's portion of the estate is not to be passed to her free from inheritance and estate tax burden. Since her portion of the estate must bear a pro rata portion of the estate taxes, its value must be reduced by a similar amount in computing the marital deduction under section 2056. Accordingly, we find for the respondent on the issue here presented.Decision will be entered under Rule 50. Footnotes1. Respondent on brief states that since the issuance of the notice of deficiency, proof has been furnished by the executor of the payment of Ohio inheritance taxes with the result of reducing the deficiency as determined. For this reason respondent asks that in the event his position in this case is sustained decision be entered under Rule 50.↩2. All references are to the Internal Revenue Code of 1954.↩3. Petitioner does not question the respondent's computation of this adjustment if respondent's interpretation of the law is accepted except to the extent of any possible effect thereon of the credit for State inheritance taxes which credit respondent now concedes to be proper.↩4. It might be pointed out that the provision as to Federal estate taxes in decedent's will in the instant case are ambiguous. One clause reduces the portion of the residuary estate to be placed in the trust created for the spouse by Federal estate tax and another clause provides that all such taxes shall be paid from the residuary estate. However, we need not consider the effect of this ambiguity because of the conclusion we reach otherwise in this case.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623706/	CHARLES A. DANA, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Dana v. CommissionerDocket No. 76699.United States Board of Tax Appeals36 B.T.A. 97; 1937 BTA LEXIS 776; June 11, 1937, Promulgated 776 Petitioner owned approximately one-third of the stock of A corporation and approximately one-third of the stock of B corporation. A corporation owned the balance of the shares of stock of B corporation. A corporation was desirous of purchasing C corporation which was engaged in a related business. It entered into an agreement with some bankers which provided for the acquisition of all of the stock of B as a preliminary step in the recapitalization of A, and for the sale by A to the bankers of 85,000 shares of newly issued stock. Petitioner exchanged his stock in B company for stock in the recapitalized A company. Held, the exchange was made pursuant to a plan of reorganization and under the provisions of section 112(b)(3) of the Revenue Act of 1928 no gain is to be recognized. Benjamin Mahler, Esq., for the petitioner. J. R. Johnston, Esq., for the respondent. MELLOTE 97 The Commissioner determined a deficiency in petitioner's income tax for the year 1929 in the amount of $125,534.97. The issue submitted for our determination is whether an exchange by petitioner of stock in the Salisbury Axle Co. for stock in the Spicer Manufacturing777 Corporation was made pursuant to a plan of reorganization or not. If it was, then any gain realized upon such exchange is not to be recognized; but if not, it will be necessary to determine the amount thereof, in connection with which it will be necessary to determine the fair market value of the stock at the time it was received by petitioner. FINDINGS OF FACT. The petitioner is an individual who, for the year 1929 and during all times material herein, kept his books and rendered his income tax returns on a cash basis. He was the president of the Spicer Manufacturing Corporation (hereinafter called Spicer) and of the Salisbury Axle Co. (hereinafter called Salisbury). Spicer was organized under the laws of the State of Virginia in October 1916, had a plant located at South Plainfield, New Jersey, and was engaged in manufacturing universal joints and propeller shafts for motor vehicles. Salisbury was organized under the laws of Delaware in 1919, had a plant located at Jamestown, New York, and was engaged in the business of manufacturing axles for motor vehicles. 98 The capital structure of Salisbury and Spicer prior to December 24, 1928, was as follows: SalisburyAuthorizedIssuedOwned by petitionerOwned by SpicerNo par value common20,00020,0006,66613,334 $100 par value preferred30,00027,50010,00017,500778 SpicerAuthorizedIssuedOwned by petitioner or his nomineesOwned by othersNo par value common600,000313,750118,125195,625 $100 par value 8% preferred (redeemed prior to August 1928)100,000The 6,666 shares of common and 10,000 shares of preferred stock of Salisbury owned by petitioner were purchased by him for a cash consideration of $1,000,000 on January 2, 1925, and remained in his name until surrendered and exchanged for stock of Spicer as hereinafter set out. In the latter part of 1927 petitioner, as president of Spicer, determined to transfer operation of that company to Toledo. This was deemed advisable because of the concentration of the automobile manufacturing industry within the area more or less contiguous to Toledo, and also because of the availability of raw material. At the same time petitioner conceived the idea of moving the Salisbury plant to Toledo, and merging the operations of the two companies. While no formal action by the directors of the two corporations was shown in evidence, plans for the erection of a building at Toledo were drawn and as soon as ground could be broken in the spring of 1928 construction779 was started. The first section of the building was completed early in the fall of 1928 and Spicer then commenced the removal of its machinery, equipment and a part of its personnel, completing such removal in the first half of 1929. In the fall of 1928, Brown-Lipe Gear Co., a corporation engaged in manufacturing automobile gears, was offered for sale for $3,900,000. Spicer determined that it would be advantageous to purchase this company, and such purchase was ultimately made under the circumstances and by the means hereinafter related. A written agreement was entered into on December 24, 1928, between Spicer and two groups of bankers. This agreement provided, 99 among other things, (1) for the acquisition by Spicer of all of the outstanding shares of the preferred and common stock of Salisbury not then owned by it; (2) for the recapitalization of Spicer by reducing its authorized capital stock through the elimination of the 100,000 shares of its preferred stock, par value $100 each, and increasing and reclassifying its capital stock, to the end that its authorized capital stock should consist of 150,000 shares of preferred and 600,000 shares of common, both without780 par value; (3) for the acquisition by Spicer of the entire issued and outstanding preferred and common stock of the Brown-Lipe Gear Co. for $3,900,000 in accordance with an existing contract; (4) that Spicer should procure and deliver to the bankers "a consolidated statement of the assets and liabilities of the corporation [Spicer] and its wholly owned subsidiary companies" (Salisbury and Brown-Lipe); and (5) that it should sell to the bankers 85,000 shares of the new issue of Spicer preferred stock for $3,846,250, being at the rate of $45.25 per share. The date for closing the transaction with the bankers was fixed at not earlier than January 15, 1929, nor later than January 31, 1929, although provision was made for extending the time or for fixing a different date if the exigencies should require it. On the same date that the agreement was made between Spicer and the bankers, December 24, 1928, petitioner wrote Spicer, offering to exchange his stock in Salisbury for 40,000 shares of the common stock of Spicer. The letter read in part as follows: I hereby offer to sell, assign, transfer and deliver to you [my Salisbury stock] in consideration of the issuance and delivery781 by you to me of 40,000 shares, without par value, of your common stock. The board of directors of Spicer on December 27, 1928, adopted a resolution providing: WHEREAS, in the opinion of this Board, it is deemed advisable and for the best interests of this corporation that it acquire the remaining outstanding preferred and common stock of said Salisbury Axle Company in order that this corporation may derive the benefit and advantage from all of the earnings of said Salisbury Axle Company and consolidate the assets and liabilities of said Salisbury Axle Company upon the balance sheet of this corporation; and WHEREAS, in the opinion of this Board the said 10,000 shares of preferred stock, and 6,666 shares of common stock of said Salisbury Axle Company are worth at least the sum of $1,600,000 - now, therefore, be it RESOLVED, that the offer of Mr. Charles A. Dana * * be and the same is hereby accepted * * . Under date of January 15, 1929, Spicer issued to petitioner 40,000 shares of its common stock in exchange for his shares of stock in 100 Salisbury. The following journal entry was made on Spicer's books covering the issuance of the 40,000 shares of stock: Investment Salisbury Axle Co$1,600,000.00Capital Stock$200,000.00Surplus1,400,000.00782 Spicer's directors and stockholders approved the agreement with the bankers, and pursuant to that agreement, in order to effect the necessary recapitalization, the certificate of incorporation of Spicer was amended on January 15, 1929. On or about the same date the transaction with the bankers was closed. In accordance with the petitioner's original plan, the construction of an extention to the building at Toledo was begun early in 1929 to accommodate the Salisbury machinery and equipment. The extension was completed in the fall of that year. In August 1929, the removal of Salisbury machinery and equipment was begun and by the end of that year such removal was substantially completed and the machinery and equipment were lodged in the extension. On January 31, 1929, Spicer surrendered to Salisbury its 27,500 shares of preferred stock, par value, $2,750,000, including the 10,000 shares secured from the petitioner and being all of the outstanding preferred stock of Salisbury. The stock was then canceled and the capital and surplus account of Salisbury was credited in the amount of $2,750,000. The balance in this account after such entry amounted to $849,639.24 on December 31, 1929, and783 represented the book value of the outstanding 20,000 shares of no par value common stock. On December 31, 1929, substantially all of the usable assets of Salisbury, consisting of inventory, machinery, equipment, receivables, and cash in the bank, had been moved to Toledo, and had been taken over by Spicer onto its ledgers and entered onto its books at the same figures that they had previously appeared on the Salisbury books. These assets totaled $1,755,061.90. Since December 31, 1929, the Salisbury plant at Jamestown, New York, has been idle and Salisbury has carried on no manufacturing operations and has engaged in no activities other than disposing of obsolete inventory, building equipment, etc., as scrap. All of Salisbury's customers were notified on December 31, 1929, that it would transact no further business and that all of its manufacturing operations would thereafter be conducted by Spicer. During 1930 and 1931, additional assets of Salisbury, having a book value of $123,109.91, were gradually transferred to Spicer, making a total of transferred assets amounting to $1,878,171.81. The assets not transferred had a book value of $215,436.71, and consisted 101 784 largely of obsolete materials, machinery, and equipment. In the ensuing two years a large part of the investment in obsolete assets was written off as valueless, while a portion of such assets was sold as scrap. The amount realized from such sales was $15,780.24. The only assets then remaining were Liberty bonds aggregating $9,176.38, deposited with the New York State Industrial Commissioner, and land and buildings located at Jamestown, New York, having a book value of $60,023.69. The Liberty bonds could not be transferred to Spicer since, under the laws of the State of New York, they were to be held by the State Industrial Commissioner pending the termination of Salisbury's liability on account of compensation insurance. The land and buildings comprising the discarded plant, were not transferred to Spicer because they could not be used in its operations, and Spicer did not desire, by obtaining title to them, to subject itself to the New York State franchise tax. In June 1932, the common stock of Salisbury then outstanding, all of which was owned by Spicer, was reduced to 1,000 shares, par value $25 per share. This par value of $25,000 was thereupon debited to the "Capital785 and Surplus Account" and set up by a credit to a new account termed "Capital Stock." The balance of the account formerly carried on the books as "Capital and Surplus" was transferred to a new account called "Surplus." The charter of Salisbury was amended to reflect this revised capitalization. Petitioner did not included in his Federal income tax return for 1929 any part of the gain realized by him upon the exchange of his Salisbury stock for stock of Spicer. Respondent determined that the 40,000 shares of Spicer stock received by him in the exchange had a fair market value of $50.125 per share or $2,005,000 at the time that they were received by him and, the cost of his Salisbury stock being $1,000,000, the respondent determined that the difference between such cost and the fair market value of the Spicer stock, or $1,005,000 represented taxable gain to the petitioner and should have been included by him in his return of income for that year. OPINION. MELLOTT: Petitioner contends (1) that any gain upon the exchange is not to be recognized since it was an exchange of stock of one corporation for stock of another corporation made pursuant to a plan of reorganization, both786 corporations being parties thereto; and (2) that if it be held that he realized a taxable gain on the exchange, then the gain should be measured by the fair market value of Spicer stock received by him, which value he contends is not in excess of $30 per share. 102 The pertinent provisions of the Revenue Act of 1928 are shown in the margin. 1787 Under section 112(b)(3) no gain or loss is to be recognized if stock or securities in a corporation a party to a reorganization are, in pursuance of the plan of reorganization, exchanged solely for stock or securities in such corporation or in another corporation a party to the reorganization. It is not disputed that petitioner exchanged his stock in Salisbury solely for stock in Spicer. The question for determination therefore is simply whether such exchange was made in pursuance of a plan of reorganization and whether or not Salisbury and Spicer were parties thereto. The respondent contends that the exchange was not made pursuant to a plan of reorganization. He argues (1) that prior to the exchange Spicer was the owner of more than a majority of the stock of Salisbury and that it did not acquire a least a majority of the voting stock and at least a majority of the total number of shares of all other classes of stock of Salisbury through the exchange in question; (2) that it acquired by purchase a monority interest in the Salisbury stock owned by petitioner; (3) that the petitioner's Salisbury stock was not acquired pursuant to the plan for the transfer by Salisbury of all788 or part of its assets to Spicer; and (4) that if 103 there ever was a statutory reorganization to which Spicer and Salisbury were parties, such reorganization had been consummated prior to 1929. Petitioner argues that there was a statutory reorganization by reason of (a) the acquisition by Spicer of at least a majority of the stock of Salisbury; (b) the acquisition by Spicer of substantially all the properties of Salisbury; (c) a recapitalization of Spicer; or (d) a recapitalization of Salisbury. He further argues that all of the requisites of the statute have been met; that there was a plan of reorganization, and exchange pursuant thereto of stock in one corporation for stock in another, and that both corporations were parties to the reorganization. The record discloses that there was two plans, (1) the plan of petitioner to move Spicer and Salisbury to Toledo and consolidate and merge their physical assets and businesses; and (2) the plan set forth in the agreement with the bankers, which included the acquisition by Spicer of all of the outstanding stock of Salisbury and the recapitalization of Spicer. 789 We are satisfied that the exchange was made pursuant to the plan contained in the agreement between Spicer and the bankers. While we deem it unnecessary to give any consideration to the first mentioned plan, petitioner's argument to the effect that it was a plan of reorganization is not without substantial merit. ; ; ; . The agreement between Spicer and the bankers provided that Spicer should acquire all of the stock of Salisbury not then owned by it; that it should reduce its authorized capital stock by the elimination of the 100,000 shares of preferred stock; that, subject to obtaining the approval of its stockholders, it should increase and reclassify its capital stock so that it should consist of 150,000 shares of preferred and 600,000 of common; that it should acquire all of the capital stock of the Brown-Lipe Gear Co., procure and deliver to the bankers a consolidated statement of the assets and liabilities of the corporation790 (Spicer) and its wholly owned subsidiary companies (Salisbury and Brown-Lipe) and that it should sell to the bankers 85,000 shares of the new preferred stock. The agreement constituted a plan of reorganization if any of the acts to be performed by Spicer fall within the meaning of the term reorganization as defined by section 112(i)(1), supra. This section defines a reorganization to mean, inter alia, a merger or consolidation (including the acquisition by one corporation of at least a majority of the voting stock and at least a majority of the total 104 number of shares of all other classes of stock of another corporation), or a recapitalization. As heretofore pointed out, the agreement provided that Spicer should acquire all of the Salisbury stock and that Spicer should be recapitalized. The respondent urges us to hold that there was no statutory reorganization because Spicer owned a majority of the stock of Salisbury prior to the exchange. Such a construction of subdivision (A) of section 112(i)(1), supra, would not, in our opinion, give effect to the purpose with Congress had in mind in enacting the reorganization provisions of the statute. That purpose791 was to facilitate readjustments of corporate businesses by permitting the postponement of gain or loss on exchanges made in pursuance thereof where the transferor retained a continuing interest in the reorganized corporation or corporations. ; . And "the terms 'merger' and 'consolidation' are to be given a liberal interpretation to effectuate the purposes" which Congress had in mind in enacting the statute. In providing that a reorganization means a merger or consolidation (including the acquisition by one corporation of at least a majority of the voting stock and at least a majority of the total number of shares of all other classes of stock of another corporation Congress intended to cover not only a strict merger or consolidation but also transactions which have a real resemblance thereto. In , the Supreme Court, in discussing the same provision of the 1926 Act, said: The words within the parenthesis792 may not be disregarded. They expand the meaning of "merger" and "consolidation" so as to include some things which partake of the nature of a merger or consolidation but are beyond the ordinary and commonly accepted meaning of these words - so as to embrace circumstances difficult to delimit but which in strictness cannot be designated as either a merger or consolidation. As the Supreme Court pointed out, the acquisition by one corporation of at least a majority of the stock of another is a reorganization because it "partakes of the nature of a merger or consolidation." If the acquisition by one corporation of a bare majority of the stock of another constitutes a reorganization, we are of the opinion that the acquisition by one corporation of all the outstanding stock of another, thus enabling the acquiring corporation, at its pleasure, to consolidate or merge the two corporations, falls within the same category. At the time Spicer acquired petitioner's Salisbury stock, there was in existence a plan, which was subsequently executed, for Spicer to take over the assets of Salisbury and to merge and consolidate 105 the businesses theretofore conducted by the two corporations. 793 Moreover, the agreement between Spicer and the bankers tends to indicate that at the time it was entered into, a merger or consolidation was contemplated by the parties; for by it Spicer was obligated to procure and deliver to the bankers a statement of the assets and liabilities of itself and "its wholly owned subsidiary companies", Salisbury and Brown-Lipe. In view of the foregoing we hold that the acquisition of petitioner's stock by Spicer was pursuant to a plan of reorganization within the meaning of subdivision (A) of section 112(i)(1), supra, and that Salisbury and Spicer were parties thereto. It follows therefore that the respondent erred in determining the above deficiency. The conclusion reached renders it unnecessary to determine the fair market value of the Spicer stock received by petitioner. Reviewed by the Board. Judgment will be entered for the petitioner.Footnotes1. SEC. 111. DETERMINATION OF AMOUNT OF GAIN OR LOSS. (a) Computation of gain or loss. - Except as hereinafter provided in this section, the gain from the sale or other disposition of property shall be the excess of the amount realized therefrom over the basis provided in section 113, and the loss shall be the excess of such basis over the amount realized. SEC. 112. RECOGNITION OF GAIN OR LOSS. (a) General rule. - Upon the sale or exchange of property the entire amount of the gain or loss, determined under section 111, shall be recognized, except as hereinafter provided in this section. (b) Exchanges solely in kind. - * * (3) STOCK FOR STOCK ON REORGANIZATION. - No gain or loss shall be recognized if stock or securities in a corporation a party to a reorganization are, in pursuance of the plan of reorganization, exchanged solely for stock or securities in such corporation or in another corporation a party to the reorganization. * * * (i) Definition of reorganization. - As used in this section and sections 113 and 115 - (1) The term "reorganization" means (A) a merger or consolidation (including the acquisition by one corporation of at least a majority of the voting stock and at least a majority of the total number of shares of all other classes of stock of another corporation, or substantially all the properties of another corporation), or (B) a transfer by a corporation of all or a part of its assets to another corporation if immediately after the transfer the transferor or its stockholders or both are in control of the corporation to which the assets are transferred, or (C) a recapitalization, or (D) a mere change in identity, form, or place of organization, however effected. (2) The term "a party to a reorganization" includes a corporation resulting from a reorganization and includes both corporations in the case of an acquisition by one corporation of at least a majority of the voting stock and at least a majority of the total number of shares of all other classes of stock of another corporation. * * * SEC. 113. BASIS FOR DETERMINING GAIN OR LOSS. (a) Property acquired after February 28, 1913.↩ - The basis for determining the gain or loss from the sale or other disposition of property acquired after February 28, 1913, shall be the cost of such property; * * *	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623707/	A. Gilbert Formel v. Commissioner.Formel v. CommissionerDocket No. 22158.United States Tax Court1950 Tax Ct. Memo LEXIS 111; 9 T.C.M. (CCH) 782; T.C.M. (RIA) 50221; August 31, 1950A. Gilbert Formel, pro se. Oscar L. Tyree, Esq., for the respondent. HARRON Memorandum Findings of Fact and Opinion HARRON, Judge: The Commissioner has determined a deficiency in income tax for the year 1945 in the amount of $1,663.18. The deficiency results from112 disallowances of three deductions, and the petitioner alleges that each determination has been made erroneously. The questions to be decided are (1) whether the petitioner is entitled to a loss deduction of $253 under section 23(e) of the Internal Revenue Code because customs officials in Soviet Russia confiscated that sum when petitioner departed from a port in that area; (2) whether the petitioner is entitled to deduct $3,500 which represents, allegedly, the American dollar equivalent of expenditures in rubles for food purchased in a country in Soviet Russia where the petitioner was working; and (3) whether the petitioner is entitled to deduct $135, the dollar equivalent of rubles spent to purchase a pair of boots suited to the cold climate where the petitioner was working. The petitioner concedes that the respondent properly disallowed $585 of a deduction claimed in the return. The petitioner's return for the year 1945 was filed with the collector for the sixth district of California. Findings of Fact The petitioner is a construction engineer. He is married, and his family consists of his wife and one child. The petitioner's work sometimes requires that113 he move his residence to or near the place of his work. The petitioner and his family usually live in the vicinity of New York City excepting when it is necessary for them to move temporarily to the location of petitioner's employment. Prior to 1940, the petitioner and his family resided in or near New York City. In 1940, the petitioner became an employee of E. B. Badger & Sons Company, which has its principal place of business in Boston, Massachusetts. Petitioner was employed by Badger & Sons under this contract for about three years. Badger & Sons' business is primarily the design and construction of oil refineries and chemical plants. Badger & Sons obtained a contract in 1941 to do construction work at Plum Brook Ordnance Works in Sandusky, Ohio. Petitioner became a resident manager at Sandusky, and his family moved to Sandusky in 1941. The furniture of the family was left in storage in New York City. When the petitioner first went to Sandusky, his compensation from Badger & Sons included an allowance for living expenses in addition to salary. After the petitioner's work was established in Sandusky, his compensation was limited to salary payments. The petitioner and his family114 resided in Sandusky for about two years, from 1941 until September of 1943. In 1943, Badger & Sons received a contract from the Russian Government to design a gasoline refinery plant which was to be built at Guriev, Kazakhstan, which is located on the Caspian Sea at the mouth of the Ural River. This contract, initially, was arranged by the Treasury Department of the United States Government under lendlease assistance to Russia, and it was related to the war effort. Also, under the contract, Badger & Sons was to purchase materials to be used in the construction of the plant. The Russian Government was to make its own arrangements for the construction of the plant and for employment of workers, but Badger & Sons agreed to send some trained personnel to Guriev to supervise the construction work. Petitioner agreed to go to Guriev. Under a contract with Badger & Sons and the Russian Government, the petitioner was to be paid, by Badger & Sons, a salary of $15,000 per year, plus all of his expenses to and from Guriev. The contract of employment of petitioner was between himself, Badger & Sons, and the Russian Government. Upon arrival at his destination, petitioner was to pay all of his115 expenses out of his income. Petitioner's compensation for his services was paid monthly to his account in a New York City bank by Badger & Sons. Badger & Sons was to be reimbursed by the Russian Government for all or part of this expense. The petitioner departed from New York City in November of 1943 to go to Guriev, and he arrived there in December of 1943. He remained in Guriev until September of 1945. The petitioner could not take his family with him to Guriev because of war-time restrictions upon the issuance of passports. Prior to his departure from the United States in November of 1943, the petitioner rented an apartment for his wife and child at Great Neck, Long Island, New York. He took his furniture out of storage and moved it into the apartment, and he established his family in the apartment. The petitioner lived with his family in the apartment for a short period of time prior to his departure. When the petitioner departed from the United States, it was his intention to remain in Russia for an indefinite period of time, depending upon the amount of work and the length of time required to do the work in which he expected to be engaged. Petitioner's contract of employment116 was not for any stipulated period of time. In Guriev, the petitioner's work was that of supervisor and consultant, and he was in charge of operations. He was located at Guriev. He had an office (of a crude sort) in Guriev. He rented a post office box. Prior to going to Russia, the petitioner believed that he might wish to locate there permanently and have his family join him there. But after he had been in Guriev for a short time, he decided that he would not have them there "by any manner of means." Shortly before September of 1945, the petitioner decided to terminate his work in Guriev and return to the United States. His reason for leaving was that he did not like conditions there. Upon his return to New York in 1945, the petitioner resumed his residence with his family in New York. At the time of the filing of the petition in this proceeding, and of the trial of this proceeding, the petitioner and his family resided in Great Neck, Long Island, New York. The income tax return of the petitioner for the year 1945 was filed in Hollywood, California, on March 9, 1946, because the petitioner was there temporarily at that time. When the petitioner reached Guriev, an agreement117 was made by him with officials of the Soviet Government that they would pay him "a certain sum of rubles" every month. The arrangement was a customary one which was made with all foreign employees who came into the country. Petitioner did not have to pay anything for the rubles. The rubles were an allowance of some sort. Otherwise, the petitioner deposited American express checks which he had taken into the country in a bank in Guriev, for which he was given rubles in exchange. Also, petitioner carried a letter of credit which provided for drafts on Badger & Sons. Petitioner, through the letter of credit, drew funds against an account of Badger & Sons during the time he was in Guriev. Badger & Sons, in turn, deducted corresponding amounts from petitioner's salary payments which were deposited in petitioner's bank account in New York. Petitioner's expenses, in Guriev, were for food, chiefly. Lodgings were provided by the Soviet Government. The petitioner was in Guriev during the first eight months of 1945 - January through August. During that period, he purchased food for himself in the open market, at bazaars, for cash or by trading a commodity which he had for other commodities. 118 Also, he purchased some food in state operated stores. The petitioner has estimated that he spent for food, in Guriev, the total amount of about 18,900 rubles, which he estimates had an exchange value in 1945 of $3,500, American dollars. The amount of $3,500 is an estimate. The petitioner arrived at his estimate by taking into account the low purchasing power of the American dollar, in Guriev, under the official exchange rates. Or, stated in another way, the petitioner has estimated that he spent $3,500 for food during the period in question due to inflationary commodity prices in Guriev. The petitioner does not have either receipts for his food purchases or any record of the amount of rubles or American dollars which he spent for food during the period in question. He did not keep an account book record of his food purchases in Guriev in 1945. Due to sub-zero temperatures in Guriev during the winter months, felt boots are worn in preference to boots made of leather, because they provide better protection from the cold. When the petitioner entered Russia, he was provided with certain clothing, but he had to pay for replacements from his own income. The felt boots which the petitioner119 received originally wore out. He purchased a new pair of felt boots in 1945 for about 650 rubles, or $135, in American dollars, at the then rate of exchange. The felt boots constituted an item of personal clothing. Such foot covering is worn, in general, by the local inhabitants, if they are able to purchase them. They were not part of any special clothing or equipment necessary in the performance of petitioner's work. They were a part of petitioner's personal clothing which was necessary because of the climate. When the petitioner left Guriev, he gave the boots to someone who needed them. The petitioner proceeded to depart from Russian territory on or about September 7, 1945, by boat from the port of Baku en route to Pahlovi, Iran. Russian customs officials, in the course of their duties, examined the petitioner's luggage at the dock. The customs officers determined that the petitioner could not take many items of property out of the country. The items comprised personal possessions and effects, a document, some icons, travelers' checks, and $253 in American money. The petitioner appealed to other customs officials, and others, seeking to recover the property which had been taken120 over by the customs officers. He recovered all of the items excepting the icons, the document, and the $253. He continued his efforts to recover the money. While he was so engaged, an airplane arrived upon which he was able to secure space, and he departed by plane. Subsequently, the petitioner recovered the document through the efforts of the State Department of the United States Government, but he has not recovered the $253 up to the present time. Also, he made a request for assistance to a United States official in Teheran, Iran, without any success. And he sent telegrams to representatives of Badger & Sons, and others, in Moscow without success. Opinion The petitioner claims three deductions from his income for 1945 for amounts spent in Guriev, Kazakhstan, S.S.R., within the jurisdiction of the U.S.S.R., hereinafter referred to as Russia as a matter of convenience. The petitioner claims deductions of $3,500 for food, $135 for one item of personal clothing, and $253 for money confiscated by customs officials. The petitioner appeared in this proceeding without counsel. He is not a lawyer, and he is not acquainted with the provisions of the Internal Revenue Code or with rules121 of law which apply to the questions which his claims for decutions present. He has not filed a brief. It is obvious that the deduction of $253 is claimed as a loss. The deduction of $3,500 appears to be claimed either as a loss because inflation in Russia resulted in the petitioner's having to pay a great deal more for food in Russia with the rubles for which his American dollars could be exchanged at the foreign exchange rates than he would have had to pay for food in the United States, if he had been in the United States, or as "traveling expense" while away from home in the pursuit of business, under section 23(a)(1) of the Code. The deduction for $135 appears to be claimed as a business expense deduction. The petitioner deducted $3,500 as expenses for "living in U.S.S.R. 35 weeks at $100 a week" and $135 for special protective clothing for living in the U.S.S.R. These deductions were taken in the return under the caption "Miscellaneous." The respondent contends that the expenditures for food are not deductible under the rules of several cases which have established the meaning of the clause "while away from home in the pursuit of a trade or business" in section 23(a)(1)(A). The122 respondent contends that the expenditure for a pair of felt boots was a personal expenditure, and that, therefore, the deduction is specifically denied by the provisions of section 24(a)(1) of the Code, which provides that in computing net income, no deduction shall be allowed in any case in respect of personal expenses. The respondent contends that the alleged "loss" of $253 was neither a loss from "other casualty" within the meaning of section 23(e)(3) of the Code, or a loss from theft, and that, therefore, the loss does not come within the scope of section 23(e)(3) of the Code. The petitioner has testified in this proceeding. His testimony has been given careful and full consideration. As a matter of law, as the petitioner undoubtedly understands, the burden of proof rests upon him to introduce evidence in support of the claimed deductions. None of the claimed deductions is allowable as a matter of law, and the respondent's determinations must be sustained. The reasons for the conclusion with respect to each of the claimed deductions are set forth hereinafter. A. The claimed deduction of $253, the seizure of money by Russian customs officials. The petitioner must establish, 123 first, that he has sustained a loss and, second, that the loss is one for which there is a statutory provision for allowance of a deduction. The petitioner has not established either one of these things. With respect to the first requirement that there must be proof of a loss, the following is pertinent. The taxpayer has the burden of proof. We need not dwell upon the failure of the petitioner to meet the first requirement, because there is no statutory provision under which a loss of this kind can be deducted, as will be shown hereinafter, assuming that a loss has been sustained. But it should be noted that the petitioner has not shown that he exhausted remedies to recover the funds, or that there are no available remedies. We assume that there are available procedures which can be followed to recover property retained by the customs officials of the foreign country in question. In 1945, as at the present time, the United States Government recognized the Government of Russia and maintained diplomatic relations with Russia. The petitioner was anxious to depart from Baku; and although he made such efforts as were possible before leaving Baku to recover his money, those efforts were124 limited. The petitioner has testified that a plane arrived in Baku; that he was able to obtain a seat in it; and that he proceeded immediately on his way, without any further delay to make further efforts to recover his money. The petitioner feels aggrieved, but the evidence which is before us does not establish that the petitioner has pursued all of the official procedures which are followed ordinarily where a person has a dispute with the customs officials of a foreign country. We cannot accept as proof that all remedies to recover the money have been exhausted, the petitioner's personal conclusion that the pursuit of efforts to make recovery through official channels would be fruitless. The petitioner is not an expert on the subject, and he did not call an expert to give the Court an opinion about the feasibility of following through the official course of action. If we were to assume for purposes of argument that recovery has been found to be impossible, which we do not do, we would then come to the question of whether the loss is deductible under some provision of the Internal Revenue Code. We now turn to that question. It is well established that a tax deduction is a matter125 of legislative grace rather than a matter of personal right. The taxpayer must show that the Congress has enacted some statutory provision which provides for a tax deduction for the item in dispute, and then he must show that the item in question comes within the statutory provision. New Colonial Ice Co., Inc. v. Helvering, 292 U.S. 435">292 U.S. 435. If there is no provision allowing a tax deduction for the item in question, no deduction can be allowed, no matter how aggrieved the taxpayer is, or how equitable it may appear that it would be to allow a deduction for the item. The only section of the Internal Revenue Code under which the claimed deduction can be considered is section 23(e) of the Code which provides as follows: "[Sec. 23(e)] "(e) LOSSES BY INDIVIDUALS. - In the case of an individual, losses sustained during the taxable year and not compensated for by insurance or otherwise - "(1) if incurred in trade or business; or "(2) if incurred in any transaction entered into for profit, though not connected with the trade or business; or "(3) of property not connected with the trade or business, if the loss arises from fires, storms, shipwreck, or other casualty, 126 or from theft. No loss shall be allowed as a deduction under this paragraph if at the time of the filing of the return such loss has been claimed as a deduction for estate tax purposes in the estate tax return." The item in question does not come within subsections (1) or (2) of section 23 (e). We do not understand that petitioner contends that it does. The question to be decided is whether the item comes within subsection (3), i.e., whether the alleged loss arose from fire, storm, shipwreck, or other casualty, or theft. The petitioner claimed the deduction in his income tax return as a loss from a casualty or theft. The alleged loss did not arise from theft. The petitioner is of the opinion, it appears, that the loss arose from an illegal seizure of his money, and it appears that he feels as though he has been robbed. His contentions are not clear. He has filed no brief. However, he admits that the money was retained by customs officials during the course of their official examination of his belongings while he was passing through the customs of the foreign country he was in and from which he was departing. He has not introduced any evidence to show that the retention of his127 money was illegal, and his admission, as above stated, is contrary to his contention that the seizure was illegal. Unless the petitioner can establish that the retention of his money was illegal, this Court cannot determine whether the loss arose from theft. There is no evidence that there was theft, although we are able to understand how the taxpayer feels about the incident. The claimed deduction does not come within the theft provision of subsection (3). The remaining question is whether the alleged loss comes within the scope of the term "casualty" as it is used in subsection (3). The meaning of the term "casualty" in section 23 (e) has been construed in several cases. In order that a loss sustained by an individual may be deductible from gross income as a "casualty" under subsection (3) of section 23 (e), it must be shown that the alleged "casualty" was "of a similar character to a fire, a storm, or a shipwreck." Fred J. Hughes, 1 B.T.A. 944">1 B.T.A. 944, 946. This is well understood by lawyers to be the doctrine of ejusdem generis - of the same class. "In the construction of laws [or statutes], * * , when certain things are enumerated, and then a phrase is used which might128 be construed to include the other things, it is generally confined to things ejusdem generis * * ." Cyclopedic Law Dictionary, 3d ed., p. 377, definition of ejusdem generis. "Casualty" has been variously defined, but one legal definition is: "Inevitable accident. Unforeseen circumstances not to be guarded against by human agency, and in which man takes no part." (Cyclopedic Law Dictionary, p. 152.) Subsection (3) of section 23 (e) enumerates as the causes for deductible "casualty" losses, fires, storms, shipwreck. They are disasters. A loss from "other casualty" means from a like cause. The loss of money through seizure by the customs officers of a foreign country in the course of their execution of their official duties is not a loss from a casualty as that term is used in section 23 (e) (3). Again, even if the seizure was an illegal seizure, as the petitioner contends, that is not a "casualty" within the meaning of the statutory provision. It has been held that an illegal seizure of liquor by police officers of a locality in our country is not a "casualty," Fred J. Hughes, supra; and that the seizure of an automobile owned by a citizen of the United States by129 the German Government after the outbreak of the war in 1914 was not a "casualty." Thomas F. Gurry, 27 B.T.A. 1237">27 B.T.A. 1237. Furthermore, we do know whether the seizure of the petitioner's money by the Russian customs officials was legal or illegal. The petitioner seeks the deduction under section 23(e)(3), according to his income tax return. He will recognize readily from the foregoing that the alleged loss does not come within the scope of that section of the Code. We do not intend to deal with abstractions. If the petitioner is not claiming that his alleged loss comes within the meaning of the term "casualty" as it is used in the statute, the foregoing is an unnecessary delineation of the law. But, lacking a clear presentation of his argument by the petitioner, we have given him an explanation of the status of his contention as far as it is understood. We have searched for a provision of the Internal Revenue Code under which his deduction could be allowed. Section 23 (e) of the Code is the only section relating to the deduction of losses by individuals. The petitioner's loss does not come within that section. Therefore, we must sustain the respondent's disallowance of the130 deduction. B. The claimed deduction of $135, the cost of felt boots. This deduction is not claimed as a loss. As we understand the petitioner's contention, it is claimed as an expense. If the cost of a pair of felt boots was a personal expense, it is not deductible from gross income, as the petitioner probably understands. Section 24 (a) (1) of the Code provides that no deductions shall be allowed for personal expenses. We believe that the petitioner claims this deduction as a business expense, paid in carrying on his business, under section 23 (a) (1) (A) of the Code. In order for this expense to be deductible, it must be shown that the felt boots were not for the petitioner's personal use, but were in the nature of special clothing required in his work and which he could not wear outside of his work. For example, it has been held that the cost of the uniform of an officer of a highway patrol is deductible. Commissioner v. Benson, et al., 146 Fed. (2d) 191. In that case officers of a highway patrol were required to furnish their own uniforms, which had to conform to specifications prescribed by the head of the patrol. The officers were required to wear the uniforms131 while on duty, and they were not permitted to wear them outside of their official duties. The expense of the uniform was held to be a business expense, incurred to enable the officer to earn his salary as a traffic officer, i.e., incurred for the production of income. The cost of work clothing has been allowed as a business expense deduction in similar instances. See Helen Krusko Harsaghy, 2 T.C. 484">2 T.C. 484, where the cost of a nurse's uniform was held to be deductible. But, it has been held in an unreported decision of this Court that a civilian seaman could not deduct the cost of uniforms where he was not required to wear them. In Louis Drill, 8 T.C. 902">8 T.C. 902, the cost of work clothing was not allowed as a deductible business expense, even though the taxpayer's work was hard on his clothes, and he wore out or ruined clothes in his work, because the clothing in question "was not of a type specifically required by his employer. It was of a kind adaptable to general wear," p. 903. The reasoning of this Court in the Drill case was that since the clothing in question was of the kind which was "adaptable to be worn generally, away from work as well as at work," the cost132 of the clothing could not be said to be an expense of doing the work or of earning income, and, therefore, was not a business expense. If wearing apparel is adaptable to general or continued wear - away from work as well as at work - the cost thereof is a personal expense. In this proceeding, the felt boots were not wearable only in petitioner's work. They were adaptable to general and continued wear during the cold season of the year. They were part of the petitioner's general winter clothing while he was in Guriev. The petitioner, obviously, claims that the cost of the boots is a business expense because the felt boots were not adaptable to general use in the United States where he lived when he returned. He left the boots in Guriev when he departed. He gave them away to someone who needed them. But the fact that the boots were an article of clothing which was special to the place where he worked does not afford him a deduction for the cost. Section 23 (a) (1) (A) allows as a business expense deduction the cost of meals and lodging "while away from home in the pursuit of a trade or business" as traveling expenses, but does not include the expenses of clothing. Furthermore, even133 if the statutory provision could be construed to include the cost of clothing of the kind in question, deduction could not be allowed for the same reasons that the cost of food which the petitioner seeks to deduct is not allowable, as is set forth under the next issue, because of the meaning of the phrase "while away from home in the pursuit of a trade or business" in section 23 (a) (1) (A). C. The claimed deduction of $3,500 for food purchased in Guriev. We will assume, for purposes of argument under this issue, that the petitioner actually spent $3,500, American dollars, for food during the period in 1945, the taxable year, when he was in Guriev. The petitioner has the burden of proving the amount of the expense. He admits that the amount of $3,500 is an estimate, and that he did not keep records of his expenditures of rubles for food, from which he could compute, under foreign exchange rates, the amount of the expense in dollars. We may pass over this part of the issue, because the alleged expense is not deductible under section 23 (a) (1) (A) as "traveling expenses (including the entire amount expended for meals and lodging) while away from home in the pursuit of trade or134 business; * ." The respondent has correctly stated the law in his brief with respect to the meaning of the term "traveling expenses" as it is used in section 23 (a) (1) (A), and it is unnecessary for us to repeat here all that the respondent's counsel has reviewed very well in his brief. One contention of the petitioner, as we understand it, is that although he went to Guriev to do work there voluntarily, under a contract of employment, he was not allowed to take his family with him because the United States Government had imposed restrictions upon the issuance of passports during the war period, and the petitioner was unable to obtain passports for his wife and child. Since they could not accompany him, he was obliged to maintain a home for them in New York during his absence, which we understand the petitioner to assert caused added expenses, in addition to his living expenses in Guriev. We do not quite understand the logic of this contention. There is a well known saying that "Two can live as cheaply as one." Perhaps there should be added to that aphorism "in the United States." It appears that that would not have been true in petitioner's case if he had been able to take135 his family to Russia. The petitioner has introduced in evidence some illustrations of the comparative costs of food in Russia and in the United States, which were compiled by Harrison Salisbury who wrote a book about his visit to Russia in 1944 entitled "Russia on the Way," and some other quotations of the prices of food in Russia in rubles and in American dollars, which were reported in the New York Times of December 16, 1947, were introduced in evidence. These schedules do not have such degree of pertinency as to be included, properly, in the findings of fact, but, of course, consideration has been given to them. From these schedules, it would appear to be true that it cost the petitioner less to maintain his family in New York and that he was saved expenses by the circumstance that his family had to remain there. For example, black bread cost $3 a loaf in Russia in 1944, as compared to 14 cents in New York. The petitioner has introduced the comparative food prices data to show, also, how he made the estimate that his own personal food expenses amounted to $3,500, and we have given consideration to the data. The question to be decided is whether the petitioner had "traveling expenses" 136 consisting of his food expenses while away from "home" in the pursuit of his business within the scope of section 23 (a) (1) (A). We cannot hold for the petitioner under this issue. His place of business was located in Guriev during the taxable year. He did not travel away from his post during the taxable year. Or, in other words, he was not away from his post in pursuit of his business. The cost of his food was a personal expense. Since it was not directly connected with the carrying on of the business of the petitioner or of his employer, it was not a business expense, "traveling" expense, or any other kind of business expense under the law as most recently stated by the Supreme Court of the United States in Commissioner v. Flowers, (1946) 326 U.S. 465">326 U.S. 465. The respondent has cited in support of the correctness of his determination several cases, of which Bercaw v. Commissioner, (1948) 165 Fed. (2d) 521, and York v. Commissioner, (1947) 160 Fed. (2d) 385, have one factor in common with the circumstances with which the petitioner had to contend. In both of these cases, the taxpayers were unable to move their families to the places to which they137 had gone to take up their duties of employment, and they were obliged to maintain separate residences for their families away from the location of their work, just as the petitioner had to do. The claims for deductions for the costs of meals of the taxpayers, for themselves, at their respective posts of duty were denied. In York's case, the court said succinctly: "A man's living expenses while he is carrying on his business at his regular place of business are personal and not business expenses. This is true even though he maintains, * * , a place of abode so distant from his place of business that daily commuting is impossible." The court pointed out, further, in York's case, that neither the cost of maintaining a place of abode for a man's family away from the place where his work is, nor the cost of maintaining his family or himself in the same place where his work is, is an expense of doing business or producing income. All are personal expenses, despite the resulting inconveniences to the taxpayer and the additional personal expenses to him when his family cannot accompany him to the place where his work is located on a permanent or substantially permanent basis. Many taxpayers138 have found confusing the use of the term "home" in section 23 (a) (1) (A) of the Code. The term has been construed in many cases to be nearly synonymous with "place of business." Each case stands on its own facts, of course. In this proceeding, the petitioner had gone to Guriev for an indefinite period of time. The evidence shows that his new and practically "permanent" place of business was in Guriev. He was not, therefore, traveling away from home in pursuit of his business during the taxable year within the meaning of the statute. It is held that the cost of petitioner's food while in Guriev during the taxable year, in the amount of $3,500, was a personal expense and is not deductible. We are unable to find any statutory provision under which the claimed deduction can be allowed. In the proceeding of S. E. Boyer, (1947) 9 T.C. 1168">9 T.C. 1168, a taxpayer claimed a loss deduction on account of the additional expenses which he incurred for meals, lodging, and other expenses in England and France during the years 1943, 1944, and 1945, which resulted from the depreciated purchasing value of English pounds and French francs at the "official" rates of exchange. The taxpayer was an*139 Army officer who was stationed in England and France. He was paid allowances for subsistence and quarters, in addition to his salary, in British pounds and French francs; but the payments in foreign currency were made at the official, or controlled, rates of exchange, which existed in England and France; and under those rates he received fewer pounds and francs than he would have gotten if he had paid foreign currency at the free, or open market, rates of exchange. He contended that he sustained losses as a result. This Court denied the claimed loss deduction because there is no statutory provision which allows such deductions. We refer to Boyer's case because the situation in that case bears some resemblance to the experience of the petitioner in making purchases of food with rubles in Guriev. The respondent's determinations are sustained. Decision will be entered for the respondent.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623708/	LUTHER BONHAM, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Bonham v. CommissionerDocket No. 66799.United States Board of Tax Appeals33 B.T.A. 1100; 1936 BTA LEXIS 778; February 14, 1936, Promulgated 778 1. The petitioner, owning the majority of stock in a banking corporation, transferred the stock to a second corporation for cash and stock of the latter. Held, that the provisions of section 112(c)(1) of the Revenue Act of 1928 are applicable and the gain from the transaction is recognized, but only in an amount which does not exceed the cash payment. 2. The petitioner acquired by inheritance a portion of the bank stock so transferred. The fair market value of the stock, on the date acquired, determined. 3. The fair market value of the stock received in exchange, as of the date of such exchange, also determined. Peter S. Rask, Esq., and P. J. Coffey, Esq., for the petitioner. E. L. Corbin, Esq., for the respondent. TURNER 1100 This proceeding involves a determination by the respondent of a deficiency in income tax for the year 1929, in the amount of $4,545.54. The question submitted for our decision is whether or not the respondent erred in computing the taxable profit realized by the petitioner from the sale or exchange of shares of bank stock for cash and stock in a holding corporation. The respondent's determination779 of the disputed deficiency was based upon the theory that but for the item of cash received the petitioner's stock transactions would have been made pursuant to a plan of corporate reorganization and under section 112(c)(1) of the Revenue Act of 1928 gain was limited to the amount of cash received. All the hearing, however, an amended answer was filed denying that the transaction would have been a reorganization even 1101 if the item of cash had not been involved and claiming that the stock should be included with the cash in computing the petitioner's taxable gain from the transaction. FINDINGS OF FACT. The petitioner is a resident of Fairbury, Nebraska. His income tax return for the year 1929 was made on a cash basis and was also the joint return of himself and wife. For more than twenty-five years the petitioner has been engaged in the banking business, in the city of his residence. On September 30, 1912, he acquired 10 shares of capital stock of the First National Bank of Fairbury, hereinafter referred to as the bank, at a cost of $100 per share. On December 2 of the same year, he acquired 40 additional shares, at $160 per share. From 1913 to 1920, inclusive, 780 the petitioner was cashier of the bank and since 1920 has been its president. On January 29, 1920, he acquired, through inheritance from his father's estate, 520 shares of the bank's stock, the fair market value of which, on that date, was $175 per share. In April of the same year he sold 50 shares of the stock to his mother, at a price of $175 per share. On September 1, 1920, he purchased 173 shares of stock at $175 per share, and nine days later, 33 additional shares at the same price. Thereafter, from time to time, he purchased more stock as follows: 12 shares on January 27, 1921; 5 shares on July 5, 1921; 3 shares on April 2, 1922; 10 shares on December 2, 1923; and 5 shares on February 11, 1924. In making these purchases the petitioner paid a cash price of $175 per share for the stock involved. The petitioner transferred 50 shares of stock to his wife. On October 30, 1929, the petitioner, as a shareholder of the bank, entered into a contract with the Northwest Bancorporation, a holding corporation, hereinafter referred to as the company. The company was described in the contract as party of the first part and "such shareholders of First National Bank of Fairbury, Nebraska, 781 as shall become parties hereto" as parties of the second part. Under the contract the holders of bank stock were to exchange their stock for company stock, or company stock and cash, on terms set forth in the contract as follows: Each of the Shareholders agrees that he will exchange the shares of stock in the Bank, which he owns, hereinafter set opposite his name for four (4) shares of stock of the Company or Three Hundred Sixty Dollars ($360.00) in cash for each share of stock of the First National Bank of Fairbury, Nebraska provided, however, that no Shareholder shall be entitled to receive from the Company more than one-fourth of the total purchase or sales price in cash but shall in each instance accept at least three-fourths of the consideration in stock of the Company. 1102 The shareholders of the bank represented, among other things, that on October 1, 1929, the bank had an unimpaired capital of $100,000, unimpaired surplus account of $50,000, undivided profits account of $16,000 and $5,000 in its current net earnings account, together with acceptable assets to the amount of its outstanding liabilities. In determining the capital, surplus, and undivided profits, 782 as set forth in the contract, the bank building and the land on which it was situated were included at a sum of $75,000. The company questioned certain assets of the bank, and in Exhibit "A" to the contract, listed loans to be eliminated in the amount of $13,700. In Exhibit "B" were listed cerain loans designated as conditioned paper in the amount of $80,423, and one loan designated as placed paper in the amount of $4,000. With reference to the items listed in these exhibits, the contract provided as follows: * * * The Company has caused to be made an examination of the assets and affairs of the First National Bank of Fairbury, Nebraska, and has objected to those certain assets described in Exhibits "A" and "B" hereto attached. The Shareholders agree that the First National Bank of Fairbury, Nebraska, had undivided profits, as of October 1st, 1929, in excess of Sixteen Thousand Dollars ($16,000) and that all of the assets described in Exhibit "A" shall be charged off the books of the said Bank, thereby reducing the undivided profits account of the said Bank, but in no event shall such undivided profits be reduced below Sixteen Thousand Dollars ($16,000) as aforesaid, and if783 such account is reduced below Sixteen Thousand Dollars ($16,000) the Shareholders shall make up the deficit in cash. The Shareholders further agree that they will see that the conditions to be complied with, in connection with the assets described in Exhibit "B" hereto attached, will be fulfilled in the manner and at the times stated in said Exhibit "B". As a guarantee for the performance of the covenants of this paragraph of the contract, the Shareholders agree that they will deposit with the Company Seven Hundred Fifty (750) shares of stock of the Company which they are to receive under the terms of this agreement, to be held by the Company until all the requirements of said Exhibit "B" have been fulfilled and that, in the event of the failure of the Shareholders to comply with any of said requirements, the Company may sell said stock, or so much thereof as is necessary, on the market without notice to the Shareholders and use the proceeds to reimburse the bank for any loss resulting to the Bank by reason of the failure of the Shareholders to fulfill such requirements. * * At the time the contract was entered into, the bank had outstanding 1,000 shares of capital stock, 784 950 of which were represented in the contract with the company. Of the 950 so represented, 700 shares belonged to the petitioner and 50 shares to his wife. The Northwest Bancorporation is a Delaware corporation, with its principal office in Minneapolis, Minnesota. Its outstanding capital 1103 stock in 1929 consisted of approximately 1,500,000 shares having a par value of $50 per share. It was a group banking organization and was engaged in the business of owning and operating banks. The fair market value of its stock on October 30, 1929, was $70 per share. Pursuant to the terms of the contract, a stock certificate was issued on November 4, 1929, transferring the 750 shares of bank stock belonging to the petitioner and his wife to the company. In return therefor the company issued and delivered to the petitioner and his wife certificates for 1,500 shares of stock and paid to them $67,500 in cash. The remaining 750 shares of company stock were issued to the petitioner on the books of the company, but were retained by the company under the provisions previously quoted from the contract. Of the stock so retained, 250 shares were delivered to the petitioner in April785 1931 and the remaining 500 shares were delivered in November 1932. OPINION. TURNER: In his determination as originally made the respondent applied the provisions of subsection (c)(1) 1 of section 112 of the Revenue Act of 1928, thereby limiting the petitioner's taxable gain from the transaction in question to $67,500, the amount of cash received. The petitioner does not dispute the application of this provision of the statute to the facts in this case, but alleges that if the proper basis for the bank stock, and the fair market value of the company stock received therefor are used in the computation, it is apparent that no taxable gain was realized. 786 By amended answer the respondent now contends that subsection (c)(1), supra, is inapplicable, and that the petitioner realized taxable gain to the extent of the difference between the basis of the bank stock and the cash plus the fair market value of the company stock received. From an examination of the statute, it is apparent that in this case the applicability of subsection (c)(1) is dependent upon subsection (b)(3) 2 of the same section of the act. It is necessary 1104 therefore to determine whether or not the exchange of bank stock for company stock would be within the provisions of subsection (b)(3) if the item of cash had been omitted and only company stock had been received in exchange for bank stock. To make subsection (b)(3) applicable the exchange must have been in pursuance of a plan of reorganization and both the bank787 and the company must have been parties to that reorganization. Subsection (i)(1) of section 112 of the Revenue Act of 1928 defines the term "reorganization" as "a merger or consolidation (including the acquisition by one corporation of at least a majority of the voting stock and at least a majority of the total number of shares of all other classes of stock of another corporation, * * )." Subsection (i)(2) of the same section provides that the term "a party to a reorganization" includes "both corporations in the case of an acquisition by one corporation of at least a majority of the voting stock and at least a majority of the total number of shares of all other classes of stock of another corporation." Giving careful consideration to the meaning of the term "reorganization" quoted above from the statute and the facts in this case after omitting from consideration, in accordance with the provisions of subsection (c)(1), the cash payment received by the stockholders of the bank, we can find nothing of substance which would distinguish this case from that of 788 . Under authority of that decision, we accordingly hold that but for the fact that cash was received in the instant transaction, the exchange would be within subsection (b)(3) of section 112, supra, and under subsection (c)(1) of the same section the gain to the petitioner may not be recognized in an amount in excess of $67,500. So far as the record shows, the parties have accepted cost as the basis for computing the gain on all of the bank stock transferred except the 520 shares which the petitioner acquired by inheritance, and with reference to the 520 shares they are in apparent agreement that the basis is the fair market value of the stock on January 29, 1920. The petitioner contends that the stock had a fair market value of $279.64 on that date, while the respondent takes the position that the fair market value of the stock was $175 per share, as reflected by sales made soon thereafter and over a period of several years. The petitioner claims that the fair market value of the bank assets on the date in question was $204,635.36, or approximately $204 for each share of stock outstanding and relies on the testimony789 of several witnesses, called in his behalf, who were of the opinion that the fair market value of the stock was between $250 and $270 per share. On the other hand it is noted that the book value of the capital stock on January 29, 1920, was only $128,059.36, or approximately 1105 $128 per share. Further, it appears, from the statement of earnings and dividends introduced in evidence by the petitioner, that net earnings adjusted to reflect losses on loans and bonds, and all recoveries for the years 1915 to 1920, inclusive, were $9,429.26, $11,919.79, $5,643.80, $8,094.31, $10,971.65, and $15,016.50, respectively, and that the net earnings so adjusted did not again reach the high of 1920 until the year 1928. It is also noted that all sales or purchases of the stock in 1920, or near that time, were made at $175 per share. After considering all of the evidence before us, we have decided and have found as a fact that the fair market value of the bank stock on January 29, 1920, was $175 per share. The next question for determination is the fair market value of the stock of the Northwest Bancorporation on October 30, 1929. While it might be argued that this stock was valued790 at $90 per share under the contract, it is apparent that that figure was used as the basis of exchange and not as an indication of fair market value at a given date. The contract did not give the petitioner the privilege of receiving $360 per share for his bank stock, but required him to accept a minimum of three shares of Northwest Bancorporation stock and a maximum of cash in the sum of $90. Such a provision in the contract could not be held to establish the fair market value for the stock on the date of exchange in the face of evidence introduced by the petitioner showing sales of 2,883 shares of the stock on that date of the St. Paul Stock Exchange, at prices ranging from a low of 66 1/2 to a high of 71 and a closing price of 70. The petitioner has alleged in his petition that the stock on that date had a fair market value of $70 per share and we have so found as a fact. The only remaining question to be determined is whether or not the petitioner, being on a cash receipts and disbursements basis, received in the taxable year the 750 shares of the Northwest Bancorporation stock covered by paragraph 4 of the contract. If so, this stock, at $70 per share, must also be included791 in computing the gain recognized for the year 1929. The petitioner contends that never at any moment until this stock was released to him in 1931 and 1932 did he receive it or have a right to receive it, and that under no circumstances did it constitute income to him in any prior year. The contract between the parties best reflects the actual transaction. By its terms the petitioner and his wife disposed of 750 shares of bank stock and received therefor 2,250 shares of stock of the Northwest Bancorporation and $67,500 in cash. In section 4 1106 of the contract, it appears that the company had questioned certain paper carried in the assets of the bank, and the 750 shares of stock were deposited with the company and were to be held by it until the actual work-out of these assets had been determined. According to the terms of the contract the petitioner and his wife received the entire amount of the stock in the year 1929 and posted the 750 shares as security for the representations made by them with reference to the assets of the bank. Cf. 792 , and ; affd., . See also , and , reversing . In the last two cases cited stock was sold for cash and it was pointed out in the opinions that the sellers did not receive in the taxable year the full amount of the purchase price, nor did they have the right to receive it. Payment of this balance was conditional and it was held that such balance did not constitute income until the events on which payment was conditioned were fulfilled. This case is different. Here the contract contained no condition whatever with reference to the payment of the full amount of the stock agreed upon. Even though the assets of the bank did not work out as represented, there was no right on the part of the seller to reduce the number or to take back any of the shares exchanged under the contract, but only a right to sell collateral to the extent required to make good the representations as to the bank assets. Ownership of this stock793 had passed to the petitioner and he was exactly in the same situation as if other securities had been deposited in the place of the 750 shares of company stock. On this point the petitioner relies on , affirming a decision of the Board reported at . There the facts are quite different from the facts here. In that case the petitioner was selling a sawmill and the price to be received was conditioned on the amount of timber available. The purchasers had offered a fixed price for the mill provided a definite amount of timber should be guaranteed, but the petitioner refused such a contract and the contract entered into postponed both the determination of and final settlement on the purchase price of the mill until the actual work-out of the timber was known. In the instant case the amount of cash and number of shares to be transferred were fixed, and the transfers made, and in this respect the transaction was not thereafter to be disturbed, the company having only the right to sell company stock, held by it as collateral, to the extent necessary to make itself whole in respect of the representations794 of the shareholders of the bank. 1107 On this point the respondent is sustained and the 750 shares of stock in question should be included in computing petitioner's taxable income for the year 1929. Reviewed by the Board. Decision will be under Rule 50.ARUNDELLARUNDELL, dissenting: I disagree with the holding in the majority report to the effect that petitioner received in 1929 750 shares of stock of the Northwest Bancorporation. As a matter of fact, the shares were not received by the taxpayer within that year, either actually or constructively. He had no right within the year to demand their delivery and indeed did not receive them until the years 1931 and 1932. In 1929 it was not definitely known if he would ever receive the shares in question. Under such circumstances it seems to me that the conclusion reached in the majority opinion on this point is wrong. Commissinoner v. Cleveland Trinidad Paving Co., 62 Fed.(2d) 85; Stoner v. Commissioner, 79 Fed.(2d) 75; Preston R. Bassett,33 B.T.A. 182">33 B.T.A. 182. Mead Construction Co.,3 B.T.A. 438">3 B.T.A. 438, treats of a deduction and is not795 in point. TRAMMELL agrees with this dissent. Footnotes1. Sec. 112. (c) Gain from exchanges not solely in kind. - (1) If an exchange would be within the provisions of subsection (b) (1), (2), (3), or (5) of this section if it were not for the fact that the property received in exchange consists not only of property permitted by such paragraph to be received without the recognition of gain, but also of other property or money, then the gain, if any, to the recipient shall be recognized, but in an amount not in excess of the sum of such money and the fair market value of such other property. ↩2. Sec. 112. (b)(3) STOCK FOR STOCK ON REORGANIZATION. - No gain or loss shall be recognized if stock or securities in a corporation a party to a reorganization are, in pursuance of the plan of reorganization, exchanged solely for stock or securities in such corporation or in another corporation a party to the reorganization. ↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623710/	THE MINNEAPOLIS SECURITY BUILDING CORPORATION, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Minneapolis Sec. Bldg. Corp. v. CommissionerDocket No. 82131.United States Board of Tax Appeals38 B.T.A. 1220; 1938 BTA LEXIS 771; November 22, 1938, Promulgated 771 1. DEPRECIATION. - Deductions for exhaustion of a leasehold property computed by spreading the cost over the unexpired term of the lease rather than over the shorter life of a building occupying the leased premises. 2. RENT. - Deposits by a lessee in a depreciation fund belonging to the lessee, but pledged with the lessor, which might become the property of the lessor under certain contingencies are not deductible under section 23(a) as long as their ultimate disposition is unknown and because they could be used to purchase interests in the demised premises. Oswald Maland, Esq., for the petitioner. B. M. Brodsky, Esq., for the respondent. MURDOCK 1220 OPINION. MURDOCK: The Commissioner determined a deficiency of $671.22 in the petitioner's income tax for the fiscal year ended June 30, 1933. The first issue is, how should the cost of the leasehold be amortized, i.e., should the cost be recovered by deductions spread over the remaining term of the lease, or over the shorter life of the building on the leased premises, or should a part of the cost be spread in the one way and a part in the other. The only other issue is whether or not772 the petitioner is entitled to deduct $3,256.82 paid into the "Depreciation Fund", as provided in the lease. The Commissioner has claimed an increased deficiency on the ground that he computed deductions for exhaustion of the leasehold upon an excessive basis. The parties have agreed upon the correct basis and the petitioner has no objection to the adjustment claimed by the Commissioner except as is set forth in its contention under the first issue. The facts have been stipulated and the Board adopts the stipulation as its findings of fact. The petitioner acquired the unexpired portion of a 99-year lease just prior to the beginning of the taxable year. The lease then had 94 years and 11 months to run. The property subject to the lease was a tract of land, located in the business district of Minneapolis, Minnesota, completely covered by an office building. The lessor was the owner of the land and building at the time the lease was originally executed. The building was 25 years old at the time the lease was acquired by the petitioner and had a remaining life of 30 years. Its value at that time was $705,600, while the value of the land was $293,000. The petitioner's basis for773 gain or loss and for exhaustion of the leasehold was $258,130.51. The income which the petitioner received 1221 from the leased premises consisted entirely of rentals received from tenants of the office building. The petitioner, as lessee, was required to pay $55,000 a year as rental to the lessor. The lessee was required to maintain the improvements on the leased premises and was permitted but not required to remove and replace the building under certain circumstances. It also had an option to purchase the leased premises on or before June 1, 1978, for the sum of $1,050,000. The Commissioner contends the a reasonable allowance for exhaustion of the leasehold for this fiscal year is computed by taking that part of the cost of the lease which bears the same ratio to the total cost of the lease as the twelve months of the fiscal year bear to the total unexpired period of the lease at the beginning of the fiscal year. The petitioner contends that a reasonable allowance for exhaustion of the lease is one-thirtieth of its cost, because that cost must be recovered over the remaining useful life of the building. It contends in the alternative that some portion of the cost774 of the leasehold should be apportioned to the building and recovered over the useful life of the building. There is no evidence relating to this question except what has been already outlined, together with the terms of the lease. The entire record does not indicate any sound reason for computing the deduction or any part of it with reference to the life of the building, rather than with reference to the unexpired portion of the lease. The petitioner does not have an exhaustible interest in the building. Neither had its predecessor, the original lessee. . Cf. . The exhausting property which it owns is the leasehold. There is present no justification for concluding that the useful life of that leasehold will be less than its unexpired term. The method advocated by the Commissioner is the usual method (Regulations 77, arts. 130 and 201) and its use has been approved in a great many cases. ; 775 ; ; ; ; Coronado Realty .co.,; , affirming . If its use here does not result in a reasonable allowance for exhaustion of the leasehold, at least that fact has not been shown by the petitioner. Some of the cases above cited involved similar long term leases. The capital outlay of the petitioner for the lease will be returned by the method which the Commissioner seeks to apply. . The petitioner during the fiscal year deposited $3,256.82 in the "Depreciation Fund" pursuant to the provisions of article five of the lease. The deposit was made by delivering to the lessor certain land 1222 trust certificates which the petitioner had acquired during the year at a cost of $3,256.82 and which were accepted by the lessor in lieu of that amount of cash. The certificates were carried on the petitioner's776 balance sheet at the end of the year as an asset under the heading of "Securities in depreciation fund." The petitioner did not claim any deduction on its income tax return for the fiscal year on account of this deposit and the Commissioner has not allowed any deduction in determining the deficiency. The amount contained in the depreciation fund did not amount to $750,000 at the time the stipulation was entered into. Article five is entitled "Depreciation Fund", and contains the statement that depreciation of the premises and the amount of damages to the lessor in case of default will be incapable of exact determination and, in order to avoid the necessity of approximating such amounts, to guarantee the payments to be made by the lessee and to indemnify the lessor against all liabilities in connection with the demised premises, "The Lessee agrees to create and maintain in the hands of the Lessor a special fund to be known as the 'Depreciation Fund' under the following terms and conditions and for the uses, benefits and purposes hereinafter set forth, to-wit:" (a) The lessee agrees to "deposit" $7,500 with the lessor during each year until the Depreciation Fund shall amount to777 $750,000 as hereinafter provided. (b) The lessor will pay interest on any money in its hands belonging to the fund at such rate as interest is paid on funds in checking accounts in trust companies in Cleveland, Ohio, and will invest and reinvest available funds, subject to the request and approval of the lessee, "in obligations of the United States of America or in undivided fractional interests in the fee of the demised premises." The interest and income shall be credited to and become a part of the fund until the fund shall amount to $750,000 as hereinafter provided. In the event the Lessee exercises its option to purchase the demised premises as hereinabove provided, the Lessor shall, on receipt by him of the option price, pay and deliver to or upon the order of the Lessee, all moneys and/or investments then held by him in said Depreciation Fund. (c) Further deposits shall cease whenever and as long as the fund (taking investments at their market or face value, whichever is lower) shall amount to $750,000, and thereafter the income from the fund, exclusive of capital gain, shall be paid to the lessee. (d) The lessee may make deposits in securities. (e) The lessor778 may withdraw sums from the fund sufficient to pay the lessee's obligations in case the latter fails to make prompt payments in accordance with the lease. 1223 (f) The lessee is to pay all taxes on the fund or the income therefrom. (g) Said Depreciation Fund and the investments included therein shall be and remain the property of the Lessee, pledged, transferred and deposited, to and with the Lessor, however, for the purposes herein set forth, and without any right in the Lessee to use, claim or enjoy the same except to the extent and in the manner herein specifically set forth. Upon the termination of this Lease by the expiration of its term, said Fund and the investments included therein shall, without further act or deed by the Lessee, belong to and thereafter be and remain the property of the Lessor in the same manner as is in such cases made and provided with respect to the demised premises, and shall be and constitute liquidated compensation to the Lessor on account of the depreciation in the value of the demised premises during the Lessee's occupancy thereof, and upon the happening of such event the Lessee does hereby sell, convey, assign, transfer and set over779 unto the Lessor all the right, title or interest of the Lessee in said Fund. Upon the termination of this Lease on account of the default of the Lessee hereunder, said Fund and the securities included therein shall belong to and thereafter be and remain the property of the Lessor in the same manner as if in such case provided with respect to the demised premises, and shall be and constitute liquidated compensation to the Lessor on account of the depreciation in the value of the improvements on the demised premises during the Lessee's occupancy thereof and liquidated compensation to the Lessor for damages resulting from such default, and upon the happening of such event the Lessee does hereby sell, convey, assign, transfer and set over unto the Lessor all the right, title or interest of the Lessee in said Fund. Until the happening of such event as under the provisions of this Lease shall give the Lessor the right and title to said Fund or the right to have recourse thereto, the Lessor shall have only a contingent interest therein as in this Lease provided. There is a provision elsewhere in the lease that the lessee, upon exercising the option and paying the purchase price of $1,050,000, 780 "shall be entitled to all moneys and/or investments in the Depreciation Fund held by the lessor under the provisions of this lease, and all insurance moneys then in the hands of the Trustees for Insurance hereinafter named." Another provision is that the lessee shall maintain and keep the improvements in good condition, keep the improvements insured, and have the use of any insurance proceeds necessary to restore the premises. If the premises are taken for public use, such appropriation is to constitute an election on the part of the lessee to exercise its option, and upon payment of the option price the lessee is to have all awards, together with the depreciation fund and insurance. The lessee is to pay all taxes. The lessee, while not in default, has the right to remove improvements for the purpose of replacing them with other improvements upon putting up proper security to protect the lessor. Any building erected is to be a proper one for the location, and is to cost not less than $1,000,000. Improvements are to immediately become a part of the realty. 1224 No improvements were made by the petitioner. The petitioner contends that it is entitled to deduct the781 amount of $3,256.82 under section 23(a) of the Revenue .act of 1932, either as additional rent or as an ordinary and necessary expense. That section provides for the deduction of 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." The annual payment of $55,000 which the petitioner was required to make to the lessor was clearly rental for the use of the property during the taxable year. But the amount here in question was quite different. It was not paid to the lessor absolutely for the use of the property during the taxable year. It was not paid to the lessor absolutely for any purpose It was not paid at all. Neither did it represent an accrual. Instead, it was deposited with the lessor to be made a part of a fund which still belonged to the lessee. The right of the lessor to that fund was entirely contingent and depended upon the possibility of a default by the lessee782 in some payment or upon the failure of the lessee to exercise its option on or before June 1, 1978. The petitioner would recover possession of the fund upon exercising the option and purchasing the property. Meanwhile, the fund remains as property of the lessee, forming a guarantee to the lessor. The fund may possibly go to the lessor in the future. It may go to the lessor piecemeal in order to make up payments on which the petitioner has defaulted. Deductions for such possible use of the fund will have to be determined in the light of the circumstances under which the use is made. Cf. ; . The fund may go to the lessor in its entirety on June 2, 1978, but, if so, that will be the first date upon which the exact nature of the payments can be determined. Meanwhile, the petitioner is not entitled to deduct deposits in the fund. If, as may happen, the fund is returned to the petitioner, then the impropriety of the allowance of any deduction as an ordinary and necessary expense would clearly appear. Although no further reason is necessary for disallowing this783 deduction, nevertheless there are other reasons why it may not be allowed. Section 23(a) allows a deduction for rents or other payments required to be made as a condition to the continued use of property only in case the taxpayer has not taken and is not taking title to the property and has no equity in the property. The lease agreement *1225 provides expressly that the fund and the investments included in it shall be the property of the lessee, and it further provides that those funds may be invested in "undivided fractional interests in the fee of the demised premises." The record does not show whether or not any of the fund has been invested in such fractional interests. But regardless of whether or not such investments have been made, nevertheless they may be made, and under such circumstances no deduction would be proper under section 23(a). Decision will be entered under Rule 50.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623715/	ERIC L. VAUGHAN AND DENISE M. VAUGHAN, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, RespondentVaughan v. CommissionerDocket No. 13316-92United States Tax CourtT.C. Memo 1994-8; 1994 Tax Ct. Memo LEXIS 10; 67 T.C.M. (CCH) 1936; January 10, 1994, Filed 10 Decision will be entered under Rule 155. For petitioners: John D. Copeland and Gary A. Moreland. For respondent: James Prothro and Julie Porter. PATEPATEMEMORANDUM FINDINGS OF FACT AND OPINION PATE, Special Trial Judge: This case was assigned pursuant to the provisions of section 7443A(b)(3) and Rules 180, 181, and 182. 1Respondent determined a deficiency in petitioners' 1988 Federal income tax of $ 7,199 and that they are liable for additions to tax under section 6653(a)(1)(A) of $ 360, section 6653(a)(1)(B) of 50 percent of the interest due on the portion of the underpayment due to negligence, and section 6661 of $ 1,800. Respondent also determined a deficiency in petitioners' 1989 Federal income tax of $ 3,050 and that they are liable for additions to tax under section 6651 of $ 610 and section 6662 of $ 610. After a concession by respondent, 11 2 the issues for our decision are: (1) Whether we should shift the burden of proof to respondent; 3(2) whether petitioner Eric L. Vaughan underreported his income from Smartech Systems, Inc.; and (3) whether petitioners are liable for the additions to tax determined by respondent. FINDINGS OF FACT Some of the facts have been stipulated, and they are so found. Petitioners are husband and wife and filed joint income tax returns for 1988 and 1989. They resided in Mansfield, Texas, at the time they filed their petition. Eric L. Vaughan (hereinafter petitioner) has worked12 in the computer industry for approximately 8 years. He studied computers and accounting for 2 years at Western Michigan University, and then started working as a data entry operator. In 1982, he moved to Dallas, Texas, where he worked for Affiliated Computer Systems (whose name was later changed to M Tech), a company providing data processing services to multi-branch banks and ATM's. While at M Tech, he was promoted to assistant vice president in charge of technical services. In 1986, he left M Tech to start his own company, Smartech System Solutions, Inc. (hereinafter Smartech Solutions). Smartech Solutions provided consulting services to the "main-frame" computer industry. In 1987, a business acquaintance offered to sell petitioner a software package called Display Operator Console Support (hereinafter DOCS or the software). Because petitioner was unable to personally finance the purchase price, he contacted Mr. Robert Mohr (hereinafter Mohr) to interest him in the enterprise. Mohr holds a bachelor of science degree in business from Massachusetts Institute of Technology and, at the time of trial, was chief executive officer and chairman of DMDA, Inc. In April 1987, petitioner13 and Mohr formed DOCS Acquisition Corp. (hereinafter DOCS Acquisition or the Corporation), a corporation in which Mohr invested $ 100,000, and petitioner contributed his experience and expertise. Mohr received 95 percent and petitioner 5 percent of the capital stock. The two men constituted the board of directors. Mohr was elected chairman of the board and treasurer; petitioner was elected president and secretary. To finance the purchase of the software, Mohr also loaned the Corporation $ 1.2 million. The Corporation signed a note promising to repay Mohr in equal annual principal payments over a 10-year period; 1-percent interest was payable each month. The Corporation then purchased the DOCS software, the customer list, and all pertinent records for approximately $ 1.2 million. On July 15, 1987, the Corporation was renamed Smartech Systems, Inc. (hereinafter Smartech). Smartech's income was derived primarily from renting DOCS on a monthly, yearly, or biyearly basis. On July 14, 1987, petitioner and the Corporation entered into an agreement whereby petitioner accepted employment as its president and chief operating officer. As such, petitioner was empowered to: manage14 and direct the day-to-day operations of the Company, and * * participate in the management and direction of the Company, including strategic planning, advising and counseling, and such other lawful, reasonable and necessary tasks as the Board requests from time to time during the term of this Agreement. * * Petitioner also agreed that: All services to be performed by Vaughan shall be performed (a) to the best of his ability and to further the welfare, development, and profitability of the Company and (b) wherever the business needs of the Company may require the attention of Vaughan. Vaughan agrees that he will conduct himself in a professional and ethical manner at all times * , and will take no action that might cause injury to the business or goodwill of the Company. * Under the agreement, petitioner was to be paid an annual base salary of $ 98,400 and a yearly car allowance of $ 4,800; be reimbursed for reasonable business expenses including, but not limited to, expenses incurred for travel and entertainment; and be paid a bonus (payable upon the occurrence of certain events) equal to: 25% of (i) the sum of (1) the Company's annual revenues from15 computer software sales less commissions and royalties paid to persons other than David L. Shepherd plus (2) all other annual revenues from products sold less the costs (excluding reasonable and customary operating expenses) of such products to the Company, minus (ii) $ 1,000,000. * * In addition, his bonus was to be reduced by: an amount equal to 50% of all royalties paid or accrued to Richard K. Goran on one-time sales by the Company of "DOCS" software under the terms of the Asset Purchase Agreement dated as of June 17, 1987, by and between the Company, CFS, Inc., and Richard K. Goran. To the extent the Bonus Adjustment exceeds the amount of the Bonus that would otherwise be payable, the unused portion of the Bonus Adjustment shall be applied against the Bonus that would otherwise be payable thereafter until the entire Bonus Adjustment has been applied. * Under these provisions, in 1988, petitioner earned a bonus equal to 25 percent of Smartech's gross profit of $ 1,048,652, less $ 1 million ($ 48,652), or $ 12,163. However, all of petitioner's bonus was absorbed by the offset against royalties paid to Mr. Goran. In 1989, Smartech's gross profit was $ 1,114,350, 16 resulting in a bonus of $ 28,457, less $ 4,607 for royalties paid to Mr. Goran. 4 However, this bonus was not computed prior to petitioner's leaving the Corporation's employ. As president and chief operating officer, petitioner managed all of the operations of Smartech. He hired, fired, and supervised all of its employees. He negotiated leases, purchased office and other business supplies, monitored its financial affairs, signed checks, and advertised for customers. At all times relevant to this case, Smartech employed a bookkeeper, who was responsible for maintaining the records of the company, including recording accounts receivable and accounts payable, and preparing checks for disbursement. 5 However, the bookkeeper could make payments to vendors only after petitioner17 reviewed the aged accounts payable schedule and decided which vendors were to be paid. The computer automatically produced checks in payment of invoices recorded as accounts payable. Checks for items not recorded as accounts payable had to be manually prepared by the bookkeeper. The bookkeeper did not issue payroll checks; a separate company performed this function. Both Mohr and petitioner were authorized to sign checks. Mohr did not participate in the day-to-day operations of Smartech, but met with petitioner each month to review the Corporation's progress. He reviewed the financial statements monthly (balance sheet and income statement) and participated in making significant business decisions. He advised the Corporation on marketing, strategic planning, 18 and financial issues. He did not examine the books, the monthly bank statements, or the canceled checks. In February 1988, petitioner began authorizing, by filling out a manual check request form, the preparation of checks to himself for amounts ranging from $ 1,000 to $ 10,000. On the manual request forms, petitioner designated to whom the check was to be payable, the amount of the check, and the general ledger account to be charged. The following is a list of the checks issued pursuant to petitioner's request and at issue in this case: Date1 AmountGeneral Ledger AccountCharged/ Description (if any) 02/05/88$ 3,500 Employee Advance (EA) 02/09/882,000EA-travel for petitioner (Check payable to Linda Roberts) 02/29/885,500Transfer from EA to Accounts Receivable (AR) 03/09/883,000Travel/Entertainment-travel for petitioner (Check payable to Sheila Harper) 07/14/881,000EA (Check payable to Mastercard) 08/03/882 2,000Machinery & Equip. 09/02/881,400$ 1,000 to EA 10/03/883,4003,000 to EA 10/31/883,000Transfer from EA to AR 11/01/885,000EA 11/30/885,000Transfer from EA to AR 01/24/892,000EA 04/06/892,500EA 04/18/892,000EA 04/30/894,500Transfer from EA to AR 05/09/893,500EA 05/31/893,500Transfer from EA to AR 06/15/896,000EA 06/30/896,000Transfer from EA to AR 07/05/8910,000Notes Receivable 07/31/8910,000Transfer from Notes Receivable to AR 08/11/896,800EA 08/31/896,800Transfer from EA to AR 10/12/893 3,030EA for international currency (Check payable to Sheila Harper) 10/06/893,000EA 10/31/894,498Transfer from EA to AR-adjust bonus advance 11/03/896,500EA 12/11/891,000EA 12/07/893,000EA 12/31/894,000Transfer from EA to AR 12/21/894,432Commissions 19 In addition, petitioner authorized the bookkeeper to pay several of his personal expenses, including computer software for his children, legal fees, and his wife's travel expenses. Such purchases totaled approximately $ 2,600. At the end of each month, petitioner authorized the bookkeeper to make a general ledger entry transferring the amount he received which had been charged to the "employee advances" account into the "accounts receivable" account. In general, "accounts receivable" was the account used to record amounts due to the company from its customers for the sale of goods and services. During 1988 and 1989, Mohr became increasingly concerned about the large amount of accounts receivable appearing on the balance sheet and the resulting poor cash flow. He pressed petitioner for details concerning uncollected accounts and requested a schedule of customers owing money to Smartech. It is unclear from the record whether petitioner ever submitted such a list to Mohr. In November or December of 1989, the bookkeeper questioned petitioner as to the advisability of his drawing a large salary and making substantial cash advances to himself when the company was unable to pay its20 bills on a timely basis. Afterward, petitioner drafted several memorandums describing his discontent with the bookkeeper's job performance and, in June 1990, terminated her employment. When petitioner failed to discontinue making advances to himself, the new bookkeeper, concerned about the financial stability of the company and her job security, asked a temporary employee to phone Mohr and advise him of petitioner's actions. Mohr received several phone calls from this "anonymous" caller, each call providing more details than the first. After a few such calls, Mohr contacted his accountant to discuss possible financial improprieties at Smartech. In August 1990, Mohr met several of his accountants at Smartech's office to conduct an examination of the Corporation's books and records. During these and subsequent examinations, the accountants discovered the checks enumerated above, the general ledger accounts originally charged, and the subsequent transfers from "employee advances" to "accounts receivable". In their opinion, petitioner's practices in this regard were "irregular and inappropriate". Until this time, Mohr was unaware that the Corporation had been advancing petitioner21 money. Mohr then confronted petitioner with the accountants' findings. Petitioner explained that he considered these checks to be advances which he planned to repay by offsetting them against his yearend bonuses when they became payable. Nevertheless, by the end of the meeting, Mohr prevailed upon petitioner to agree to sign a note payable to Smartech for these advances. The next day, Mohr informed petitioner that his employment was terminated. Subsequently, petitioner gave Smartech a $ 5,000 check in partial payment of the advances, and signed an Agreement and Release and a Note Payable for $ 70,000. The note called for monthly interest payments and a balloon principal payment. The note also provided that the final principal amount would be adjusted if the advances to petitioner exceeded those already discovered by the accountants. Petitioner made several interest payments on the note, but then filed for bankruptcy on July 23, 1991. Smartech filed a proof of claim for $ 70,000 with the bankruptcy court, which was ultimately discharged. In August 1991, Mohr (as president of Smartech) sent a letter to the Dallas County District Attorney alleging that petitioner had "blatantly22 removed company funds for his personal use and had taken measures to cover-up his activities". However, petitioner was never criminally prosecuted for the transactions at issue in this case. On their 1988 income tax return, petitioners reported gross income of $ 103,200, which included petitioner's base salary and car allowance, but did not include any advances that petitioner received from the Corporation during 1988. On their 1989 income tax return, petitioners reported gross income of $ 153,984, which included petitioner's base salary, car allowance, and $ 50,065 in advances. Petitioner included the advances in his gross income on his 1989 income tax return upon the advice of his accountant. During 1991, Mohr's accountants advised him that Smartech should file a Form 1099-Misc. with the Internal Revenue Service reflecting the advances as "embezzled funds" constituting nonemployee compensation paid to petitioner. Eventually, a notice of deficiency was issued to petitioner for 1988 and 1989. OPINION Burden of ProofRespondent issued a notice of deficiency to petitioners in which she determined that they had received additional income during 1988 and 1989, and stated, 23 as grounds therefor: "From records and information available, it has been determined that you received additional income in the amount shown." Petitioners contend that respondent's determination was arbitrary and without foundation and, as a result, the burden of going forward with the evidence should be placed on respondent. They contend that, from the notice of deficiency, it was "impossible to determine how the alleged deficiency was computed, the source of the alleged income, the theory supporting its taxability or any other fact which would enable petitioners to prepare and try this case." In general, a notice of deficiency is presumed correct, and the taxpayer bears the burden of proving that respondent's determination is incorrect. Rule 142(a); Welch v. Helvering, 290 U.S. 111 (1933). If, however, the taxpayer demonstrates that the notice of deficiency is arbitrary, the burden of going forward with the evidence shifts to respondent. Helvering v. Taylor, 293 U.S. 507">293 U.S. 507 (1935); Jackson v. Commissioner, 73 T.C. 394">73 T.C. 394 (1979). Generally, when respondent has not submitted any evidence linking24 the taxpayer to the activity from which the unreported income was derived or respondent fails to provide any basis for the amount of the income determined to be correct, a taxpayer argues that the notice of deficiency is arbitrary. Berkery v. Commissioner, 91 T.C. 179">91 T.C. 179, 195 (1988), affd. without published opinion 872 F.2d 411">872 F.2d 411 (3d Cir. 1989). Petitioners rely on Portillo v. Commissioner, 932 F.2d 1128">932 F.2d 1128 (5th Cir. 1991), affg. in part and revg. in part T.C. Memo. 1990-68, and Carson v. United States, 560 F.2d 693">560 F.2d 693 (5th Cir. 1977), to support their argument that the notice of deficiency issued to petitioner was arbitrary. In Portillo, respondent determined that the taxpayer, a painting subcontractor, underreported his income. Respondent's determination was based on a Form 1099 filed by one of the contractors for whom the taxpayer worked. The contractor could produce checks payable to the taxpayer for only a portion of the amount he reported he had paid the taxpayer; the contractor failed to substantiate the remainder, claiming to have25 paid the taxpayer in cash. Nevertheless, respondent determined that the taxpayer's gross income should reflect the higher amount. Under these circumstances, the Court of Appeals for the Fifth Circuit held that respondent's determination in the notice of deficiency was arbitrary. Portillo v. Commissioner, supra, is clearly distinguishable from this case. In Portillo, the taxpayer claimed that he never received the total amount of funds reported on a Form 1099 filed by one of the contractors, and the contractor could not show that he had made such payments. In this case, there is no dispute that Smartech made the total amount of the advances it reported that it had made to petitioner. Not only has Smartech substantiated the total amount of the advances it reported to respondent; petitioner admits to having received such funds. Thus, in this case, petitioner is faced with proving whether the funds he admittedly received are includable in his income, and not, as with the taxpayer in Portillo, that the funds that were reported on a Form 1099 were never received. Similarly, in Carson v. United States, supra,26 respondent assessed the taxpayer for excise taxes based on his alleged wagering activities. Because there was no evidence in the record that the taxpayer had engaged in the business of accepting wagers during the period in issue, the Court found that respondent's assessment was arbitrary. Again, Carson is clearly distinguishable from this case. In Carson, there was no evidence that the taxpayer was linked with the activity (gambling) in issue, whereas petitioner has admitted that he worked for Smartech and, in connection with such employment, received the advances during the years in issue. Therefore, there is no dispute that petitioner engaged in the activity giving rise to respondent's determinations. See Shriver v. Commissioner, 85 T.C. 1">85 T.C. 1, 4 (1985); Green v. Commissioner, T.C. Memo. 1993-152. Accordingly, we find that the notice of deficiency is not arbitrary. Alternatively, petitioners argue that respondent raised a new matter and therefore we should shift the burden of proof to respondent. Rule 142(a). In general, a new matter is raised when "the evidence required to disprove the determination in the27 deficiency notice is different than that required to meet the position taken by respondent at trial." Estate of Falese v. Commissioner, 58 T.C. 895">58 T.C. 895, 899 (1972); see Wayne Bolt & Nut Co. v. Commissioner, 93 T.C. 500">93 T.C. 500, 507 (1989); Colonnade Condominium, Inc. v. Commissioner, 91 T.C. 793">91 T.C. 793, 795 n.3 (1988); Achiro v. Commissioner, 77 T.C. 881">77 T.C. 881, 890-891 (1981). A new theory which merely clarifies or develops the original determination is not a new matter in respect of which respondent bears the burden of proof. Estate of Jayne v. Commissioner, 61 T.C. 744">61 T.C. 744, 748-749 (1974); McSpadden v. Commissioner, 50 T.C. 478">50 T.C. 478, 492-493 (1968); Way v. Commissioner, T.C. Memo 1990-590">T.C. Memo. 1990-590. In the notice of deficiency, respondent determined that petitioner had received income in excess of the amount he reported on his 1988 and 1989 income tax returns. At trial, respondent maintained that same position. The record does not indicate any misunderstanding on the part of either party that the source28 of the alleged increase in income was the advances to petitioner from Smartech, and petitioner never challenged the amount of such increase. Because the position of respondent on the notice of deficiency and at trial was that petitioner had underreported his income from Smartech, we find that no new matter was raised by respondent. 629 Nevertheless, petitioner argues that respondent refused to comply with his pretrial discovery requests, and, as a result, any theory advanced at trial would surprise and prejudice petitioner in the presentation of his case. However, petitioner engaged in substantial pretrial discovery. Before trial, the parties informally exchanged documents. Moreover, petitioners deposed some of respondent's witnesses, and additional documents were produced at those depositions. Therefore, it is clear that respondent disclosed most, if not all, of her evidence prior to trial. Finally, we note that petitioner maintains that the advances he received from Smartech were loans. If he had proved that the advances were loans, he would have prevailed in this case. He does not explain how respondent's theory that the advances petitioner received were income could have prejudiced his presentation of that position. As a result, we fail to discern how petitioner was materially prejudiced by respondent's actions. Accordingly, we decline to shift the burden of proof to respondent. Loans v. IncomeHaving decided that petitioner must carry the burden of proving that the advances he received from30 Smartech were not taxable to him, we must now decide whether he has carried such burden. Petitioner argues that the advances he received from Smartech were bona fide loans, which he was empowered to make to himself, and which he intended to repay by offsets against his yearend bonuses when earned. He argues that, by virtue of these advances being loans, they do not constitute gross income. Generally, the proceeds of a loan do not constitute income to a borrower because the benefit is offset by an obligation to repay. United States v. Rochelle, 384 F.2d 748">384 F.2d 748, 751 (5th Cir. 1967); Arlen v. Commissioner, 48 T.C. 640">48 T.C. 640, 648-649 (1967). Deciding whether a particular transaction actually constitutes a loan, however, is a question of fact to be determined upon consideration of all the pertinent facts in the case. Fisher v. Commissioner, 54 T.C. 905">54 T.C. 905, 909 (1970). Whether a bona fide debtor-creditor relationship exists is a question of fact, and essential elements are the intent of the recipient of the funds to make monetary repayment and the intent of the person advancing the funds to enforce repayment. 31 Beaver v. Commissioner, 55 T.C. 85">55 T.C. 85, 91 (1970); Fisher v. Commissioner, supra at 909-910. Whether the recipient had an intent to repay and the lender an intent to enforce repayment is determined at the time of receipt of the funds. Frierdich v. Commissioner, 925 F.2d 180">925 F.2d 180, 184 (7th Cir. 1991), affg. T.C. Memo. 1989-103; Estate of Chism v. Commissioner, 322 F.2d 956">322 F.2d 956, 960 (9th Cir. 1963), affg. T.C. Memo. 1962-6. Indicative of an intent to repay are whether a note evidencing the indebtedness was executed, whether the parties agreed on the rate of interest, whether there was a fixed maturity date, whether a security interest was given the creditor, and whether the debtor had the ability to make repayment. Frierdich v. Commissioner, supra at 182; Busch v. Commissioner, 728 F.2d 945">728 F.2d 945, 948 (7th Cir. 1984), affg. T.C. Memo. 1983-98. The advances petitioner received from Smartech lacked many of the characteristics usually32 present when the Courts find that money advanced constitutes bona fide loans. For instance, at the time petitioner received such advances, Smartech's board of directors had not passed any resolution which effectuated a policy of loans to officers and directors. In addition, petitioner did not give Smartech his promissory note or any other evidence of indebtedness reflecting the advances, nor did he provide any collateral or security for repayment, nor did he make any payments of either interest or principal until after the tax years in issue. Moreover, Smartech did not have any agreement with petitioner as to the time he had to repay these advances nor the rate of interest he was obligated to pay. Finally, the advances were made without regard either to the Corporation's financial ability to make them or with any evaluation of petitioner's ability to repay them. Our consideration of these factors leads us to conclude that the advances did not constitute bona fide loans. However, petitioner argues that he was authorized to make loans to employees on Smartech's behalf, and therefore the advances he made to himself were bona fide loans. To establish this authorization, petitioner33 points to one instance when Mohr allowed him to borrow money from the Corporation and other instances where he advanced funds to employees. However, in the first instance, the loan was made only after petitioner obtained Mohr's approval, and Mohr insisted that petitioner immediately execute a promissory note evidencing his indebtedness and establishing the interest rate and time of repayment. With respect to amounts Smartech advanced to other employees, petitioner authorized relatively nominal amounts, generally for travel or relocation, advances which were to be accounted for or repaid soon afterward. These acts are not comparable to petitioner's actions with regard to the advances at issue. Moreover, if petitioner was empowered to loan himself money, we find it curious that he never once revealed or discussed his actions with Mohr. If the loans had been authorized, he certainly would have brought out their existence when the advances totaled such a relatively substantial amount that they caused shortages in Smartech's cash flow serious enough to prevent it from paying its bills on a timely basis. That no demand was made for repayment when the Corporation was short of cash 34 strongly indicates that the advances were not loans. Further, petitioner vehemently denies that his actions in any way concealed the true nature of his advances. He emphasizes that two of Smartech's bookkeepers were fully aware of his actions, showing that he did not try to conceal his actions from the Corporation. However, we discount the value of disclosure to individuals who are powerless to oppose the actions of their boss, the president of the company. Eventually, when the total of the advances reached such a magnitude that they endangered the liquidity of the Corporation, the bookkeeper did speak up, and, as a result, Mohr put an immediate end to both petitioner's advances and his employment. Petitioner also maintains that his treatment of the advances on the books in no way disguised their true nature. Although he initially charged the advances to the "employee advances" account, he later transferred them into the "accounts receivable" account, where he knew that they would be buried among the customer accounts. Petitioner knew that Mohr reviewed, on a monthly basis, only the balance sheet and income statement and, because of these transfers, Mohr would not become aware35 of their existence without petitioner's disclosure. Thus, in fact, petitioner's actions did conceal the true nature of these advances from the one individual (Mohr) having sufficient authority to either authorize the "loans" or demand repayment. See Foster v. Commissioner, T.C. Memo 1989-276">T.C. Memo. 1989-276. Nevertheless, petitioner cites Gilbert v. Commissioner, 552 F.2d 478 (2d Cir. 1977), revg. T.C. Memo 1976-104">T.C. Memo. 1976-104, in support of his contention that the advances constituted bona fide loans. In Gilbert, the taxpayer was president, principal stockholder, and a director of a corporation from which he withdrew funds without authorization in an attempt to effectuate a merger which would have been favorable to both the taxpayer and the corporation. Within 2 weeks, the taxpayer assigned assets to secure the amount he owed and made an accounting to several of the corporation's officers and directors. The Court of Appeals for the Second Circuit held that in circumstances where misappropriations do not enrich or benefit the misappropriator, and there is a timely consensual recognition of an obligation to repay36 the loans, income does not arise. Id. at 481. This case is distinguishable. Petitioner used the advances for purely personal purposes to improve his standard of living. Although petitioner argues that the more ostentatious lifestyle he could afford because of the advances would make Smartech appear larger and more profitable than otherwise, any benefit to the Corporation would, at best, be characterized as indirect and minimal. Moreover, unlike the taxpayer in Gilbert, petitioner did not pledge any assets as collateral for his alleged debt, did not reveal his advances to anyone who could question his actions, and did not acknowledge the advances as loans until confronted by Mohr, which occurred after the years in issue. Consequently, we conclude that Gilbert v. Commissioner, supra, does not aid petitioner in his arguments. Finally, we note that in finding that the advances from Smartech were not bona fide loans to petitioner, we necessarily find that they constitute income to petitioner. See North American Oil Consol. v. Burnet, 286 U.S. 417">286 U.S. 417, 424 (1932). As explained by the Supreme Court in James v. United States, 366 U.S. 213">366 U.S. 213, 219 (1961)37 (quoting North American Oil Consol. v. Burnet, supra): When a taxpayer acquires earnings, lawfully or unlawfully, without the consensual recognition, express or implied, of an obligation to repay and without restriction as to their disposition, "he has received income which he is required to return, even though it may still be claimed that he is not entitled to retain the money, and even though he may still be adjudged liable to restore its equivalent". * * [Emphasis added.]A rare exception to the rule arises only "where a taxpayer withdraws funds from a corporation * * * which he expects with reasonable certainity he will be able to repay, where he believes that his withdrawals will be approved by the corporation, and where he makes a prompt assignment of assets sufficient to secure the amount owed". Gilbert v. Commissioner, supra at 481; Pizzarelli v. Commissioner, T.C. Memo. 1980-118. In contrast, in this case, petitioner knew or should have known that his actions would not have been approved by the Corporation's board of directors, petitioner never assigned assets to secure the amount 38 he ostensibly owed, and there is no evidence to show that petitioner could have repaid the advances at the time they were made. Consequently, we conclude that the advances at issue were not bona fide loans and, since petitioner had unrestricted use of the funds from the time they were advanced to him, they constitute income in the year he received them. Rutkin v. United States, 343 U.S. 130">343 U.S. 130, 137 (1952); Tussaud's Wax Museums, Inc. v. Commissioner, T.C. Memo. 1966-211. Additions to TaxRespondent also determined that petitioners are liable for various additions to tax, namely (1) for 1988, the addition to tax for negligence pursuant to section 6653(a) of $ 360, plus 50 percent of the interest on the portion of the underpayment attributable to negligence, (2) for 1988, the addition to tax under section 6661 of $ 1,800, (3) for 1989, the addition to tax provided by section 6651 of $ 610 for failing to file a timely income tax return, and (4) for 1989, the accuracy-related penalty under section 6662 of $ 610. Petitioners rested on the evidence they presented to prove that there were no deficiencies, reasoning that, 39 therefore, there would be no additions to tax. Because we have held that the advances petitioner received from Smartech constitute gross income to him, we hold that petitioners are liable for the additions to tax determined by respondent. Because of respondent's concessions, Decision will be entered under Rule 155. Footnotes1. All section references are to the Internal Revenue Code in effect for the years in issue. All Rule references are to the Tax Court Rules of Practice and Procedure.↩2. Petitioner received a car allowance of $ 4,800 during 1989, which was included as gross wages on his Form W-2, and which he reported on his 1989 income tax return. Respondent concedes that the determination on the notice of deficiency incorrectly included this amount as unreported income.↩3. On Apr. 19, 1993, petitioners filed a Motion To Shift The Burden Of Proof to respondent. At trial, we took petitioner's motion under advisement.↩4. The above computations were submitted by petitioners at trial. The amounts of gross profit used by petitioner for these computations differ slightly from the amounts reported by Smartech on its Federal income tax returns for 1988 and 1989.↩5. Smartech employed, in succession, several bookkeepers during the years 1987 through 1990. Reference in this opinion to the term "bookkeeper" refers to whichever individual employed by Smartech at the time was responsible for the duties described above.↩1. All checks are payable to petitioner unless otherwise indicated.↩2. There is a notation on the manual check request form indicating that this amount should have been charged to employee advances.↩3. Petitioner argues that, because this check was payable to Sheila Harper, respondent should not have added it to petitioner's income. However, admittedly this check was cashed by Sheila Harper as a travel advance to petitioner, and because petitioner has not shown that he expended these funds on behalf of Smartech, we will not disturb respondent's determination. Rule 142(a).↩6. Petitioner complains that respondent did not designate the specific nature of the income received by petitioner -- whether it was income from embezzlement or compensation. However, no specificity is required, inasmuch as both of these types of income are includable in petitioner's gross income under sec. 61. As the Supreme Court explained in Rutkin v. United States, 343 U.S. 130">343 U.S. 130, 137 (1952): An unlawful gain, as well as a lawful one, constitutes taxable income when its recipient has such control over it that, as a practical matter, he derives readily realizable economic value from it. * * * That occurs when cash, as here, is delivered by its owner to the taxpayer in a manner which allows the recipient freedom to dispose of it at will, even though * * * his freedom to use it may be assailable by someone with a better title to it.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623716/	CLARENCE WILLIAM SPEER AND SUSAN M. SPEER, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, RespondentSpeer v. Commissioner of Internal Revenue581-12United States Tax Court144 T.C. 279; 2015 U.S. Tax Ct. LEXIS 16; 144 T.C. No. 14; 80 Cal. Comp. Cases 444; April 16, 2015, Opinion FiledRespondent’s adjustment to petitioners’ 2009 gross income sustained and decision to be entered under Rule 155. P-H, a retired Los Angeles Police Department detective, failed to report as gross income payments that, on his retirement, he received from the department cashing out his unused vacation time and sick leave (leave payments). Ps argue that some portions of P-H's unused vacation time and sick leave accrued when he was on temporary disability leave from the department pursuant to sec. 4.177 of the Los Angeles Administrative Code, which, in part, provides that a temporarily disabled member of the Police Department shall receive as temporary disability compensation “an amount equal to his base salary”. Ps argue that at least some portions of the leave payments are excludable from gross income under I.R.C. sec. 104(a)(1) as amounts received under a workmen's compensation act as compensation for personal injuries or sickness.Held: The leave payments were not received under a workmen's compensation act as compensation for personal injuries or sickness and, therefore, no portion is excludable under I.R.C. sec. 104(a)(1).16 For petitioners—Clarence William Speer, Susan M. Speer, in pro perFor respondent—Jonathan N. KalinskiHALPERN, Judge.Halpern, J.279 HALPERN, Judge: Respondent determined deficiencies of $14,832 and $68,179 in petitioners' 2008 and 2009 Federal income tax, respectively. The only issue remaining for decision 280 is whether petitioners may exclude from their 2009 gross income as workmen's compensation a lump-sum payment that petitioner husband (Mr. Speer) received on account of unused vacation time and sick leave. All other issues have been settled or are merely computational.Unless otherwise stated, all section references are to the Internal Revenue Code of 1986, as amended and in effect for 2009. All dollar amounts and numbers of hours have been rounded to the nearest dollar or whole hour.FINDINGS OF FACTThe parties have stipulated certain facts and the authenticity of certain documents. The facts stipulated are so found, and the documents stipulated are accepted as authentic.Petitioners resided in California when they filed the petition.In 2009, Mr. Speer retired from his job as a detective employed by the Los Angeles Police Department (LAPD). During his decades-long service to the LAPD, Mr. Speer was granted17 periods of temporary disability leave on account of duty-related injuries or sickness. The first of those periods was in 1982, and the last was in 2007. On his retirement from the LAPD in 2009, the City of Los Angeles (City) paid to Mr. Speer $30,773 for 541 hours of unused vacation time and $22,740 for 800 hours of unused sick leave (together, leave payments). The leave payments (totaling $53,513) were included in the amount of wages reported by the City to Mr. Speer on a 2009 Form W-2, Wage and Tax Statement. Petitioners made a joint return of income for 2009 on Form 1040, U.S. Individual Income Tax Return. They did not include the leave payments in the income that they reported. In an attachment to the Form 1040, petitioners explained that they were excluding the leave payments from income on the ground that they had been received under a workmen's compensation act. They identified Cal. Lab. Code sec. 4850 (West 2011) as a workmen's compensation act. Cal. Lab. Code sec. 4850 provides certain police officers, firefighters, sheriff's officers, and other personnel a leave of absence with salary for a period of up to one year in lieu of temporary disability or maintenance payments ordinarily payable under California's Workers' Compensation18 Act. The parties now agree that Cal. Lab. Code sec. 4850281 was inapplicable to Mr. Speer during his years of service with the LAPD and that when, during those years, he was on temporary disability leave, the provision of law governing his compensation was section 4.177 of the Los Angeles Administrative Code (LAAC). LAAC sec. 4.177 is entitled “Compensation to Be 446 Paid to Members of the Fire Department and Police Department Who Are Disabled in the Performance of Their Duties.”1 Subsection (a) thereof deals with temporary disability and provides:Any member of the Fire Department or Police Department who is temporarily disabled by reason of illness or injury proximately caused by, arising out of, and in the course and scope of his employment, shall receive as temporary disability compensation (Division IV of the Labor Code of the State of California) an amount equal to his base salary less the sum that would be deducted therefrom pursuant to Section 4.2014 of this Code or Charter Sections 1324, 1420, 1514, or 1614, as applicable, if he were actively performing his duties. Provided, however, that in no event shall any member of the Fire Department or Police Department receive any temporary disability compensation pursuant to this subsection after he has been granted a pension, or19 for a period longer than one (1) year. In the event that the member is temporarily disabled and prevented by such temporary disability from returning to duty at the expiration of one (1) year, and said member has not been granted a pension prior to that time, he shall then receive temporary disability compensation at the rate provided in Division IV of the Labor Code of the State of California.When Mr. Speer retired in 2009, his entitlement to pay and benefits was governed by Memorandum of Understanding No. 24 (MOU 24) between the City and the Los Angeles Police Protective League.2 MOU 24 is a collective bargaining agreement, and the league is the recognized bargaining 282 organization representing Los Angeles police20 officers from the rank of police officer to lieutenant.3 Section 7.0 of MOU 24, entitled “Benefits”, is divided into 18 articles. Article 7.1 addresses vacations and vacation pay. Article 7.1.A establishes the employee's entitlement to vacations with full pay. Article 7.1.B establishes the right to accumulate unused vacation time. Article 7.1.E addresses payments for unused vacation time on termination of service. It provides:447 In the event any employee, after the completion of the employee's initial year of service, becomes separated from the service of the Department by reason of resignation, discharge, retirement, death, or for any other reason, cash payment of a sum equal to all earned, but unused vacation, including vacation for the proportionate part of the year in which the separation takes place, shall be made at the salary rate current at the date of the separation to the employee * Article 7.4 addresses the accrual of sick leave and establishes the employee's right to sick leave with full pay. Article 7.5 addresses sick leave use. Article 7.6.A addresses accumulated sick leave, establishing the right to carry unused sick leave over from year to year. Article 7.6.B addresses payments for unused21 sick leave on termination of service. In pertinent part, it states: “If any employee becomes separated from the service of the Department by reasons of retirement or death, any balance of accumulated sick leave at full pay remaining unused at the time of separation shall be compensated to the employee * * * by cash payment of 50% of the employee's salary rate current at such date of separation.”Amerika Tagaloa is a payroll supervisor employed by the LAPD. Respondent called him as a witness, and he testified as to certain aspects of the LAPD payroll system. On the basis of his testimony, we make the following findings. Of the 541 hours of vacation time that Mr. Speer had accumulated at the time of his retirement in 2009, 400 hours had carried over to 2009 from 2008 and the remainder, 141 hours, was earned in 2009. Four hundred hours of vacation time is the maximum that an employee can carry from one year to the next. Mr. Speer earned 96 hours of sick leave a year. The 800 hours of sick leave that he had accumulated at the time of his retirement is22 the maximum balance that an employee can 283 accumulate. An employee is paid for any sick leave accrued in excess of 800 hours. Mr. Speer earned vacation and sick leave during periods of both active service and temporary disability. While on temporary disability leave, Mr. Speer could not take vacation time or sick leave.OPINIONI. IntroductionGross income means all income from whatever source derived, including, but not limited to, compensation for services. Sec. 61(a). Lump-sum payments received by an employee for accrued vacation and sick leave are compensation for services and therefore gross income. See Acquisto v. Commissioner, T.C. Memo. 1991-293 (holding lump-sum payment for unused sick leave immediately taxable in full as compensation), aff'd without published opinion, 972 F.2d 1349">972 F.2d 1349 (11th Cir. 1992); Davis v. Commissioner, T.C. Memo. 1979-478 (holding lump-sum payment for accrued annual leave taxable in full as compensation). With an448 exception not here relevant, section 104(a)(1) provides that gross income does not include “amounts received under workmen's compensation acts as compensation for personal injuries or sickness”. Section 1.104-1(b), Income Tax Regs., provides that the exclusion includes amounts received under “a statute in the nature of a workmen's compensation act”.California's general scheme for workmen's compensation is provided by Division23 IV of the California Labor Code, entitled “Workers' [formerly Workmen's] Compensation and Insurance” (Workers' Compensation Act). Cal. Lab. Code div. 4 (West 2011). LAAC sec. 4.177 discharges the obligations of the City under the Workers' Compensation Act to members of its fire and police departments who are either temporarily or permanently disabled by reason of duty-connected illness or injury. See Radesky v. City of Los Angeles, 37 Cal. App. 3d 537">37 Cal. App. 3d 537 [112 Cal. Rptr. 444">112 Cal. Rptr. 444, 447] (Ct. App. 1974). Cal. Lab. Code sec. 4850 provides disability compensation similar to that provided in LAAC sec. 4.177, but, during Mr. Speer's employment by the LAPD, it did not apply to LAPD officers. SeeCal. Lab. Code sec. 4850 (West 2003) (amended by Stats. 2009, c. 389 (A.B. 1227), sec. 1, effective in January 2010, which removed a pension 284 requirement that previously excluded LAPD officers). The City drafted LAAC sec. 4.177 in order to provide LAPD officers and City firefighters with similar disability compensation. SeeRadesky, 112 Cal. Rptr. at 448. Respondent concedes, and we agree, that Cal. Lab. Code sec. 4850 is a statute in the nature of a workmen's compensation act. SeeGivens v. Commissioner, 90 T.C. 1145">90 T.C. 1145, 1148 n.9 (1988) (apparently accepting that Cal. Lab. Code sec. 4850 is a statute in the nature of a workmen's compensation act); see alsoRev. Rul. 68-10, 1 C.B. 50">1968-1 C.B. 50 (holding that payments made under Cal. Lab. Code sec. 4850 because of an occupational injury or illness are in the nature of and in lieu of workmen's compensation and excludable under section 104(a)(1)). Given the24 similarity between Cal. Lab. Code sec. 4850 and LAAC sec. 4.177, we conclude that the latter is equally a statute in the nature of a workmen's compensation act (hereafter, simply, workmen's compensation act).Cal. Lab. Code sec. 4850(a) entitles a covered employee to a disability leave of absence “without loss of salary”. That phrase has been interpreted to mean that, during that absence, the employee continues to accrue benefits such as vacation time and sick leave. SeeAustin v. City of Santa Monica, 234 Cal. App. 2d 841">234 Cal. App. 2d 841 [44 Cal. Rptr. 857">44 Cal. Rptr. 857, 861] (Dist. Ct. App. 1965) (“The word ‘salary’ as used in section 4850, must be understood as encompassing the entire compensation to which the employee is entitled[.]”). Given (1) the stated similarity in purpose between LAAC sec. 4.177 and Cal. Lab. Code sec. 4850 and (2) Mr. Tagaloa's testimony that Mr. Speer earned vacation time and sick leave during periods of both active service and temporary disability, we conclude that the “amount equal to his base salary” provided for in LAAC sec. 4.177 likewise includes the accrual of vacation time and sick leave.449 The question we must address is not whether Mr. Speer's accrual of vacation time and sick leave when he was temporarily absent from work on disability leave gave rise to income for those years (it did not) but whether the payments that he received on cashing out his leave balances in 2009 were received by him pursuant to25 a workmen's compensation act as compensation for personal injuries or sickness. We agree with respondent that they were not. They are, therefore, not excludable from petitioners' 2009 gross income under section 104(a)(1).285 II. The Parties' ArgumentsPetitioners' principal argument is that, to the extent that the leave payments can be allocated to vacation and sick leave benefits earned while Mr. Speer was on temporary disability leave pursuant to LAAC sec. 4.177, those portions of the leave payments must be excluded from their 2009 gross income under section 104(a)(1) as amounts received under a workmen's compensation act on account of personal injuries or sickness.426 Respondent's principal argument is that Mr. Speer received the leave payments not pursuant to LAAC sec. 4.177, a workmen's compensation act, but, rather, pursuant to MOU 24, which is not a workmen's compensation act. Respondent further argues that, if the Court determines that payments in the nature of the leave payments could have been paid pursuant to a workmen's compensation act (and could, therefore, be excludable pursuant to section 104(a)(1)), petitioners have not substantiated how many hours, if any, were accrued during Mr. Speer's disability leaves of absence or, if so accrued, how many remained unused at the time of Mr. Speer's retirement.III. DiscussionA. Compensation for Personal Injuries or SicknessA plain reading of LAAC sec. 4.177 demonstrates that it does not establish the salary of an employee (covered employee) whose salary is continued pursuant to that provision while the employee is absent from work on a disability leave of absence. There is little authority interpreting LAAC sec. 4.177, but, given its similarity to Cal. Lab. Code sec. 4850, we believe that authority interpreting the latter section may be equally applied to the former. In Campbell v. City of Monrovia, 84 Cal. App. 3d 341">84 Cal. App. 3d 341 [148 Cal. Rptr. 679">148 Cal. Rptr. 679, 684] (Ct. App. 1978), the 450 court 286 of appeal stated: “[Cal. Lab. Code sec. 4850] says no more than that27 during the period of disability of a member as defined in the section there shall be no loss of salary (including sick leave benefits), but it does not create the salary or any other benefit, nor purport to continue entitlement to any benefit beyond the period of disability it defines.” In Boyd v. City of Santa Ana, 6 Cal. 3d 393">6 Cal. 3d 393 [99 Cal. Rptr. 38">99 Cal. Rptr. 38, 491 P.2d 830">491 P.2d 830, 832] (Cal. 1971), the Supreme Court of California held: “Payments pursuant to section 4850 are not salary but workmen's compensation benefits.” It found that the purpose of the provision was to continue a covered employee's salary during the hiatus between the disability onset and the employee's disability retirement (or, we assume, some other event terminating his leave of absence). Id. at 832-833. Lower California courts have made clear that payments pursuant to the provision are not remuneration for work done but, rather, indemnification for injury or sickness. See, e.g., Hawthorn v. City of Beverly Hills, 111 Cal. App. 2d 723">111 Cal. App. 2d 723 [245 P.2d 352">245 P.2d 352, 355] (Cal. Dist. Ct. App. 1952). That court held: “Wages and salary may, under some circumstances, be paid as compensation in lieu of the normal temporary disability payments prescribed by the [Workmen's Compensation] Act. Such payments do not constitute salary or gratuities, but are payments of compensation under the Act.” Id. (fn. ref. omitted). It concluded: “The payment required by section 4850 is not28 salary as such; it is compensation for injury received * * . It is in place of the normal temporary disability allowance under * * [the Act].” Id. at 356.During each of his disability leaves of absence, Mr. Speer received periodic payments of his base salary and he accrued fringe benefits, such as vacation time and sick leave, that would translate into additional payments to him only after his disability leave of absence ended. Indeed, if a covered employee were to forgo the vacation time and the sick leave accrued during a disability leave of absence (as Mr. Speer claims he did), decades might pass until the employee retired and cashed out the forgone benefits. Mr. Speer's accrual of vacation time and sick leave while on temporary disability leave did not provide him with an immediate benefit that he could use to support himself while on such leave. The fringe benefit represented by the accrual was, thus, fundamentally different from the normal temporary disability allowance 287 payable under the Workers' Compensation Act and for which the continuation of his base salary under LAAC sec. 4.177 substituted. See id.The Workers' Compensation Act does not provide for any payments after the period of disability29 ends and, in fact, instructs that payments shall stop or be amended upon a finding that the disability has terminated or been diminished. SeeCal. Lab. Code sec. 5803 (West 2011); Sogov v. Indus. Accident Comm'n, 122 Cal. App. 1">122 Cal. App. 1 [9 P.2d 592">9 P.2d 592, 593] (Cal. Dist. Ct. App. 1932) (sustaining a finding that disability terminated on specified date and so compensation also terminated as of that same date). Thus, any payments Mr. Speer received after his temporary disability ended cannot be part of the City's substitute for the Workers' Compensation Act.Petitioners place great weight on our report in Givens v. Commissioner, 90 T.C. 1145">90 T.C. 1145. In Givens, a Los Angeles County deputy sheriff was injured in the course of 451 his duties and was on disability leave for more than a year. The Los Angeles County Code set forth a workmen's compensation system that incorporated Cal. Lab. Code sec. 4850 for those eligible and provided additional compensation after expiration of the first year of disability. Specifically, it provided that the deputy would receive payments out of his accumulated sick leave. We held those payments to be excludable from gross income under section 104(a)(1). Givens is distinguishable. In Givens, we found that the county had adopted a comprehensive workmen's compensation scheme incorporating not only the provisions of Cal. Lab. Code sec. 4850 but also sick leave provisions provided for in the Los Angeles30 County Code. Petitioners have failed to show that the sick and vacation leave cashout provisions in MOU 24 were part of a comprehensive workmen's compensation scheme covering Mr. Speer.Finally, we point out that, in determining whether income is excludable under section 104(a)(1), the treatment of one benefit in the nature of workmen's compensation does not control the treatment of a separate and distinct benefit that may be payable under the same statutory scheme. In Allison v. Commissioner, T.C. Memo. 1986-346, we addressed “salary continuation payments” made to an employee under the Federal Employees' Compensation Act (FECA), 5 U.S.C. secs. 8101-8193 (1982). In addition to other payments, FECA provides for the continuation of an employee's salary for a 288 period of 45 days commencing on the date the employee files a claim involving an occupational injury. FECA appeared to us to be a statute in the nature of a workmen's compensation act, but we found the payments at issue to be for the delay that usually preceded the commencement of disability payments and not for the disability itself. We held the payments did not qualify for exclusion from the taxpayer's gross income pursuant to section 104(a)(1). Likewise, we conclude that the leave payments, which compensated Mr. Speer for his31 failure to take the vacation with pay that he had earned or the sick leave that similarly he had earned (even if in part traceable to benefits accrued during periods of disability leaves of absence), were not paid as workmen's compensation under the Workers' Compensation Act and are not excludable from petitioners' gross income pursuant to section 104(a)(1).B. SubstantiationEven were we to hold that lump-sum payments for unused vacation and sick leave accrued by an employee pursuant to MOU 24 could be payments under a workmen's compensation act for personal injuries or sickness, petitioners have failed to show how many hours, if any, Mr. Speer accumulated during his disability leaves of absence and how many of those hours remained when he retired in 2009.Petitioners argue that at least a portion of the 541 hours of unused vacation leave and a portion of the 800 hours of unused sick leave Mr. Speer had when he retired were accrued during his disability leaves of absence. Petitioners have not presented any evidence that clearly shows how many hours, if any, he accrued during those absences. Officers are limited to 800 hours of sick leave and are paid452 for any additional accrued sick leave. In order to32 determine whether on retirement Mr. Speer had accrued but unused leave from periods of temporary disability we would need to know his entire sick leave history. The record is devoid of this information, and it is therefore impossible to determine whether any of the 800 hours were accrued during periods of disability leave.Petitioners similarly cannot demonstrate that any of the 541 hours of unused vacation leave were accrued during his leaves of absence. Officers are limited to banking 200 hours of vacation leave per year and a total of 400. Mr. Speer had 289 541 hours of vacation leave at retirement because he had not yet lost vacation leave accrued during 2009. Just as with the sick leave, we would need to know Mr. Speer's vacation history in order to determine whether any of the unused leave was accrued during his leaves of absence. Again, the record does not contain this information.533 34 290 IV. ConclusionRespondent's adjustment, including in petitioners' 2009 gross income the leave payments, is sustained.*453 Decision will be entered under Rule 155.Footnotes1. We found Los Angeles Administrative Code sec. 4.177 at http://www.amlegal.com/library/ca/losangeles.shtml (follow “Charter and Administrative Code” hyperlink; then expand “ADMINISTRATIVE CODE” menu; then expand “DIVISION 4 EMPLOYMENT - GENERAL” menu; then expand “CHAPTER 3 SALARY STANDARDIZATION FOR FIREFIGHTERS AND POLICEMEN” menu; then expand “ARTICLE 6 VACATIONS, LEAVES” menu; then follow “Sec. 4.177. Compensation to Be Paid to Members of the Fire Department and Police Department Who Are Disabled in the Performance of Their Duties” hyperlink) (last visited Mar. 1, 2015).↩2. We found Memorandum of Understanding No. 24 (entered into Oct. 29, 2009) at http://cao.lacity.org/MOUs/MOU24-11.pdf (last visited Mar. 1, 2015).↩3. See↩http://lapd.com/about/history/ (last visited Mar. 1, 2015).4. On brief, petitioners apparently concede that not all of the $53,513 of leave payments are allocable to benefits earned while Mr. Speer was on temporary disability leave. They claim that 422 out of Mr. Speer's retirement-date balance of 541 vacation hours were earned when he was on such leave, which they calculate results in an exclusion of $23,979. They also claim that 207 out of his retirement-date balance of 800 sick leave hours were earned during those leaves, which results in an exclusion of $16,925 (the two amounts totaling $40,904). Since we allow them no exclusion, we need not be concerned with petitioners' computations.5. In their seriatim reply brief, petitioners ask that we reopen the record and accord them additional trial time to offer evidence obtained from the LAPD concerning Mr. Speer's accumulation of vacation time and sick leave. At trial, petitioners offered a document (Exhibit 5-P) that Mr. Speer stated he received from the LAPD showing periods of disability, vacation hours earned during those periods, and sick time accrued during various years. In offering Exhibit 5-P, Mr. Speer conceded: “I'm not sure, to be honest, that it's accurate for the amount of time.” We sustained respondent's objection to the exhibit on evidentiary grounds (lack of a showing of authenticity and inadmissible hearsay) and on the grounds that it had been neither stipulated nor provided to respondent 14 days in advance of trial, as provided for by our standing pretrial order (so that respondent would have time to investigate it). Petitioners again ask us to receive Exhibit 5-P and also an exhibit (Exhibit 1) that they attached to their seriatim opening brief but that we detached and returned to them as an improper document in the nature of evidence. Petitioners describe Exhibit 1 in that brief as containing “a letter from Laura Luna, police administrator, and charts reflecting sick time and vacation time accrued while petitioner, Mr. Speer, was on disability during various periods from 1982 through 2007 and paid to petitioner, Mr. Speer, upon his retirement in 2009.”Petitioners filed the petition on January 6, 2012. Before we conducted the trial on February 3, 2014, the case was set for trial three times and continued three times, each time, it appears, at petitioners' request, once so petitioners could undertake prescheduled travel on account of the birth of a grandchild. At no point before the trial did petitioners indicate to the Court any difficulty in obtaining evidence to support their case. While petitioners appear pro sese, we think that their lack of demonstrated diligence in obtaining from the LAPD what evidently they think are important documents argues against our opening the record and burdening respondent with additional investigation and another trial session. See, e.g., Haydon v. Commissioner, T.C. Memo. 1991-42↩ (denying motion for reconsideration and declining to accept new evidence where taxpayers made no showing of due diligence or explained why documents could not have been obtained earlier). We will not open the record as petitioners requested.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623720/	APPEAL OF T. D. DOWNING CO.T. D. Downing Co. v. CommissionerDocket No. 2276.United States Board of Tax Appeals2 B.T.A. 469; 1925 BTA LEXIS 2421; September 7, 1925, Decided Submitted May 21, 1925. 2421 The taxpayer herein held to be a personal service corporation. Cedric A. Major, Esq., for the taxpayer. E. C. Lake, Esq., for the Commissioner. MARQUETTE 469 Before MARQUETTE and MORRIS. This appeal is from a determination of the Commissioner denying the taxpayer classification as a personal service corporation in the 470 year 1918, with a resulting deficiency in income and profits taxes in the amount of $3,763.19 for that year. From the pleadings, evidence, and agreed statement of facts, the Board makes the following FINDINGS OF FACT. The taxpayer is a corporation organized under the laws of Massachusetts on December 26, 1913, with a capital stock of 500 shares having a par value of $50 each, and is a continuation of a partnership formed in 1910. At all times since its organization the corporation has been engaged in the business of customhouse brokers and freight forwarders, and its activities consisted generally in rendering service to shippers and consignees in connection with the entry into this country and the export from this country of merchandise, the title to such merchandise being at all times in the shippers2422 or consignees and never in the taxpayer corporation. The partnership business was carried on by Thomas D. Downing, Paul G. Downing, and William Lippman, as copartners, and upon the organization of the corporation these three men subscribed for and took the entire capital stock of the corporation and since that time and at all times during the year 1918 the three said individuals were regularly engaged in the active conduct of the affairs of the taxpayer, and its income is ascribable primarily to their activities. It was stipulated that capital is not and was not at any time during the year 1918 a material income-producing factor in the business. During the year 1916 the taxpayer was reorganized and a redistribution of the stock was made. The principal stockholders during the year 1918, according to the books of the corporation, were as follows: Shares.Thomas D. Downing26Frances M. Downing (wife)252Paul G. Downing81William Lippman38Florence D. Lippman (wife)73The certificate for 252 shares to Frances M. Downing, the wife of Thomas D. Downing, was issued on February 9, 1916, without consideration, and on the same date the said certificate2423 was endorsed in blank by said Frances M. Downing and delivered to Thomas D. Downing with intent to pass the title thereto to said Downing. The said transfer was not recorded on the books of the corporation but the certificate so endorsed was placed in a safe deposit box rented by Downing. Dividend checks were made payable to Frances M. Downing and endorsed "Frances M. Downing, by T. D. Downing; for deposit, T. D. Downing," and the amount of such dividends was returned by Frances M. Downing in her personal income-tax 471 return. Amended returns were filed by T. D. Downing in 1925, wherein the said dividends were returned as income to him. The said Frances M. Downing took no part in the active conduct of the business of the taxpayer. on, and on February 20, 1916, was endorsed in blank by said Florence D. Lippman and delivered to William Lippman with intent to pass the title to said certificate. The certificate representing these shares was not transferred on the books of the corporation until subsequent to the year in question. Dividend checks on this stock were issued payable to "cash" and endorsed "For deposit, William Lippman." Florence D. Lippman took no part in the2424 active conduct of the business of the corporation. DECISION. The deficiency determined by the Commissioner is disallowed. OPINION. MARQUETTE: Whether the taxpayer is a personal service corporation depends on whether Thomas D. Downing, Paul G. Downing, and William Lippman were the principal stockholders of the corporation. All the other elements essential to classification as a personal ment in blank and delivery of the certificates of stock issued to Frances M. Downing and Florence D. Lippman is therefore determinative of the question involved. The facts found disclose that the certificates in question were issued to the wives of Downing and Lippman and on the same date, or shortly thereafter, were endorsed in blank by them and delivered to their respective husbands with intent to pass title thereto. It is well settled that the endorsement of a certificate of stock in blank and the delivery thereof passes both the legal and equitable title Y. 325. And it is common practice to pass certificates thus endorsed from hand to hand without change of the name of the original owner, although the title changes with each delivery. 2425 . Upon the facts herein we are of opinion that the legal title to the certificates of stock originally issued to Frances M. Downing and Florence D. Lippman, respectively, was vested in Thomas D. Downing and William Lippman, and that they, together with Paul G. Downing were the principal stockholders of the corporation. The taxpayer is therefore entitled to classification as a personal service corporation. ARUNDELL not participating.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4562819/	In the United States Court of Appeals For the Seventh Circuit ____________________ No. 20‐2175 ILLINOIS REPUBLICAN PARTY, et al., Plaintiffs‐Appellants, v. J. B. PRITZKER, Governor of Illinois, Defendant‐Appellee. ____________________ Appeal from the United States District Court for the Northern District of Illinois, Eastern Division. No. 20 C 3489 — Sara L. Ellis, Judge. ____________________ ARGUED AUGUST 11, 2020 — DECIDED SEPTEMBER 3, 2020 ____________________ Before WOOD, BARRETT, and ST. EVE, Circuit Judges. WOOD, Circuit Judge. As the coronavirus SARS‐CoV‐2 has raged across the United States, public oﬃcials everywhere have sought to implement measures to protect the public health and welfare. Illinois is no exception: Governor J. B. Pritzker has issued a series of executive orders designed to limit the virus’s opportunities to spread. In the absence of bet‐ ter options, these measures principally rely on preventing the 2 No. 20‐2175 transmission of viral particles (known as virions) from one person to the next. Governor Pritzker’s orders are similar to many others around the country. At one point or another, they have in‐ cluded stay‐at‐home directives; flat prohibitions of public gatherings; caps on the number of people who may congre‐ gate; masking requirements; and strict limitations on bars, restaurants, cultural venues, and the like. These orders, and comparable ones in other states, have been attacked on a va‐ riety of grounds. Our concern here is somewhat unusual. Governor Pritzker’s Executive Order 2020‐43 (EO43, issued June 26, 2020) exhibits special solitude for the free exercise of religion.1 It does so through the following exemption: a. Free exercise of religion. This Executive Order does not limit the free exercise of religion. To pro‐ tect the health and safety of faith leaders, staﬀ, con‐ gregants and visitors, religious organizations and houses of worship are encouraged to consult and follow the recommended practices and guidelines from the Illinois Department of Public Health. As set forth in the IDPH guidelines, the safest practices for religious organizations at this time are to 1 EO43 was set to expire by its own terms on August 22, 2020, but the Governor issued EO52 on August 21, 2020. See https://www2.illinois.gov/ Pages/Executive‐Orders/ExecutiveOrder2020‐52.aspx. EO52 extends EO43 in its entirety through September 19, 2020. For convenience, we refer in this opinion to EO43. No. 20‐2175 3 provide services online, in a drive‐in format, or out‐ doors (and consistent with social distancing re‐ quirements and guidance regarding wearing face coverings), and to limit indoor services to 10 peo‐ ple. Religious organizations are encouraged to take steps to ensure social distancing, the use of face coverings, and implementation of other public health measures. See EO43, § 4(a), at https://www2.illinois.gov/Pages/Execu‐ tive‐Orders/ExecutiveOrder2020‐43.aspx. ask judge about foot hyperlink Emergency and governmental functions enjoy the same exemption. Otherwise, EO43 imposes a mandatory 50‐person cap on gatherings. The Illinois Republican Party and some of its aﬃliates (“the Republicans”) believe that the accommodation for free exercise contained in the executive order violates the Free Speech Clause of the First Amendment. In this action, they seek a permanent injunction against EO43. In so doing, they assume that such an injunction would permit them, too, to congregate in groups larger than 50, rather than reinstate the stricter ban for religion that some of the Governor’s earlier ex‐ ecutive orders included, though that is far from assured. Re‐ lying principally on Jacobson v. Massachusetts, 197 U.S. 11 (1905), the district court denied the Republicans’ request for preliminary injunctive relief against EO43. See Illinois Repub‐ lican Party v. Pritzker, No. 20 C 3489, 2020 WL 3604106 (N.D. Ill. July 2, 2020). The Republicans promptly sought interim re‐ lief from that ruling, see 28 U.S.C. § 1292(a)(1), but we de‐ clined to disturb the district court’s order, Illinois Republican Party v. Pritzker, No. 20‐2175 (7th Cir. July 3, 2020), and Justice Kavanaugh in turn refused to intervene. Illinois Republican 4 No. 20‐2175 Party v. Pritzker, No. 19A1068 (Kavanaugh, J., in chambers July 4, 2020). We did, however, expedite the briefing and oral argument of the merits of the preliminary injunction, and we heard ar‐ gument on August 11, 2020. Guided primarily by the Supreme Court’s decision in Winter v. Natural Resources Defense Council, 555 U.S. 7 (2008), we conclude that the district court did not abuse its discretion in denying the requested preliminary in‐ junction, and so we aﬃrm its order. I Before we turn to the heart of our analysis, a word or two about the standard of review for preliminary injunctions is in order. The Supreme Court’s last discussion of the subject oc‐ curred in Winter, where the Court reviewed a preliminary in‐ junction against the U.S. Navy’s use of a sonar‐training pro‐ gram. Id. at 12. It expressed the standard succinctly: “A plain‐ tiﬀ seeking a preliminary injunction must establish that he is likely to succeed on the merits, that he is likely to suﬀer irrep‐ arable harm in the absence of preliminary relief, that the bal‐ ance of equities tips in his favor, and that an injunction is in the public interest.” Id. at 20. The question in Winter, however, just as in our case, is one of degree: how likely must success on the merits be in order to satisfy this standard? We infer from Winter that a mere possibility of success is not enough. Id. at 22. In the related context of a court’s power to stay its own judgment (or that of a lower tribunal), the Court returned to this subject in Nken v. Holder, 556 U.S. 418 (2009). There, while noting the “substantial overlap” between the analysis of stays and that of preliminary injunctions, id. at 434, the Court No. 20‐2175 5 stopped short of treating them identically. It pointed out that, unlike a preliminary injunction, which is an order directed at someone and that governs that party’s conduct, “a stay oper‐ ates upon the judicial proceeding itself.” Id. at 428. Before such an order should issue, the Court said, the applicant must make a strong showing that she is likely to succeed on the merits. Id. at 434. At the same time, following Winter, the Court said that a possibility of success is not enough. Neither is a “better than negligible” chance: the Court expressly dis‐ approved that formula, see id., which appears in many of our decisions, including one the Court singled out, Sofinet v. INS, 188 F.3d 703, 707 (7th Cir. 1999). See also, e.g., Whitaker by Whitaker v. Kenosha Unified Sch. Dist. No. 1 Bd. of Educ., 858 F.3d 1034, 1046 (7th Cir. 2017); Girl Scouts of Manitou Council, Inc. v. Girl Scouts of U.S. of Am., Inc., 549 F.3d 1079, 1096 (7th Cir. 2008); Int’l Kennel Club of Chi., Inc. v. Mighty Star, Inc., 846 F.2d 1079, 1084 (7th Cir. 1988). We note this to remind both the dis‐ trict courts and ourselves that the “better than negligible” standard was retired by the Supreme Court. We understand from both Winter and Nken that an appli‐ cant for preliminary relief bears a significant burden, even though the Court recognizes that, at such a preliminary stage, the applicant need not show that it definitely will win the case. A “strong” showing thus does not mean proof by a pre‐ ponderance—once again, that would spill too far into the ul‐ timate merits for something designed to protect both the par‐ ties and the process while the case is pending. But it normally includes a demonstration of how the applicant proposes to prove the key elements of its case. And it is worth recalling that the likelihood of success factor plays only one part in the analysis. The applicant must also demonstrate that “irrepara‐ ble injury is likely in the absence of an injunction,” see Winter, 6 No. 20‐2175 555 U.S. at 22. In addition, the balance of equities must “tip[] in [the applicant’s] favor,” and the “injunction [must be] in the public interest.” Id. at 20. II With this standard in mind, we are ready to turn to the case at hand. We begin by confirming, as we did in Elim Ro‐ manian Pentecostal Church v. Pritzker, 962 F.3d 341 (7th Cir. 2020), that the possibility that EO43 may change in the coming days or weeks does not moot this case. The Governor has made clear that the virus is a moving target: if possible, he will open up the state (or certain regions of the state) further, but if the criteria to which the state is committed take a turn for the worse, he could reinstate more stringent measures. See id. at 344–45. Our mootness analysis in Elim thus applies with full force to this case. The next question relates to the overall validity of EO43 and orders like it, which have been issued in the midst of a general pandemic. As we noted in Elim, the Supreme Court addressed this type of measure more than a century ago, in Jacobson v. Massachusetts, 197 U.S. 11 (1905). The district court appropriately looked to Jacobson for guidance, and so do we. The question the Court faced there concerned vaccination re‐ quirements that the City of Cambridge had put in place in re‐ sponse to a smallpox epidemic. The law made an exception for children who had a physician’s certificate stating that they were “unfit subjects for vaccination,” id. at 12, but it was oth‐ erwise comprehensive. Faced with a lawsuit by a man who did not wish to be vaccinated, and who contended that the City’s requirement violated his Fourteenth Amendment right to liberty, the Court ruled for the City. In so doing, it held that it was appropriate to defer to the City’s assessment of the No. 20‐2175 7 value of vaccinations—an assessment, it noted, that was shared “by the mass of the people, as well as by most mem‐ bers of the medical profession … and in most civilized na‐ tions.” Id. at 34. It thus held that “[t]he safety and the health of the people of Massachusetts are, in the first instance, for that commonwealth to guard and protect,” and that it “[did] not perceive that this legislation has invaded any right se‐ cured by the Federal Constitution.” Id. at 38. At least at this stage of the pandemic, Jacobson takes oﬀ the table any general challenge to EO43 based on the Fourteenth Amendment’s protection of liberty. Like the order designed to combat the smallpox epidemic, EO43 is an order designed to address a serious public‐health crisis. At this stage in the present litigation, no one is alleging that the Governor lacks the power to issue such orders as a matter of state law. In‐ stead, our case presents a more granular challenge to the Gov‐ ernor’s action—one that focuses on his decision to subject the exercise of religion only to recommended measures, rather than mandatory ones. We must decide whether that distinc‐ tion is permissible. Normally, parties challenging a state measure that ap‐ pears to advantage religion invoke the Establishment Clause of the First Amendment (assuming for the sake of discussion that the challengers can establish standing to sue). That is em‐ phatically not the theory that the Republicans are pursuing. We eliminated any doubt on that score at oral argument, where counsel assured us that this was not their position. As we explain in more detail below, the Republicans argue in‐ stead that preferential treatment for religious exercise con‐ flicts with the interpretation in Reed v. Gilbert, 576 U.S. 155 (2015), of the Free Speech Clause of the same amendment. A 8 No. 20‐2175 group of 100 people may gather in a church, a mosque, or a synagogue to worship, but the same sized group may not gather to discuss the upcoming presidential election. The Re‐ publicans urge that only the content of the speech distin‐ guishes these two hypothetical groups, and as they see it, Reed prohibits such a line. Our response is to say, “not so fast.” A careful look at the Supreme Court’s Religion Clause cases, coupled with the fact that EO43 is designed to give greater leeway to the exercise of religion, convinces us that the speech that accompanies reli‐ gious exercise has a privileged position under the First Amendment, and that EO43 permissibly accommodates reli‐ gious activities. In explaining that conclusion, we begin with a look at the more conventional cases examining the interac‐ tion of the two Religion Clauses. We then take a close look at Reed, and we conclude by explaining that a comparison be‐ tween ordinary speech (including political speech, which all agree lies at the core of the First Amendment) and the speech aspect of religious activity reveals something more than an “apples to apples” matching. What we see instead is “speech” being compared to “speech plus,” where the “plus” is the pro‐ tection that the First Amendment guarantees to religious ex‐ ercise. Even though we held in Elim that the Governor was not compelled to make this accommodation to religion, nothing in Elim, and nothing in the Justices’ brief writings on the eﬀect of coronavirus measures on religion, says that he was forbid‐ den to carve out some space for religious activities. See South Bay United Pentecostal Church v. Newsom, 140 S. Ct. 1613 (2020); Calvary Chapel Dayton Valley v. Sisolak, No. 19A1070, 2020 WL 4251360 (U.S. July 24, 2020). No. 20‐2175 9 A Although there is a long history and rich literature dealing with the two Religion Clauses, it is enough here for us to begin with the Supreme Court’s more recent decisions up‐ holding legislation that gives religion a preferred position. We start with Corporation of the Presiding Bishop of the Church of Je‐ sus Christ of Latter‐Day Saints v. Amos, 483 U.S. 327 (1987). In that case, several people who were fired from church‐owned corporations solely because they were not church members sued the church under Title VII of the Civil Rights Act of 1964; their theory was that the church had engaged in impermissi‐ ble discrimination on the basis of religion. The case would have had some legs if an ordinary employer had decided to sack all its Catholic, or Jewish, or Presbyterian employees. Af‐ ter all, section 703(a) of Title VII specifies that it is “an unlaw‐ ful employment practice for an employer—(1) to fail or refuse to hire or to discharge any individual, or otherwise to discrim‐ inate against any individual [in a variety of ways] because of such individual’s … religion … .” 42 U.S.C. § 2000e‐2(a). But that is not all the statute says. Section 702 states that the law does not apply to “a religious corporation, associa‐ tion, educational institution or society with respect to the em‐ ployment of individuals of a particular religion to perform [the institution’s work].” 42 U.S.C. § 2000e‐1(a); see also Civil Rights Act of 1964, Title VII, § 703(e), 42 U.S.C. § 2000e‐2(e). The plaintiﬀs in Amos contended that the exemption permit‐ ting religious employers to discriminate on religious grounds violates the Establishment Clause. The Supreme Court re‐ jected this theory and held that the Establishment Clause per‐ mits accommodations designed to allow free exercise of reli‐ gion. The Court’s opinion stresses that it is permissible for the 10 No. 20‐2175 government to grant a benefit to religion when the purpose of the benefit is simply to facilitate noninterference with free ex‐ ercise: This Court has long recognized that the govern‐ ment may (and sometimes must) accommodate reli‐ gious practices and that it may do so without violating the Establishment Clause. It is well established, too, that the limits of permissible state accommodation to religion are by no means co‐extensive with the nonin‐ terference mandated by the Free Exercise Clause. There is ample room under the Establishment Clause for benevolent neutrality which will permit religious exercise to exist without sponsorship and without in‐ terference. 483 U.S. at 334 (cleaned up). Lest there be any doubt, the Court repeated that it had “never indicated that statutes that give special consideration to religious groups are per se invalid.” Id. at 338. Using the ru‐ bric of Lemon v. Kurtzman, 403 U.S. 602 (1971), which was then widely accepted, the Court found that the legislature was en‐ titled to enact a measure designed to alleviate governmental interference with the internal aﬀairs of religious institutions, and that such a law did not have a forbidden primary eﬀect of advancing religion. Finally, and interestingly for our case, the Court rejected Amos’s assertion that the religious exemp‐ tion violated the Equal Protection Clause. A statute otherwise compatible with the Establishment Clause that “is neutral on its face and motivated by a permissible purpose of limiting governmental interference with the exercise of religion,” 483 U.S. at 339, had to satisfy only rational‐basis scrutiny for No. 20‐2175 11 Equal Protection purposes. Section 702, the Court held, easily passed that bar. Another case in which the Court addressed measures that give special solicitude to the free exercise of religion was Cut‐ ter v. Wilkinson, 544 U.S. 709 (2005). That case involved a clash between state prisoners who alleged infringements of their right to practice their religion—guaranteed by both the Free Exercise Clause and the Religious Land Use and Institution‐ alized Persons Act (RLUIPA), 42 U.S.C. § 2000cc‐1(a)(1)–(2)— and prison oﬃcials, who asserted that the accommodations required by RLUIPA violated the Establishment Clause. RLUIPA was passed in response to Employment Division, De‐ partment of Human Resources of Oregon v. Smith, 494 U.S. 872 (1990), which held that the Free Exercise Clause does not pro‐ hibit states from enforcing laws of general applicability that incidentally burden religion.2 Congress first struck back with the Religious Freedom Restoration Act (RFRA), Pub. L. No. 103‐141, 107 Stat. 1488 (codified at 42 U.S.C. §§ 2000bb– 2000bb‐4), in an eﬀort to require a more robust justification for laws burdening religious exercise, but the Supreme Court held in City of Boerne v. Flores, 521 U.S. 507 (1997), that RFRA could not be applied to the states. Congress’s next answer was RLUIPA, which aﬀects only land‐use and institutionalized persons, but because of the tie to federal funding, avoids the 2 We are aware that the Supreme Court has granted certiorari in Ful‐ ton v. City of Philadelphia, No. 19‐123, 140 S. Ct. 1104 (2020), and that one of the questions presented in that case is whether Smith should be reconsid‐ ered. We doubt that the outcome of Fulton will have any effect on this case, and in any event, we remain bound by Smith until the Supreme Court in‐ structs otherwise. 12 No. 20‐2175 constitutional flaws the Court found in RFRA as applied to state institutions. The Cutter plaintiﬀs were Ohio prisoners who adhered to a variety of nonmainstream religions, such as Satanism, Wicca, and Asatru. They complained that the prison was im‐ peding their religious practices in a number of ways, includ‐ ing by denying access to religious literature, restricting op‐ portunities for group worship, withholding the right to fol‐ low dress and appearance rules, and not engaging the ser‐ vices of a chaplain. The defendants did not deny these allega‐ tions; they argued instead that they were under no obligation to deviate from their general policies. RLUIPA, they said, im‐ properly advances religion to the extent that it required these types of aﬃrmative measures. As in Amos, the Supreme Court held that the state “may … accommodate religious practices … without violating the Es‐ tablishment Clause.” Id. at 713 (alterations in original) (inter‐ nal quotation omitted). It reiterated its comment in Walz v. Tax Commission of City of New York, 397 U.S. 664, 669 (1970), that “there is room for play in the joints” between the Free Exercise and Establishment Clauses. 544 U.S. at 713, 719. RLUIPA, it then said, lies within the “space for legislative action neither compelled by the Free Exercise Clause nor prohibited by the Establishment Clause.” Id. at 719. It oﬀered this explanation for its holding: Foremost, we find RLUIPA’s institutionalized‐per‐ sons provision compatible with the Establishment Clause because it alleviates exceptional government‐ created burdens on private religious exercise. See Board of Ed. of Kiryas Joel Vill. Sch. Dist. v. Gru‐ met, 512 U.S. 687, 705 (1994) (government need not “be No. 20‐2175 13 oblivious to impositions that legitimate exercises of state power may place on religious belief and prac‐ tice”) … . 544 U.S. at 720. It is noteworthy in this connection that the predicate for the religious accommodation is a legitimate exer‐ cise of state power, albeit one that burdens religion. Much the same can be said of the coronavirus measures now before us. The third case we find helpful is Hosanna‐Tabor Evangelical Lutheran Church & School v. Equal Employment Opportunity Commission, 565 U.S. 171 (2012). There the Court returned to the employment setting, this time examining an action brought by the EEOC against a church and its associated school. The EEOC asserted that the school had fired a teacher in retaliation for her threat to file a lawsuit under disability‐ discrimination laws; the school responded that its reason for firing her was that her threat to sue was a breach of the tenets of its faith. The central issue, however, involved the teacher’s status: if she was properly characterized as a “minister” of the faith, then the First Amendment barred the EEOC’s suit; if she was instead a lay employee, the parties assumed that the case could go forward. See also Our Lady of Guadalupe Sch. v. Mor‐ rissey‐Berru, 140 S. Ct. 2049 (2020) (extending Hosanna‐Tabor to teachers responsible for instruction in the faith, regardless of their specific title or training). In this instance, the Court found that the Free Exercise Clause and the Establishment Clause pointed in the same di‐ rection—both mandate noninterference “with the decision of a religious group to fire one of its ministers.” 565 U.S. at 181. It endorsed the idea of a “ministerial exception” to the other‐ wise applicable laws regulating employment relationships. Id. at 188. But, in responding to the EEOC’s argument that no 14 No. 20‐2175 ministerial exception is needed, because religious organiza‐ tions enjoy the right to freedom of association under the First Amendment, the Court oﬀered guidance on the way the dif‐ ferent branches of the First Amendment interact: We find this position [i.e., that the general right to freedom of association takes care of everything] unten‐ able. The right to freedom of association is a right en‐ joyed by religious and secular groups alike. It follows under the EEOC’s and Perich’s view that the First Amendment analysis should be the same, whether the association in question is the Lutheran Church, a labor union, or a social club. … That result is hard to square with the text of the First Amendment itself, which gives special solicitude to the rights of religious organ‐ izations. We cannot accept the remarkable view that the Religion Clauses have nothing to say about a reli‐ gious organizationʹs freedom to select its own minis‐ ters. Id. at 189. In other words, the Religion Clauses are doing some work that the rest of the First Amendment does not. Whether that extra work pertains only to the implied right to freedom of association (not mentioned in so many words in the text of the amendment) or if it applies also to the right to freedom of speech, is the question before us. In order to answer it, we must examine the primary free‐speech case on which the Re‐ publicans rely, Reed v. Gilbert. B Reed involved the regulation of signs in the town of Gil‐ bert, Arizona. 576 U.S. at 159. Gilbert’s municipal code regu‐ lated signs based on the type of information they conveyed, No. 20‐2175 15 and this turned out to be its fatal flaw. Signs designated as “Temporary Directional Signs Relating to a Qualifying Event” were regulated more restrictively than signs conveying other messages, including signs that were deemed to be “Ideologi‐ cal Signs” or “Political Signs.” Id. at 159–60. The case arose when a small church and its pastor wanted to erect temporary signs around the town on Saturdays. Because the church had no permanent building, it needed a way to inform interested persons each week about where it would hold its Sunday ser‐ vices. Id. at 161. The problem was that the church’s signs did not comply with the Code, which dictated size, permissible placement spots, number per single property, and display duration. This prompted the Town’s Sign Czar to cite the church twice for Code violations. After eﬀorts at a mutually satisfactory ap‐ proach failed, the church sued the Town, claiming that the Code abridged its right to free speech in violation of the First Amendment, made applicable to the states through the Four‐ teenth Amendment. Both the district court and the court of appeals (over the course of a couple of rounds) ruled in favor of the Town, because as they saw it, the Code “did not regu‐ late speech on the basis of content.” Id. at 162. The Supreme Court reversed. The Court recognized two types of content‐based regula‐ tions: first, regulation based on the content of the topic dis‐ cussed or the idea or message expressed, id. at 163; and sec‐ ond, regulation that is facially content neutral, but that “can‐ not be justified without reference to the content of the regu‐ lated speech,” id. at 164 (cleaned up). The Town’s Code, the Court held, fell in the first category because it treated signs diﬀerently depending on their communicative content: 16 No. 20‐2175 If a sign informs its reader of the time and place a book club will discuss John Locke’s Two Treatises of Government, that sign will be treated diﬀerently from a sign expressing the view that one should vote for one of Locke’s followers in an upcoming election, and both signs will be treated diﬀerently from a sign expressing an ideological view rooted in Locke’s theory of govern‐ ment. More to the point, the Church’s signs inviting people to attend its worship services are treated diﬀer‐ ently from signs conveying other types of ideas. On its face, the Sign Code is a content‐based regulation of speech. Id. Entirely missing from Reed is any argument about, or dis‐ cussion of, the way in which these principles apply to Free Exercise cases. That is probably because if the Town was do‐ ing anything, it was disadvantaging the church’s eﬀort to pro‐ vide useful information to its parishioners, not lifting a bur‐ den from religious practice. The only governmental interests the Town oﬀered in support of its Code were “preserving the Town’s aesthetic appeal and traﬃc safety.” Id. at 171. The Court found those interests to be woefully lacking, falling far short of a compelling state interest and a narrowly tailored response. Id. at 172. In order to make Reed comparable to the case before us, we would need to postulate a Sign Code that restricted temporary directional signs for everyone except places of worship, and that left the latter free to use whatever signs they wanted. But that is not what Reed was about, and so we must break new ground here. No. 20‐2175 17 C We will assume for the sake of argument that free exercise of religion involves speech, at least most of the time. One can imagine religious practices that do not involve words, such as a silent prayer vigil, or a pilgrimage or hajj to a sacred shrine, or even the act of wearing religiously prescribed clothing. Per‐ haps in some instances those actions would qualify as sym‐ bolic speech, see, e.g., Texas v. Johnson, 491 U.S. 397, 404 (1989), but others would not. Nonetheless, we recognize the im‐ portance of words to most religious exercise, whether those words appear in a liturgy, or in the lyrics to sacred music, or in a homily or sermon. And we understand the point the Re‐ publicans are making: EO43 draws lines based on the purpose of the gathering, and the type of speech that is taking place sheds light on that purpose. Someone sitting in a place of wor‐ ship for weekly services is allowed to be part of a group larger than 50, but if the person in the front of the room is talking about a get‐out‐the‐vote eﬀort or is giving a lecture on the Im‐ pressionists, no more than 50 attendees are permitted. (Some of the Republicans’ other hypotheticals are a little more strained: if the 23rd Psalm is the scriptural passage for the Sabbath or a Sunday service for one group, and another group wants to use the identical text for a discussion of ancient po‐ etry, is the diﬀerent treatment based on content or something else?) But the Free Exercise Clause has always been about more than speech. Otherwise, why bother to include it at all—the First Amendment already protects freedom of speech, and we know that speech with a religious message is entitled to just as much protection as other speech. See Rosenberger v. Rector and Visitors of the Univ. of Va., 515 U.S. 819, 837 (1995). 18 No. 20‐2175 Moreover, the Rosenberger Court held, nondiscriminatory fi‐ nancial support for religious organizations would not run afoul of the Establishment Clause, because the program was neutral toward religion. Id. at 840. Indeed, the Court acknowl‐ edged, it was “something of an understatement to speak of religious thought and discussion as just a viewpoint, as dis‐ tinct from a comprehensive body of thought.” Id. at 831. However one wishes to characterize religion (including the decision to refrain from identifying with any religion), there can be no doubt that the First Amendment singles out the free exercise of religion for special treatment. Rather than being a mechanism for expressing views, as the speech, press, assembly, and petition guarantees are, the Free Exercise Clause is content based. The mixture of speech, music, ritual, readings, and dress that contribute to the exercise of religions the world over is greater than the sum of its parts. The Supreme Court made much the same point in Ho‐ sanna‐Tabor, as we noted earlier, when it responded to the ar‐ gument that the general right to freedom of association suf‐ ficed to protect religious groups, and thus there was no need for a ministerial exception to the employment discrimination rules. If that were true, the Court said, then there would be no diﬀerence between the associational rights of a social club and those of the Lutheran Church. 565 U.S. at 189. “That result,” the Court wrote, “is hard to square with the text of the First Amendment itself, which gives special solicitude to the rights of religious organizations.” Id. Just so here. The free exercise of religion covers more than the utterance of the words that are part of it. And, while in the face of a pandemic the Governor of Illinois was not compelled to make a special dispensation for religious activities, see No. 20‐2175 19 Elim, nothing in the Free Speech Clause of the First Amend‐ ment barred him from doing so. As in the cases reconciling the Free Exercise and Establishment Clauses, all that the Gov‐ ernor did was to limit to a certain degree the burden on reli‐ gious exercise that EO43 imposed. We stress that this does not mean that anything a church announces that it wants to do is necessarily protected. If the church wants to hold a Labor Day picnic, or a synagogue wants to sponsor a “Wednesday night at the movies” event, or a church decides to host a “battle of the bands,” the church or synagogue would be subject to the normal restrictions of 50 people or fewer. We have no occasion here to opine on where the line should be drawn between religious activities and more casual gatherings, but such a line surely exists. And it is important to recall that EO43 does not say that all activi‐ ties of religious organizations are exempt from its strictures. Only the “free exercise of religion” is covered, and those words, taken directly from the First Amendment, provide a limiting principle. Because the exercise of religion involves more than simple speech, the equivalency urged on us by the Republicans be‐ tween political speech and religious exercise is a false one. Reed therefore does not compel the Governor to treat all gath‐ erings alike, whether they be of Catholics, Lutherans, Ortho‐ dox Jews, Republicans, Democrats, University of Illinois alumni, Chicago Bears fans, or others. Free exercise of religion enjoys express constitutional protection, and the Governor was entitled to carve out some room for religion, even while he declined to do so for other activities. 20 No. 20‐2175 III Before concluding, we must also comment on the Repub‐ licans’ alternative argument: that the Governor is allowing Black Lives Matter protestors to gather in groups of far more than 50, but he is not allowing the Republicans to do so. They concede that their argument depends on practice, not the text of the executive order. The text contains no such exemption, whether for Black Lives Matter, Americans for Trump, Save the Planet, or anyone else. Should the Governor begin picking and choosing among those groups, then we would have little trouble saying that Reed would come into play, and he would either have to impose the 50‐person limit on all of them, or on none of them. The fact that the Governor expressed sympathy for the people who were protesting police violence after the deaths of George Floyd and others, and even participated in one pro‐ test, does not change the text of the order. Nonetheless, the Republicans counter, there are de facto changes, even if not de jure changes. Essentially, they charge that the state should not be leaving enforcement up to the local authorities, and that they are aggrieved by the lax or even discriminatory levels of enforcement that they see. Underenforcement claims are hard to win, however, as we know from cases such as DeShaney v. Winnebago County Department of Social Services, 489 U.S. 189 (1989). It is also diﬃcult to prevail in a case accusing the police of racial profiling. See, e.g., Chavez v. Ill. State Police, 251 F.3d 612 (7th Cir. 2001). Although we do not rule out the possibility that someone might be able to prove this type of favoritism in the enforcement of an otherwise valid response to the COVID‐19 pandemic, the record in this case falls short. No. 20‐2175 21 Indeed, the problems of late have centered on ordinary crim‐ inal mobs looting stores, not on peaceful protestors. The Republicans’ brief oﬀers only slim support for the proposition that the 50‐person ban on gatherings does not ap‐ ply to the Black Lives Matters speakers. It first points out that the Governor issued a press release expressing sympathy for the protests. But such a document, untethered to any legisla‐ tive or executive rule‐making process, cannot change the law. Cf. Medellin v. Texas, 552 U.S. 491, 523–32 (2008) (holding that President George W. Bush’s memorandum in response to an international court’s decision was “not a rule of domestic law binding in state and federal courts”). The Republicans also complain that the Chicago police stood by idly while the Black Lives Matters protests took place, but that they dispersed “Re‐ open Illinois” gatherings. Notably absent from these allega‐ tions, however, is any proposed proof that state actors, not municipal actors, were engaged in this de facto discrimination. Finally, the Republicans contend that the Governor prom‐ ised that the National Guard troops he deployed to Chicago would not “interfere with peaceful protesters’ first amend‐ ment rights.” Aside from the fact that this argument appears for the first time in their Reply Brief and is thus waived, it is unpersuasive. The Governor made clear that the National Guard was deployed to protect property against unrest, not to enforce the COVID‐19 order. He did not single out any cat‐ egory of protester by message. We conclude that the district court did not abuse its discretion when it found that none of these allegations suﬃced to undermine the Governor’s likeli‐ hood of success on the merits, or for that matter to undercut his showing that the state would suﬀer irreparable harm if EO43 were set aside. 22 No. 20‐2175 IV We conclude with some final thoughts. The entire premise of the Republicans’ suit is that if the exemption from the 50‐ person cap on gatherings for free‐exercise activities were found to be unconstitutional (or if it were to be struck down based on the allegedly ideologically driven enforcement strat‐ egy), they would then be free to gather in whatever numbers they wished. But when disparate treatment of two groups oc‐ curs, the state is free to erase that discrepancy in any way that it wishes. See, e.g., Stanton v. Stanton, 429 U.S. 501, 504 n.4 (1977) (“[W]e emphasize that Utah is free to adopt either 18 or 21 as the age of majority for both males and females for child‐ support purposes. The only constraint on its power to choose is … that the two sexes must be treated equally.”). In other words, the state is free to “equalize up” or to “equalize down.” If there were a problem with the religious exercise carve‐out (and we emphasize that we find no such problem), the state would be entitled to return to a regime in which even religious gatherings are subject to the mandatory cap. See Elim, 962 F.3d 341. This would leave the Republicans no better oﬀ than they are today. We AFFIRM the district court’s order denying preliminary injunctive relief to the appellants.	01-04-2023	09-03-2020
https://www.courtlistener.com/api/rest/v3/opinions/4476238/	OPINION. Murdock, Judge: The Commissioner, in determining a deficiency of $84,128.20 in estate tax, disallowed a deduction for previously taxed property with the explanation “that deduction for previously taxed property in respect of these items was allowed in determining the value of the net estate of the prior decedent, Alice G. Comstock.” The correctness of this adjustment is the only issue. The case has been submitted upon a stipulation of facts. Marjorie Stewart Comstock Hart died on January 81, 1939. The estate tax return for her estate was filed with the collector of internal revenue for the district of Rhode Island. John S. Greene died in 1935 leaving his estate to his sister, Alice G. Comstock. The latter, on August 12,1935, made a gift of a large part of the Greene estate to her daughter, Marjorie Stewart Comstock Hart. Alice G. Comstock reported that gift and paid the gift tax on it. Alice G. Comstock died in 1938 and the property given to her daughter in 1935 was not reported as a part of her gross estate. The Commissioner, in determining a deficiency of $1,717.03 against the Comstock estate, inter alia, included the donated property in the gross estate, as a transfer in contemplation of death, allowed a deduction because it was previously taxed as a part of the Greene estate, and allowed a credit for the gift tax paid. An appeal to the Board of Tax Appeals was taken by the Comstock estate and settled by a stipulation that there was a deficiency of $750. Evidence as to the basis of that settlement was offered by the respondent at the hearing and rejected upon the petitioner’s objection. The petitioner’s insistence that there is consequently no evidence of the allowance of a credit for the previously paid gift tax is difficult to comprehend. The granting of the credit in the computation of the deficiency is expressly stipulated and, since the deficiency was reduced by the settlement and not increased, it supports no inference that items determined in favor of that decedent were reversed by the settlement. Certainly, the burden of showing any such result would be upon the petitioner. But the question and the rejected evidence are immaterial to the view herein taken. The donated property was reported as a part of the gross estate of the present decedent, Marjorie Stewart Comstock Hart, and a deduction claimed on the ground that it represented previously taxed property. The action of the Commissioner has been described above. Section S03 (a) (2) of the Revenue Act of 1926, as amended up to the date of the death of this decedent, allowed a deduction for prior taxed property. The provision is in part as follows: An amount equal to the value of any property (A) forming a part of the gross estate situated in the United States of any person who died within five years prior to the death of the decedent, or (B) transferred to the decedent by gift within five years prior to his death, where such property can be identified as having been received by the decedent from the donor by gift, or from such prior decedent by gift, bequest, devise, or inheritance, or which can be identified as having been acquired in exchange for property so received. This deduction shall be allowed only where a gift tax imposed under the Revenue Act of 1932, or an estate tax imposed under this or any prior Act of Congress, was finally determined and paid by or on behalf of such donor, or the estate of such prior decedent, as the case may be, and only in the amount finally determined as the value of such property in determining the value of the gift, or the gross estate of such prior decedent, and only to the extent that the value of such property is included in the decedent’s gross estate, and only if in determining the value of the net estate of the prior decedent no deduction was allowable under this paragraph in respect of the property or property given in exchange therefor. The purpose of this statutory provision is to prevent certain transfers of the same property from being taxed twice within a five-year period. H. R. Rept. No. 767. 65th Cong. 2d sess. (1918) 42. Earlier, when there was no tax on gifts, this paragraph was drawn to prevent a second estate tax where the same property found its way within five years by “gift, bequest, devise or inheritance” into a second decedent’s estate after having been taxed in the first estate. The word “gift” was probably included to cover gifts in contemplation of death or to take effect at death. Words were added to the provision later to cover cases where the first tax was upon a gift of the property to the decedent. Thus, the provision allowed a deduction under (A) for property taxed as the estate of a “prior decedent” and a new deduction under (B) for property received by a gift which had been subjected to gift tax, Cf. Commissioner v. Fletcher Savings & Trust Co., 59 Fed. (2d) 508. The draftsmanship is poor. Cf. Paul, Federal Estate and Gift Taxation, vol. 1, p. 637. The Commissioner disallowed the deduction here on the theory that it was claimed under (A) as property received by “gift, bequest, de-puse, or inheritance” from the “prior decedent,” Alice G. Comstock, land is not allowable because a deduction was allowed the estate of [that prior decedent on this same property as property taxed within five years to the estate of her brother. He thus sets up and destroys an unmade claim, for the petitioner does not claim under (A). It claims under (B). The fact that the petitioner might not be entitled to a deduction under (A) is no reason to deny one under (B). The respondent seems to concede that the petitioner is entitled to the deduction under (B) unless a limitation next mentioned stands in the way. It is clear that the words “prior decedent” are used throughout solely in relation to the deduction allowed under (A) and have and were intended to have no effect upon the deduction allowed under (B). The limitation, “and only if in determining the value of the net estate of the prior decedent” etc., has no reference or application to a claim not based upon the taxation of the estate of a “prior decedent” but based, instead, upon a prior gift tax. The purpose and meaning of that limitation was to prevent uninterrupted deductions where the property passed through several decedents, each of whom died within five years of the prior owner. Where a deduction is claimed because the property was included in the estate of a prior decedent, it must appear that that prior decedent’s estate was not entitled to a deduction for the same property as prior taxed property. The language of the statute, read naturally, clearly shows that the limitation does not apply to a deduction claimed on account of gift tax paid. Using as it does the words “prior decedent,” the limitation obviously and appropriately refers to a deduction based upon a prior estate tax and could not be so violently distorted as to limit in some way a deduction based upon a prior transfer taxed as a gift from one living person to another. It may seem strange that there is no similar limitation upon a deduction claimed for property previously subjected to a gift tax. Congress might have limited either the deduction for prior taxed property or the credit for gift tax, in cases where the gift tax, in effect, is refunded through a credit against the estate tax of the donor. The first tax (gift tax) having been wiped out through the credit, the estate tax on the estate of the donee-decedent would not be a double tax. However, it is not clear how Congress would want to deal with such a situation. So far, it has not dealt with it at all. Considerable rewriting of the statute would be required. Section 303 (a) (2), which is silent on this subject, can not be interpreted to cover a situation so clearly beyond its intendment. In the absence of an effective limitation on (B), the Commissioner can not force the petitioner to make its claim under (A) and then deny that claim because of the limitation on (A). The word “gift” is linked with the words “bequest, devise' or inheritance” and the respondent says this deduction must be claimed and lost under (A) because gift refers to just such a situation as the present one, a gift in contemplation of death. No doubt it refers to a gift in contemplation of death, but the word was in the statute before there was a gift tax. Later a wholly new deduction was allowed under new statutory language which exactly fits this case and, as said above, the petitioner does not lose that deduction merely because under the old allowance he would not have gotten it. It is interesting to note that had the daughter died first her estate would take the deduction here claimed and the estate of her mother apparently could still claim the credit for gift tax paid and the deduction for prior taxed property received from her brother’s estate. If this situation needs correcting, it will have to await specific legislative recognition. Decision will be entered under Bule 50.	01-04-2023	01-16-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623755/	Velma B. Vargason, Petitioner, v. Commissioner of Internal Revenue, RespondentVargason v. CommissionerDocket No. 44790United States Tax Court22 T.C. 100; 1954 U.S. Tax Ct. LEXIS 235; April 23, 1954, Filed April 23, 1954, Filed 235 Decision will be entered for the petitioner. In January 1946, petitioner obtained a divorce from her then husband, Alfred William Barteau, in a New York Supreme Court. With respect to support payments, the divorce decree provided "defendant pay to the plaintiff herein * * the sum of Twenty-two Dollars per week for the support of herself and the issue of this marriage." This order was entered through a mistake as there was no intention to award any of the amount provided in the decree for petitioner's support. She was employed and earning sufficient money to support herself. On November 5, 1950, the New York Supreme Court corrected its mistake and ordered "defendant pay to the plaintiff herein * * * the sum of Twenty-two Dollars ($ 22.00) per week for the support of the three children of the marriage." It was further ordered that the corrected decree be made retroactive to January 29, 1946. Held, amounts paid petitioner in 1947 by her former husband, being solely for the support of petitioner's three minor children, are not includible in her income. Margaret Rice Sklar, 21 T. C. 349, followed. Robert L. Daine, 9 T.C. 47">9 T. C. 47,236 affd. (C. A. 2) 168 F.2d 449">168 F. 2d 449, and Peter Van Vlaanderen, 10 T. C. 706, affd. (C. A. 3) 175 F. 2d 389, distinguished. Joseph C. Buck, Esq., for the petitioner.Paul D. Lagomarcino, Esq., for the respondent. Black, Judge. BLACK 100 The Commissioner has determined a deficiency in petitioner's income tax of $ 199 for the year 1947.The petitioner assigns error, as follows:The determination of taxes set forth in the said Notice of Deficiency is based upon the following error: The Commissioner erroneously increased petitioner's income by the amount of $ 1,144 on the grounds that that amount received by petitioner from Alfred William Barteau her former husband for the support and maintenance of petitioner's children constituted taxable income to petitioner in the calendar year 1947.FINDINGS OF FACT.Most of the facts were stipulated and are incorporated herein by this reference. The depositions of two witnesses were taken and introduced in evidence at the hearing, as a part of the stipulation of facts.The petitioner is an individual residing at Elmira, New York. She filed her return237 for the year involved with the collector for the twenty-eighth district of New York.In January 1946, petitioner obtained a divorce from her then husband, Alfred William Barteau, in New York Supreme Court, Chemung County. With respect to support payments, the divorce decree provided as follows:101 ORDERED, ADJUDGED AND DECREED that the defendant pay to the plaintiff herein at Elmira, New York the sum of Twenty-two Dollars per week for the support of herself and the issue of this marriage; * * The petitioner was granted custody of the three minor children who were the issue of the dissolved marriage. In her testimony at the hearing of the divorce proceeding, petitioner testified, among other things, as follows: Q. You want the custody of the children?A. Yes.Q. You want also provision made for the support of the children?A. Yes. * * Q. You are employed?A. Yes.Q. You have been employed for a good many years?A. Three years this March. * * Q. You are earning how much a week?A. About thirty-five dollars.In May 1946, petitioner married Jesse Vargason. He died in February 1948.Subsequent to the divorce, action was instituted in Children's Court, Chemung238 County, for the enforcement of the support provisions of the decree on behalf of the minor children of the marriage. In October 1950, as a result of a revenue agent's report showing an alleged deficiency in income tax for the year 1947, petitioner made application to New York Supreme Court, Chemung County, for an order modifying the wording of the support provisions of the 1946 divorce decree and asked that said modification be made retroactive to January 29, 1946. This application was made with notice to petitioner's divorced husband. On November 5, 1950, New York Supreme Court, Chemung County, granted an order, as follows:ORDERED, ADJUDGED AND DECREED THAT THE support provision contained in the judgment as entered in Chemung County Clerk's Office on January 29, 1946 be modified from ORDERED, ADJUDGED AND DECREED defendant pay to the plaintiff herein at Elmira, N. Y. the sum of $ 22.00 per week for the support of herself and the issue of said marriageto the following: ORDERED, ADJUDGED AND DECREED defendant pay to the plaintiff herein at Elmira, N. Y. the sum of $ 22.00 per week for the support of the three minor children of the marriageAnd it is furtherORDERED that239 said modification be retroactive and relate back to January 29, 1946, the date of the entry of the judgment.Justice Bertram L. Newman, who entered the foregoing modified decree, stated in a letter dated July 9, 1952, addressed to petitioner's counsel and which is attached to the stipulation of facts, as follows:102 In Re Barteau vs BarteauDear Mr. Buck:In regard to the judgment of divorce rendered in favor of Velma Blanche Barteau against her husband, Alfred William Barteau, entered Chemung County Clerk's office on 29th of January, 1946, since talking with you, I have gone through the file of this case. The order of November 4, 1950, correcting the judgment which was entered on January 29, 1946, was granted for the purpose of correcting said judgment so that it would conform with the intention of the Court at the time the judgment was entered. The order of November 4, 1950, is not a retroactive order in the sense that it seeks to determine the status of rights of the parties as of a prior date. It corrects the judgment to make it conform to the decision made at the time the judgment was rendered.The records and the fact that only $ 22.00 per week was granted for the240 support of three children, and that the payments have continued subsequent to the remarriage of the plaintiff, prove this fact. The phraseology used by the draftsman of the order is unfortunate in that he used the terminology retroactive. It should have read: "The judgment of January 29, 1946, is corrected nunc pro tunc as of January 29, 1946," to read "Ordered, adjudged, and decreed that the defendant pay to the plaintiff herein at Elmira, New York, the sum of $ 22.00 per week for the support of the three children of the marriage."If it will be of any assistance to you in this matter, you are at liberty to use this letter in any manner you wish.Yours truly,(Signed) B. L. NewmanBertram L. NewmanJustice Supreme Court.The deposition of Justice Newman taken September 22, 1953, was introduced in evidence at the hearing of this proceeding and his testimony was to the same effect as the foregoing letter written to petitioner's counsel dated July 9, 1952. In the course of his testimony given in the deposition, the following question to Justice Newman and his answer appear: Q. With reference to the Order of November 4, 1950, was it your intention that the wording of the 241 new Order comply with the intention of the Court as it existed in January, 1946?A. Yes.The petitioner in her income tax return for 1947 returned as income received from salary earned in that year $ 2,617.84. She did not return any of the $ 1,144 which was paid to her by her former husband, Alfred William Barteau, in that year. The Commissioner in his determination of the deficiency added to the income reported by petitioner the $ 1,144 which had been paid to her by her former husband.Ultimate Facts.It was the intention of the court when it entered the order of January 29, 1946, which read:ORDERED, ADJUDGED AND DECREED that the defendant pay to the plaintiff herein at Elmira, New York the sum of Twenty-two Dollars per week for the support of herself and the issue of this marriage * * *103 that it should have readORDERED, ADJUDGED AND DECREED defendant pay to the plaintiff herein at Elmira, N. Y. the sum of $ 22.00 per week for the support of the three minor children of the marriage * The further order of the court providing "Ordered that said modification be retroactive and relate back to January 29, 1946, the date of the entry of the judgment" was entered242 to correct a mistake that had been made in the original decree and not to change the status of the parties as it existed at that date.OPINION.Petitioner states the issue involved in this proceeding in her brief, as follows:Is the taxpayer entitled to exclude from her 1947 gross income payments received from her divorced husband pursuant to the terms of a divorce decree, which payments were made for the support of the taxpayers three minor children?The applicable provisions of the Internal Revenue Code and Treasury Regulations are printed in the margin. 1243 Respondent in his brief strongly relies on , affd. (C. A. 2, 1948) , and , affd. (C. A. 3, 1949) . We think these cases are distinguishable on their facts. In both the Daine case and the Van Vlaanderen case, the decree of the State court 104 which was made retroactive in its provisions was not seeking to correct an error which had been made in the original decree but sought to change the status of the parties as it existed in prior years. Our Court held this could not be done, to change Federal tax liability for the prior years, and in this holding we were affirmed by the Circuit Courts.In the instant case it seems clear to us that the purpose of the modified decree which was entered November 5, 1950, and which was made retroactive to the date of the original decree of January 29, 1946, was to correct a mistake which had been made and to conform the original decree to what was the intention of the court at that time. Under these circumstances we think244 the case of , is applicable. In that case, we said:Examination of all of the facts persuades us that the final decree of the state court upon the hearing of the divorce case between petitioner and her husband, and each of the amendatory orders thereafter which had to do only with the amounts to be paid petitioner, provided that the entire sum here in controversy was for the support of the child alone and not in any part for the support of petitioner. The original order and the orders amendatory thereof were in error in stating otherwise, and the last order of the court merely corrected that error. In this respect this case is distinguishable from , affd. .We follow the Sklar case, supra, here and decide the issue involved in favor of the petitioner.Petitioner has an alternative contention in her brief to the effect that her remarriage in 1946 to Jesse Vargason, now deceased, annulled her former husband's obligation to support her. In arguing this point, she says that it is the law of the State of New245 York that a divorced wife may not receive payments for her support after her remarriage. Having decided petitioner's main contention in her favor, it becomes unnecessary to decide her alternative contention.Decision will be entered for the petitioner. Footnotes1. Internal Revenue Code:SEC. 22 (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 marital 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.Regulations 111:Sec. 29.22 (k)-1 (d). Payments for support of minor children↩. -- Section 22 (k) does not apply to that part of any periodic payment which, by the terms of the decree of the written instrument under section 22 (k), is specifically designated as a sum payable for the support of minor children of the husband. * * * If, however, the periodic payments are received by the wife for the support and maintenance of herself and of minor children of the husband without such specific designation of the portion for the support of such children, then the whole of such amounts is includible in the income of the wife as provided in section 22 (k). Except in cases of a designated amount or portion for the support of the husband's minor children, periodic payments described in section 22 (k) received by the wife for herself and any other person or persons are includible in whole in the wife's income, whether or not the amount or portion for such other person or persons is designated.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623757/	RICHARD A. ENGERT, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, RespondentEngert v. CommissionerDocket No. 40468-84.United States Tax CourtT.C. Memo 1986-199; 1986 Tax Ct. Memo LEXIS 407; 51 T.C.M. (CCH) 1022; T.C.M. (RIA) 86199; May 19, 1986. Richard A. Engert, pro se. Frank Laurino, for the respondent. PARRMEMORANDUM FINDINGS OF FACT AND OPINION PARR, Judge: Respondent determined deficiencies in petitioner's Federal income tax liabilities and additions to tax, as follows: Additions to Tax, I.R.C. 1954YearDeficiency1 § 6651(a)(1) § 6653(a)(1)2 § 6653(a)(2) 1981$6,869.00$814.00$343.0050% of the interestdue on $3,256.2219826,508.00325.0050% of the interestdue on $2,650.40409 The respondent also requested the imposition of damages under section 6673 in an amount not to exceed $5,000 for commencing and maintaining a frivolous and groundless suit. The issues presented are: (1) Whether a "vow of poverty" signed by petitioner October 20, 1981 was effective to reduce his taxable income for that year. (2) Whether petitioner is liable for an addition to tax for failure to file an income tax return for 1981. (3) Whether petitioner is entitled to deduct charitable contributions in the amounts of $21,726.29 for 1981 and $22,313.49 for 1982. (4) Whether petitioner is liable for additions to tax under section 6653(a)(1) and (2) for negligence or intentional disregard of rules and regulations for 1981 and 1982. (5) Whether petitioner is liable for damages under section 6673. Some of the facts have been stipulated and they are so found. When he filed his petition, petitioner resided in Brooklyn, N.Y. During the years in issue he was employed by the New York City Transit Authority as a line supervisor for cars and ships. He was paid wages for his services in the amount of $28,575.20 in 1981 and $29,297.13 in 1982. For convenience, our remaining findings410 of fact and opinion are combined below. 1981 "Vow of Poverty"3On September 1, 1981 petitioner founded "The Church of Modern Enlightenment," which maintains its office at 484-67th Street, Brooklyn, N.Y., a rented apartment where petitioner resides. On September 16, 1981, petitioner opened a bank account in the name of the "church" (church account) at Manufacturers Hanover Trust. Three church "trustees," petitioner, Phyllis A. Engert, and Sanford I. Kleinman, each had signatory authority over the account. Any one of the three was authorized to write checks. Phyllis A. Engert is petitioner's sister. Sanford I. Kleinman is petitioner's co-worker at the transit authority, and the "minister" of a church similar to petitioner's. (See discussion under "Damages," below.) Petitioner's church had six members: the three trustees and three members of Kleinman's family. On October 20, 1981, 4 petitioner signed a vow of poverty, witnessed by the trustees. Petitioner purported to irrevocably411 give all his possessions to the church, whether or not they continued to appear in his personal name. The vow further stated, "Secular employment remuneration (when directed by the Church) is not personal remuneration, but a donation to the Church or Order and not belonging to the individual or the undersigned." Petitioner's wages were paid to him during the taxable years 1981 and 1982 for services performed for the New York City Transit Authority in his individual capacity. Petitioner's position did not involve any religious duties. The transit authority had no contract or other agreement with any church or religious organization regarding petitioner's services, and the wages were paid directly to petitioner with no restrictions on their use. It is a truism in tax law that income is taxed to the one who earns it. . See also ; . Regardless412 of vows of poverty, when secular services are rendered by an individual, income received by him in his individual capacity and not on behalf of a separate and distinct principal is taxable to the individual. , affg. a Memorandum Opinion of this Court; , affd. without published opinion ; . Accordingly, we find that the wages paid to petitioner are taxable to him. Failure to FileRespondent maintains that the Form 1040 submitted by petitioner for the taxable year 1981 was not a return within the meaning of sections 6011(a) and 6651(a)(1). Section 6651(a)(1) provides for an addition to tax if a taxpayer fails to file a timely return unless such failure is due to reasonable cause and not due to willful neglect. The general requirements of a Federal income tax return are set forth in section 6011(a), which provides in relevant part as follows: When required by regulations prescribed by the Secretary any person made liable for any tax * * * shall413 make a return or statement according to the forms and regulations prescribed by the Secretary. * * [Emphasis added.] Here, petitioner filed a blank return, except for his name, address, social security number, filing status, and request for refund of amounts withheld. He signed the return, and attached a copy of his W-2 Form from the New York City Transit Authority. The W-2 showed amounts of wages and withholdings for Federal income tax, FICA tax, and state and local income taxes. Petitioner also attached a typed form in which his name was filled in. The form read, in its entirety: Reverend Richard Engert is a member of a Religious Order who has taken an irrevocable Vow of Poverty and performs services pursuant to direction by the Order as an agent. The income generated is the property of the Church and Order and not personal income to the individual. For confirmation or clarification, you may write to: Worldwide Religious Order of Almighty God, Section T1, 4395 Austin Boulevard, Island Park, New York 11558 5414 A document constitutes a valid tax return if "it contains sufficient data from which respondent can compute and assess a tax liability." , and cases cited therein. Accord, . The U.S. Supreme Court in the case of , stated: Congress has given discretion to the Commissioner to prescribe by regulation forms of returns and has made it the duty of the taxpayer to comply. It thus implements the system of self-assessment which is so largely the basis of our American scheme of income taxation. The purpose is not alone to get tax information in some form but also to get it with such uniformity, completeness, and arrangement that the physical task of handling and verifying returns may be readily accomplished. * * [; emphasis added.] The Supreme Court test has several elements: (1) There must be sufficient data to calculate tax liabilities; (2) the document must purport to be a return; (3) there must be an honest and reasonable attempt to satisfy the requirements415 of the tax law; and, (4) the taxpayer must execute the return under penalties of perjury. , on appeal (6th Cir., Sept. 24, 1984), and cases cited therein. Since petitioner denies that the wages reflected on the W-2 form are his income, and since he did not fill in the Form 1040 as required, he has failed to meet the second and third prongs of the above test. Moreover, the attachment of a Form W-2 does not substitute for the disclosure on the return itself of information as to income, deductions, credits, and tax liability, and hence the first prong of the above test is not satisfied. ; . In fact, the document effectively disguises the Form W-2 information by disclaiming any tax liability whatsoever. See . As we said in , the acceptance of documents like petitioner's as a return within the meaning of the Internal Revenue Code would disrupt the administration of the tax laws and serve416 to undermine the integrity of our self-assessment tax system. We hold that petitioner's document does not constitute a return within the meaning of sections 6011(a) and 6651(a)(1). We further hold that petitioner has not borne his burden of proving that his failure to file a return is due to reasonable cause and not due to willful neglect. Rule 142(a); ; . Even a good faith belief that one is not required to file a return does not constitute cause under section 6651(a)(1) unless bolstered by the timely-sought advice of a competent tax adviser who has been fully informed of all relevant facts. , affd. in part and revd. in part . 6 Petitioner offered no such evidence. Respondent's determination of an addition to tax under section 6651(a)(1) is upheld. Charitable Contributions, 1981-1982Petitioner reported417 his wages of $29,297.13 as income in 1982, but deducted $29,101.13 as a charitable contribution. 7 At trial he argued he was also entitled to a charitable contribution deduction in the full amount of his net pay for 1981, in the event the Court should not accept his attempted assignment of income to the Church of Modern Enlightenment for 1981. At trial, petitioner presented a revised method of calculating his deduction for charitable contributions. As to 1981, petitioner testified he received gross wages of $28,575. After subtracting Federal, state, local, and FICA taxes withheld (as shown on the W-2 Form attached to his return), he received net wages of $21,726.29. After September 16, 1981, when the church checking account was opened, petitioner received net wages of $8,603.50, which he deposited in the church checking account and which he now claims as a donation. He also418 claims a deduction for the net wages of $13,122.79 he received from January 1 to September 15, 1981 on the theory that it equals or exceeds the value of possessions donated to the church through his vow of poverty. Petitioner presented no evidence of the possessions donated nor of their value. For 1982, petitioner now claims the appropriate deduction should be $22,313.49, which was, again, net wages received. Petitioner lives in the same apartment where he resided before the purported gift to the church. He uses the same furniture and possessions he previously used. He testified his personal expenses are met with a $600 per month "parsonage allowance" for food, rent, utilities, and other personal expenses, an amount which can be increased by permission of the trustees. While this would only total $7,200 per year, petitioner testified the remainder of his net wages were deposited in a Dreyfus account for a "church building fund" in 1982. Petitioner and Kleinman had signature authority over that fund, which petitioner testified contained $17,000 in 1982. 8 Petitioner was the sole contributer to the church during the years in issue. 419 Deductions are a matter of legislative grace and the taxpayers must satisfy the specific statutory requirements for the deductions that they claim. . Taxpayers bear the burden of proving their entitlement to those deductions. ; Rule 142(a). To secure a deduction for a charitable contribution under section 170(c), petitioner must establish that he has made an unconditional gift to a qualified entity. See , affg. a Memorandum Opinion of this Court; , affg. . Qualified entities under section 170 include most organizations that qualify for an exemption from tax under section 501(c)(3). Such organizations must be organized and operated exclusively for religious, charitable, scientific, literary, or educational purposes, or to foster national or international sports competition, or for the prevention of cruelty to children or animals, and no part of the net earnings of the organization420 may inure to the benefit of any private individual. See 170(c)(2)(B) and (C). Petitioner has not shown that he made an unconditional gift to a qualified entity in either of the years in issue. Further, the evidence shows that the earnings inured to petitioner's private benefit. Petitioner continued to reside at his apartment and to use his possessions as he always had. While he shared signatory authority over the church bank account with others, he could and did withdraw funds on his sole signature. The other trustees were a close relative and a co-worker with whom petitioner shared a reciprocal "church trustee" type arrangement. Cancelled checks from the church banking account received in evidence are uniformly for personal expenses such as rent, electric bills, gas, charge accounts, and other personal or living expenses. Many checks are made payable to petitioner himself. 9421 On this record, we sustain respondent in the denial of petitioner's charitable deductions for 1981 and 1982. NegligencePetitioner offered no evidence to overcome the presumption of correctness of respondent's determination that he is liable for the additions to tax under section 6653(a). See ; . We therefore sustain respondent's determination of the additions to tax under section 6653(a)(1). We also sustain respondent's determination under section 6653(a)(2). DamagesThe final question is whether damages under section 6673 should be awarded to the government. That section provides that when it appears to the Court that proceedings before it have been instituted or maintained by a 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. Petitioner argues that he should not be liable for damages because he cooperated fully with the government by producing all subpoenaed documents and answering all questions422 asked of him. We have noted above petitioner's close relationship with Sanford I. Kleinman. On cross-examination, petitioner acknowledged that he testified in Kleinman's case in this Court, and was present when the Court ruled in favor of respondent on the charitable contribution issue. 10 He further acknowledged that Kleinman's "Good Friendship Temple" is very similar to the "Church of Modern Enlightenment." Petitioner said, "Our ministries coincide, yes." Petitioner, therefore, clearly knew by the time his own case came to trial that his position on that issue was without merit. We find that petitioner maintained these proceedings primarily for purposes of delay. His positions on the vow of poverty and charitable contribution issues were frivolous and groundless. We recognize that petitioner raised a legitimate issue at trial regarding the computation of the section 6653(a)(2) additions to tax, which caused respondent to modify his original determination as to that issue. However, petitioner could have raised this question with respondent earlier, and avoided a trial on*423 the substantive issues of this case, which were frivolous. On the basis of this record, we conclude that petitioner's position in these proceedings was frivolous and groundless, and that he maintained this suit primarily for delay.Taking all of the factors noted above into account, damages will be awarded to the United States in the amount of $250. Accordingly, to reflect our holdings, An appropriate order and decision will be entered.Footnotes1. All section references are to the Internal Revenue Code of 1954, as amended and in effect during the year in issue, and all Rule references are to the Tax Court Rules of Practice and Procedure. ↩2. In his notice of deficiency, respondent determined additions to tax under sec. 6653(a)(2) based on $6,869 and $6,508. After a question raised by petitioner at trial, respondent conceded that the proper amounts should be as shown above.↩3. Terms first appearing in quotation marks are used for convenience only. As will become evident below, we do not intend a finding that they are in substance what they purport to be.↩4. Petitioner contends he is entitled to a charitable deduction for the portion of 1981 not covered by the vow of poverty. The charitable deduction issue is addressed below.↩5. We note that the vow of poverty dated October 20, 1981 and entered into evidence by petitioner designates the Church of Modern Enlightenment and the Order of the Circle of Golden Light to receive petitioner's donation and possessions, not the Worldwide Religious Order of Alminghty God.↩6. See also and cases cited therein.↩7. Petitioner also deducted union dues of $196.Since this amount did not exceed petitioner's zero bracket amount of $2,300, respondent increased his taxable income $196 to eliminate the itemized deduction, and computed petitioner's tax using the tax table which includes the zero bracket amount of $2,300.↩8. Petitioner is also a trustee and member of Kleinman's church and shares signature authority over that church bank account as well as his own.↩9. Petitioner explained that the telephone, gas, and electric companies refused to put the accounts in the church's name and denied petitioner's request for a clergyman's discount. He testified this was because he had secular income. We think they accurately saw through petitioner's scheme.↩10. Kleinman v. Commissioner,↩ docket. No. 16632-84 (unpublished bench opinion Oct. 2, 1985).	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623759/	BOBBY J. LEWIS and LITA J. LEWIS, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, RespondentLewis v. CommissionerDocket No. 2948-87.United States Tax CourtT.C. Memo 1989-282; 1989 Tax Ct. Memo LEXIS 282; 57 T.C.M. (CCH) 684; T.C.M. (RIA) 89282; June 12, 1989; As corrected June 14, 1989 282 Bobby J. Lewis and Lita J. Lewis, pro se. James S. Yan and Terry W. Vincent, for the respondent. PARRMEMORANDUM FINDINGS OF FACT AND OPINION PARR, Judge: This case is before the Court on respondent's Motion For Entry Of Decision In Accordance With The Stipulation Of Settled Issues (Motion) filed April 10, 1989. FINDINGS OF FACT This case was called for trial at the trial session of this Court on January 23, 1989, at Pasadena, California. At calendar call, we scheduled this case for trial on January 27, 1989. After calendar call but before trial, the parties reached a basis of settlement. On January 24, 1989 petitioners signed the Stipulation of Settled Issues (Stipulation) drafted by respondent's counsel. The Stipulation states in pertinent part: THE PARTIES hereby stipulate and settle the issues relating to petitioners' 1983 and 1984 income tax liabilities as follows: 1. SCHEDULE C (AIRCRAFT). Petitioners' Schedule C profits and losses for 1983 and 1984 are allowed as follows: 19831984Income$ 8,232.00 $ 38,226.00 Expenses(14,986.00)(22,364.00)Depreciation(1,500.00)(2,200.00)Profit (Loss)$ 8,254.00)$ 13,662.00 283 * * * The Stipulation does not mention any liability on the part of petitioners for self-employment taxes. On January 27, 1989 respondent's counsel filed the Stipulation with the Court and we granted the parties 60 days in which to file decision documents. On February 23, 1989 respondent's counsel mailed a proposed Stipulated Decision with a copy of the Audit Statement upon which it was based to petitioners. The Audit Statement included $ 1,544.00 in self-employment taxes as a component of the recomputed deficiency for 1984 shown on the proposed Stipulated Decision. Respondent's notice of deficiency did not include self-employment tax in the amount of determined deficiency for 1984, and the issue of petitioners' liability for such tax was not raised at any time prior to its inclusion in the proposed Stipulated Decision. On March 23, 1989 Petitioner Bobby J. Lewis (Mr. Lewis) informed respondent's counsel that he needed more time to review the proposed Stipulated Decision. At respondent's request, we granted an extension of 15 days to file decision documents. On April 4, 1989 Mr. Lewis informed respondent's counsel that petitioners did not plan to sign the proposed284 Stipulated Decision, because the figures contained in Paragraph 1 of the Stipulation were inaccurate. Such was respondent's impetus for filing the instant Motion. On April 17, 1989 petitioners filed an objection to respondent's Motion in the form of a Motion For Hearing On Matters In Dispute, which states that "the details of the stipulated settlement written and directed by Attorney Yan [respondent's counsel] has a major deletion from the spoken words agreed to." On April 20, 1989 we ordered respondent's Motion calendared for a hearing. On May 17, 1989 petitioners filed under Rule 50(c), Tax Court Rules of Practice and Procedure, a Statement In Lieu Of Appearance which states: MOTIONS SESSIONDocuments presented to support our 1984 Tax Return as filed. Refer to accounting record marked Exhibit No. 1 and entries marked Items A and B; Item A Paid to Interest, Item B Paid to Principal. We met with * * Attorney James S. Yan at his request on Saturday, January 21, 1989 for discussion of possible settlement of disputed issues. We met with Mr. James S. Yan again on Monday, January 23, 1989 and continued discussion and reached agreements. Mr. Yan's spoken words were285 he agreed the expenses for interest paid and principal payments were acceptable as shown on accounting records, although he would not allow them as basis for depreciation and investment tax credit, he would delete the income to offset these amounts. When Mr. Yan's settlement work-up arrived in my hands and I examined it, the income was included and my payments to interest and principal were ignored and left out. A tax figure including self employment tax was calculated contrary to our agreement. Self employment tax was never discussed. [Emphasis in original.] * * The accounting record petitioners refer to as Exhibit No. 1 is a copy of a handwritten summary of petitioners' income and expenses from its aircraft activity for 1983 and 1984 (Summary). The totals of the "Income" and "Expenses" columns shown on the Summary for 1983 and 1984 agree to the corresponding figures shown in Paragraph 1 of the Stipulation. Indeed, the Stipulation was prepared in part based upon such Summary. Two different columns on the Summary labeled "Paid to Interest" and "Principal Payments" show entries of $ 1,696.00 and $ 13,898.00, respectively. These amounts, as petitioners point286 out, are not included in the computation of profit or loss in Paragraph 1 of the Stipulation. On the morning of May 24, 1989 respondent filed a Statement In Support Of Respondent's Motion For Entry Of Decision In Accordance With The Stipulation Of Settled Issues in which, among other things, respondent's counsel (James S. Yan) stated that he did not promise petitioners anything in addition to what had been agreed upon in the Stipulation. Later that morning, respondent's counsel (Terry W. Vincent) appeared at the scheduled hearing on the instant Motion and was heard. OPINION Petitioners seem to object to respondent's Motion For Entry Of Decision In Accordance With The Stipulation Of Settled Issues on two separate grounds. First, petitioners contend that respondent's counsel orally agreed to allow for certain deductions in determining Schedule C profit or loss which were not actually included in the Stipulation of Settled Issues signed by petitioners. Respondent's counsel denies that he promised petitioners anything other than what had been agreed upon in the Stipulation. In Stamm International Corp. v. Commissioner,90 T.C. 315">90 T.C. 315 (1988), we held that the unilateral287 error of counsel, in the absence of some misrepresentation by the adverse party, is not a sufficient ground to vacate a settlement agreement. We cannot find that respondent's counsel represented to petitioners that they would receive the benefit of any deductions other than those provided for in the Stipulation. Petitioners had a full opportunity to review the written Stipulation. They should have noticed any discrepancy between the written Stipulation and their understanding of the agreement, before signing the document. Thus, any error which may exist in the Stipulation was a unilateral error of petitioners. Accordingly, petitioners are bound by the amounts shown in the Stipulation. Second and finally, petitioners contend that the deficiency for 1984 shown on respondent's proposed Stipulated Decision erroneously includes $ 1,544.00 in self-employment tax, since the issue of liability therefor was not previously raised. In contrast, respondent argues that since petitioners stipulated that they were involved in a trade or business, they are automatically liable for self-employment taxes related thereto for 1984. We agree with petitioners. The notice of deficiency issued*288 to petitioners does not include in the determined deficiency for 1984 any self-employment tax. Self-employment taxes are not mentioned in the Stipulation of Settled Issues signed by petitioners. Indeed, the issue of liability for such tax was not raised at any time prior to its inclusion in the deficiency for 1984 shown on the proposed Stipulated Decision. Further, had petitioners known that it was respondent's intention to hold them liable for self-employment taxes, they might never have agreed to settle this case. Accordingly, petitioners are not liable for the self-employment taxes asserted by respondent for the first time in the proposed Stipulated Decision. To reflect the foregoing, An appropriate order and decision will be entered.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623760/	HELEN SPRINGER, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, Respondent CURTIS HOWE SPRINGER, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, RespondentSpringer v. CommissionerDocket Nos. 5522-71, 5523-71.United States Tax CourtT.C. Memo 1977-191; 1977 Tax Ct. Memo LEXIS 251; 36 T.C.M. (CCH) 782; T.C.M. (RIA) 770191; June 21, 1977, Filed; As Amended June 24, 1977. W. Owen Nitz, for the petitioners. John O. Kent, for the respondent. GOFFEMEMORANDUM FINDINGS OF FACT AND OPINION GOFFE, Judge: The Commissioner determined deficiencies in Federal income tax of petitioners and additions to tax for the taxable year 1967 as follows: DocketAdditions to Tax PetitionerNumberDeficiencySec. 6651(a) 1Sec. 6653(a)Helen Springer5522-71$132,335.960$6,617.00Curtis Howe Springer5523-71132,652.40$33,163.106,632.62These cases were consolidated for trial, briefing and opinion. The following issues are presented for our decision: 1. Whether the net profit of Basic Food Products Co. for the taxable year 1967 was $412,656252 as contended by respondent; 2. Whether the net profit of Basic Food Products is taxable solely to Petitioner Helen Springer or taxable one-half to her and one-half to Petitioner Curtis Howe Springer; 3. Whether the failure of Petitioner Curtis Howe Springer to timely file a Federal income tax return for the taxable year 1967 was due to reasonable cause; and 4. Whether any part of petitioners' underpayment of tax for the taxable year 1967, was due to negligence or intentional disregard of the rules and regulations contained in the Internal Revenue Code of 1954. Respondent concedes that the net profits of Basic Food Products did not exceed $412,656 rather than $423,056 determined in the statutory notices of deficiency. FINDINGS OF FACT Some of the facts have been stipulated. The stipulation of facts and attached exhibits are incorporated by this reference. At the time the petitions were filed herein, Petitioners Curtis Howe Springer and Helen Springer, husband and wife, resided in Baker, California. For the taxable year 1967 no individual Federal income tax return was filed by Petitioner Curtis Howe Springer (Dr. Springer), however, Petitioner Helen Springer electing253 to file as a married person filing separately, filed a Federal income tax return for that year on May 10, 1968 with the Internal Revenue Service, Los Angeles, California. Basic Food Products (Basic Foods) dates back some 50 years when Dr. Springer and his father, Walter A. Springer, first produced a health food product known as Antediluvian Herb Tea in Philadelphia, Pennsylvania. This product met with some success and was sold in several thousand stores across the United States. During this time Dr. Springer became involved in radio gospel ministry, broadcasting, lecturing and holding tent revival meetings. The products produced and sold by Dr. Springer through Basic Food Products were advertised while on the air and at the lecture and revival meetings. In the early 1940's Dr. Springer found a description of mineral springs in California and sometime in September 1944 Dr. Springer and Helen LeGerda, who had been associated with Dr. Springer for some years and was subsequently to become his wife, moved to a desert area near Baker, California in search of the mineral spring. They settled in the area known as Ft. Soto, California and attempted to perfect mineral claims to approximately254 800 acres in that area. Dr. Springer named the area "Zzyzx (prounounced Zi-zex) Mineral Springs." The property was then developed as a health resort including rehabilitation accommodations for alcoholism and the like. The minerals were used to produce the products sold under the name of Basic Food Products. In this location Dr. Springer also operates the "Dr. Curtis Howe Springer Foundation" which ostensibly operated the Zzyzx Mineral Springs. Before moving to Ft. Soto, the mixing and packaging of the 26 different products sold by Basic Foods, all of which were formulated by Dr. Springer, took place at his residence in Hollywood, California. However, on January 24, 1950, Dr. Springer conveyed to the then Helen LeGerda various assets as well as "all rights to the use of Basic Food Products, Dr. Curtis Howe Springer Foundation, and Zzyzx Mineral Springs as fictitious names" in return for some $5,500. On February 6, 1950, Dr. Springer and Helen LeGerda entered into a pre-nuptial agreement which provided, in essence, that any separate property brought into the marriage would remain separate and that any individual acquisitions made subsequent to the marriage would remain separate255 and not joint or community property. Petitioners were married in 1950 and the pre-nuptial agreement has continued to be honored. After the marriage the Basic Food Products business was managed by Mrs. Springer with the help of Dr. Springer who also continued with his radio broadcasting and evangelistic work. In addition, throughout the 1950's and 1960's Dr. Springer prepared and directed radio gospel programs with a theme song "He's Coming Soon." Tapes for the programs were initially made in Los Angeles, but in later years broadcasting equipment was installed at Zzyzx and program tapes were made there. Dr. Springer's programs had a general gospel theme along with music of a spiritual and religious nature; in addition, he advertized the products made and distributed by Basic Foods. Radio time was purchased by Basic Foods and Dr. Springer's programs were heard on religious radio stations across the country where listening audiences would be interested in his gospel message and the kinds of products made available by Basic Foods. Throughout the taxable year 1967 Dr. Springer cooperated with Mrs. Springer and jointly conducted the operation of Basic Food Products. Prior to256 1960 the Basic Food Products were sold and distributed by companies across the nation such as Katy Crown and Sun Drug Co. They were sold as Helen Springer Products under the Zzyzx label of Baker, California. Prices for the products which ranged from $3 to $15 were stated on the labels. Sometime in the 1950's the decision was made to discontinue sales and, instead, offer the Basic Food Products to Dr. Springer's listening audience on the Basic Foods network without a set price but instead in exchange for a contribution toward the work conducted at Zzyzx Mineral Springs. The size of contributions varied; persons in some areas of the county contributed more than others. Products were provided free to persons who did not send a contribution. Therefore, while a contribution in a particular amount was often suggested it would also be stated that no contribution was necessary. Product labels were changed to reflect the discontinuance of product prices; these new labels stated that "This product is never sold. It is given, as a token of love and appreciation, to those who contribute to our radio ministry." While some products may have been distributed as late as 1960 bearing old labels257 which reflected a product price, no such labels were in use during the taxable year 1967. Records were maintained by Dr. Springer on "Elucidator Publication" sheets, upon which he would record the receipts attributable to each radio broadcast; these sheets were kept in a brown looseleaf binder. The sheets contained a vertical column which listed each day of the month and horizontally across the top were the call letters of each radio station which carried petitioners' broadcasts. There was also a column for repeat business when no radio station was listed in the contribution letter. Receipts would then be allocated to the day of the week based on the letter's postmark and to the radio station based upon the area from which the contribution was sent in the absence of any identification of call letters in the contribution letter. This information was provided to Dr. Springer by Mrs. Springer and Mr. Cecil Banks, an employee of Basic Foods. Mail, often numbering in the hundreds each day, was opened by Mrs. Springer and Mr. Banks and the contributions were listed on the Elucidator sheets by date and radio stations determined by them to be responsible for the product order. This258 information was then conveyed to Dr. Springer who maintained the master Elucidator sheet showing the gross amount of contributions for each day of the month. Each day's mail was bundled with rubber bands; the date and the amount received were written on the outside, and the bundles were retained. The daily breakdown sheets were returned by Dr. Springer to Hlen Springer; however, they were not retained because the amounts had been entered on Dr. Springer's master sheets. This procedure was followed throughout the taxable year 1967. Dr. Springer used this information to decide whether his appeal was reaching people interested in Basic Food Products and to ascertain whether his relationship to any particular radio station should be canceled or retained. On her Federal income tax return for the taxable year 1967, Mrs. Springer reported gross receipts in the amount of $470,973.99 and total business expenses of $465,865.75. This return was prepared by Mr. Banks and the amount of gross receipts was compiled from the master Elucidator sheets maintained by Dr. Springer which showed the contribution receipts for the year. Gross receipts were also reflected on Mr. Bank's summary records259 for 1967; however, the summary showed business expenses of $468,865.75--the correct figure. The procedure was followed and tax returns were prepared by Mr. Banks for a number of years preceding the taxable year 1967, including the taxable years 1965 and 1966. Expense records for Basic Foods were also maintained by Mr. Banks and were used to prepare Mrs. Springer's Federal income tax returns including the taxable year 1967. For the taxable year 1965, Dr. Springer's Elucidator master sheet showed gross receipts of $256,783. This amount was also shown on the summary record of contributions maintained by Cecil Banks. The gross receipts and expenses reflected on Mr. Banks' summary were reported on Mrs. Springer's Federal income tax return for the taxable year 1965. For the taxable year 1966 Mr. Banks' summary indicated $342,122 and $340,947.75 for gross receipts and business expenses, respectively, and these amounts were reflected on Mrs. Springer's 1966 Federal income tax return. In late October 1968 under a search warrant, officials of the California Bureau of Food and Drug, State Department of Public Health, descended upon the Springer facilities at Zzyzx and took possession260 of some 30 boxes of business records of Basic Foods and personal records of petitioners, including the brown looseleaf binder in which Dr. Springer kept the Elucidator sheets containing his record of broadcast revenues reflecting the gross receipts of Basic Foods. Some of their records were later made available to Revenue Agent Grimes in the conduct of his audit of Mrs. Springer's tax returns. Although Dr. Springer undertook extensive efforts to regain possession, none of the records taken during the Bureau of Food and Drug search has been returned to petitioner by the State of California. However, records were made available to respondent's counsel, who subsequently returned some of the boxes of records to Dr. Springer. Among the records returned was the brown looseleaf notebook, however, only the Elucidator sheets for the last month of 1966 and most of 1968 remained; the records for 1967 were removed by unknown persons. In April 1973, after a continuing dispute with the Bureau of Land Management which began in 1961, petitioners were evicted by that agency and given some 30 hours to vacate the premises and remove the accumulation of records and possessions of some 30 years. 261 Petitioners packed and attempted to quickly move what amounted to over 200 tons of material, including records and the letters in which contributions were received. After extensive search subsequent to trial, petitioners found Dr. Springer's master Elucidator sheets for 1965 along with certain business summaries kept by Mr. Banks. In the spring of 1968, Revenue Agent Grimes made initial contact with petitioners after he received Mrs. Springer's delinquent return for the taxable year 1963. It was difficult for Agent Grimes to reconstruct the income because of poor records and because daily income records were destroyed. He was not shown the Elucidator sheets for the taxable year 1967 but was informed that the income records of Basic Foods were unavailable. Therefore, Agent Grimes undertook to reconstruct petitioners' income by an indirect method. Mr. Banks provided Agent Grimes with the list of prices which were charged for Basic Food Products according to container size in years prior to the decision to make the product available for contributions. He then reconstructed petitioners' income by determining the number of containers purchased in 1967, with additional records262 supplied by Banks and multiplied those containers by the old sales price of each. Adjustments were made for promotional kits containing more than one container and returned products and refunds. Gross receipts under this method were determined by respondent to be $881,522. An attempt to corroborate this figure was made by the use of three other reconstruction methods. A sales price per unit weight of each product sold was determined from the labels supplied by Mr. Banks; he then multiplied this unit sales price by the weight of various materials purchased by Mrs. Springer during 1967. This method produced a figure in excess of $900,000. Another method used was a mail sampling technique based on orders and cash receipts during June 1968. Under this method, respondent projected that gross receipts for 1967 exceeded $908,000. Finally, respondent calculated gross receipts in excess of $900,000 by dividing the 1967 parcel post expense shown on Mrs. Springer's 1967 tax return of $33,813.94 by the mail-zone postal rate for that year, thus deriving an estimate of total pounds shipped which was multiplied by the average price per pound of Basic Food Products shown on the old labels263 supplied by Mr. Banks. The Commissioner, in his statutory notice of deficiency, determined that Mrs. Springer's portion of the net profits from Basic Food Products was $211,728.24 in the taxable year 1967 and because she reported only $5,108.24 that her taxable income was understated by $206,620. The Commissioner determined that Dr. Springer realized taxable income from Basic Food Products in the amount of $211,328 for the taxable year 1967 and increased his taxable income for that year by that amount. OPINION The primary issue for our decision involves the amount of the net profits earned by Basic Food Products during the taxable year 1967. Respondent maintains that the correct figure is $412,656 while petitioners contend that the net profit for that year was only $2,108.24. The issue is entirely factual; the determination of the Commissioner is presumptively correct and the burden of proof is on petitioners. Welch v. Helvering,290 U.S. 111">290 U.S. 111 (1933); Rule 142(a), Tax Court Rules of Practice and Procedure.After carefully observing the demeanor of each witness at trial and a thorough consideration of all the circumstances of this case, we find in favor264 of petitioners. Initially, while we realize that the Commissioner's labor was necessarily inexact due to the absence of income records for the taxable year 1967, we are unable to accept the premise underlying his determination, i.e., that the products were distributed at a set price. All of the evidence and the uncontradicted testimony of petitioners is to the contrary. The labels used by Dr. and Mrs. Springer after 1960 clearly stated that the products were not sold but instead were supplied for a contribution to their radio ministry. Moreover, contributions varied in amount and in some cases the products were supplied without a contribution. The validity of each of the methods used by respondent to corroborate his determination except the mail sampling technique is dependent upon a constant price for the products and respondent used the prices found on the labels used prior to 1960. While contribution amounts were suggested by Dr. Springer on his radio programs during the taxable year 1967 the products were supplied for amounts which bore no correlation to the pre-1960 prices. The mail sampling technique is dependent upon a relatively constant flow of contributions which265 cannot be inferred from the record especially in view of the fluctuation in the amounts of contributions. Moreover, there is nothing to indicate that June 1968, the sampling month, was typical of any month in the taxable year 1967. At trial petitioners detailed the system of record-keeping, albeit informal, which they utilized in the operation of Basic Foods. A record of gross receipts was maintained by Dr. Springer to enable him to evaluate the response to each radio station. These records were also used by Mr. Banks to calculate gross receipts in preparation of Mrs. Springer's income tax returns because the daily Elucidator sheets were not kept. Most of petitioners' records were confiscated by the State of California in October 1968 and others were lost as a result of their eviction from Zzyzx by the Bureau of Land Management in 1973. However, some records have been introduced into evidence and they support petitioners' contention that the income earned by Basic Foods did not exceed $2,108.24 in 1967. The master Elucidator sheets for December 1966, January 1968 and all of those for 1965 were introduced into evidence and corroborated petitioners' explanation of the system266 of recordkeeping. Summary worksheets were prepared by Mr. Banks in the ordinary course of business for the taxable years 1965 and 1966 from Dr. Springer's master Elucidator sheets for those years and the figures shown on these summaries appear on Mrs. Springer's respective individual income tax returns for both years. Gross receipts figures shown on Mr. Banks' workpapers for the taxable year 1967, the year under consideration herein, reflect the same total gross receipts reported by Mrs. Springer on her individual income tax return. Respondent has relied upon the business expense records kept by Mr. Banks for 1967 and apparently gross receipts records for other years because the audit herein began with taxable year 1963. Although the Elucidator sheets for all of 1966 except December of that year are missing, respondent has not challenged the income reported in that year on the return prepared from Mr. Banks' summary sheets showing profit and loss. These records indicate that a consistent pattern was followed in preparation of Mrs. Springer's tax returns for several years. Moreover, they corroborate petitioners' testimony in this regard and lend substantial credibility to petitioners' 267 contention that the amount of gross income was properly reported. Respondent points out that petitioners could have shown Agent Grimes the Elucidator sheets for 1967 in the spring of 1968 as the return for the taxable year 1967 was being prepared and that because they did not it is reasonable to infer that the records would indicate a substantial increase in income over 1966. There is no evidence in the record to suggest why contributions increased dramatically in 1967 over prior years. There is evidence that petitioners cooperated with respondent and made records available throughout the audit of the taxable years 1963 through 1968 and we cannot, therefore, infer that a substantial increase in revenue occurred in 1967 because of the absence of the 1967 records. After weighing petitioners' testimony at trial and considering the peculiar circumstances of this case, including the confiscation of records which were made available to respondent by the State of California and the later eviction by the Bureau of Land Management we find that the income records for 1967 were not destroyed by petitioners. We find the weight of the evidence to be in petitioners' favor and, accordingly, 268 we hold that the net profits of Basic Food Products in the taxable year 1967 did not exceed $2,108.24. Even assuming that the transfer of all right to the use of Basic Food Products, Dr. Curtis Howe Springer Foundation, Elucidator Publications and Zzyzx Mineral Springs as fictitious names is sufficient under California law to render the business assets of Basic Foods the separate property of Mrs. Springer at the time of the transfer, from the record it is clear that the conduct of the business was a joint effort of the Springers and the profits of that operation constitute community property. In California separate property may be converted into community property by written or oral agreement and such an agreement may be inferred from the nature of the transaction and the surrounding circumstances. Long v. Long,199 P.2d 47">199 P.2d 47 (1948), 88 Cal. App. 2d 544">88 Cal. App. 2d 544. The evidence in the instant case clearly demonstrates that the business of Basic Food Products was jointly operated by Dr. and Mrs. Springer and that they agreed that the business was their company. Both worked hand-in-hand in the operation of the business. Dr. Springer's radio broadcasts advertised the products269 sold by Basic Foods. His record of the success of particular radio stations was designed to promote favorable contribution response and he also participated in the daily operation of the business, such as mixing products and ordering ingredients. With respect to community income, Federal tax liability follows ownership. United States v. Mitchell,403 U.S. 190">403 U.S. 190 (1971). Accordingly, we hold that each petitioner is liable for one-half of the net profits of Basic Foods for the taxable year 1967. Dr. Springer did not file a Federal income tax return for the taxable year 1967 and the Commissioner has asserted the penalty provided by section 6651(a). The addition to tax under this section is not applicable if "it is shown that such failure is due to reasonable cause and not due to willful neglect." The absence of willful neglect is not sufficient and petitioner has the burden of proving that his failure to file was due to reasonable cause. Electric & Neon, Inc. v. Commissioner,56 T.C. 1324">56 T.C. 1324, 1342 (1971), affd. per curiam 496 F.2d 876">496 F.2d 876 (5th Cir. 1974). Reasonable cause exists when the taxpayer establishes that he exercised ordinary business270 care and prudence. Sec. 301.6651-1(c)(1), Proced. & Admin. Regs. There is no evidence that Dr. Springer sought advice of counsel or took any other step which would constitue reasonable cause for his failure to file. Instead he merely relies upon his belief that the income earned by Basic Foods was that of his wife. However, petitioner's belief that he is not liable for tax is not sufficient to constitute reasonable cause for failure to file a tax return. See, e.g., Saigh v. Commissioner,36 T.C. 395">36 T.C. 395, 430 (1961); West Side Tennis Club v. Commissioner,39 B.T.A. 149">39 B.T.A. 149 (1939), affd. 111 F.2d 6">111 F.2d 6 (2d Cir. 1940). Accordingly, we hold that the penalty provided by section 6651(a) should be imposed on the deficiency as we have redetermined herein. The Commissioner also asserted the negligence penalty pursuant to section 6653(a) against both petitioners. Because we have found that Mrs. Springer did not underpay her tax, the imposition of the negligence penalty cannot be sustained. All of the income earned by Basic Foods was reported on Mrs. Springer's individual income tax return for the taxable year 1967 and the tax was paid. While271 Dr. Springer was mistaken in his belief that because of the pre-nuptial agreement all the income earned by Basic Foods belonged to his wife, we are unable to conclude that his resultant underpayment of tax was due to negligence or intentional disregard of rules and regulations. Conversely the evidence indicates that Dr. Springer's underpayment was a result of a misunderstanding of the law. This is not sufficient reason for an addition to tax for negligence. See Wofford v. Commissioner,5 T.C. 1152">5 T.C. 1152 (1945). Accordingly, we hold that Dr. Springer is not liable for the negligence penalty provided by section 6653(a). Decisions will be entered under Rule 155. Footnotes1. All section references are to the Internal Revenue Code of 1954, as amended.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623761/	West Pontiac, Inc., Petitioner, v. Commissioner of Internal Revenue, RespondentWest Pontiac, Inc. v. CommissionerDocket No. 54984United States Tax Court27 T.C. 749; 1957 U.S. Tax Ct. LEXIS 272; January 31, 1957, Filed 272 Decision will be entered for the respondent. Held, the amount representing the increase in an accrual basis automobile dealer's reserve account with a finance company from March 10, 1950, to December 31, 1950, pursuant to an agreement whereby the dealer discounted its deferred payment automobile contracts to the finance company, is taxable income to the dealer in 1950. Ronald L. Davis, Esq., and Maurice Glazer, C. P. A., for the petitioner.William H. Gray, Esq., for the respondent. Bruce, Judge. BRUCE 749 OPINION.Respondent determined deficiencies in petitioner's income tax for the years 1949 and 1950 as follows:YearDeficiency1949$ 1,654.6219504,404.06Petitioner concedes its liability for the full amount of the deficiency for the taxable year 1949. The sole issue is whether respondent correctly included in petitioner's income for the year 1950 an amount representing the increase in petitioner's dealer's reserve with a finance company from March 10, 1950, until December 31, 1950.All of the facts were stipulated and are so found and incorporated herein by this reference.Petitioner is a corporation organized and existing under the273 laws of the State of Louisiana, with its principal place of business in Monroe, Louisiana, and is engaged in the business of buying, selling, and servicing new and used cars. It keeps its books and prepares its income tax returns on a calendar year basis and on an accrual method of accounting. Petitioner filed its Federal income tax returns for the years 1949 and 1950 with the collector of internal revenue for the district of Louisiana.750 During the calendar year 1949 petitioner discounted its automobile paper with the General Motors Acceptance Corporation (hereinafter called G. M. A. C.) under a plan whereby G. M. A. C. placed in reserve for petitioner's account a specified percentage of the aggregate of all automobile paper so discounted. During said period such reserves were withdrawable by and subject to the order and control of petitioner.On December 31, 1949, the accrued balance in petitioner's reserve account with G. M. A. C. was $ 7,046.16. Petitioner concedes that such reserves as accrued during the year 1949 were taxable income for the year 1949 and therefore accepts its liability of $ 1,654.62 for the year 1949, as set forth in the notice of deficiency dated274 July 8, 1954.From January 1, 1950, to March 10, 1950, petitioner discounted automobile paper with G. M. A. C., in accordance with the plan mentioned above, and accumulated as a reserve during this period the sum of $ 1,700.84, computed as follows:Balance in reserve account, Dec. 31, 1949$ 7,046.16Balance in reserve account, Mar. 10, 19508,747.00Increase in reserve from Jan. 1 to Mar. 10, 1950$ 1,700.84Petitioner concedes that reserve retained by G. M. A. C. in the amount of $ 1,700.84 accrued during the year 1950 and is taxable income returnable for that year.On March 10, 1950, petitioner's previous arrangement with G. M. A. C. was changed, and on that date petitioner entered into a contract with G. M. A. C. designated as the Reserve Guaranty Plan, which contract was in full force and effect according to its terms and tenor from the date of execution and was not modified or changed during the years 1950 or 1951 and which provided as follows:Reserve Guaranty PlanIt is Agreed by and between GENERAL MOTORS ACCEPTANCE CORPORATION, hereinafter referred to as GMAC, and West Pontiac, Inc., hereinafter referred to as Dealer:With respect to outstanding retail contracts275 heretofore purchased by GMAC and such contracts as GMAC may hereafter purchase from Dealer, the terms and provisions of the GMAC Retail Plan governing the method of settling Dealer's responsibility for the unpaid balance under such retail contracts and governing the settlement of Dealer's reserve are hereby modified as follows:1. Dealer authorizes GMAC, upon Dealer's written request, to resell any repossessed car to which title has been cleared, for Dealer's account and at his cost and expense, at the best price deemed by GMAC in its judgment to be then obtainable in a private sale, and to apply the net proceeds of such resale to payment of the amount for which Dealer is responsible to GMAC, under its Retail Plan, in respect of the retail contract covering the repossessed car. GMAC shall remit to Dealer any surplus of such proceeds of resale. In 751 the event that the net proceeds of such resale, when applied to payment of Dealer's obligation, are insufficient to discharge Dealer's obligation, Dealer authorizes GMAC, and GMAC agrees, to charge the deficiency against the reserve fund standing on GMAC's books to the credit of Dealer, in payment of that portion of Dealer's obligation276 which exceeds the applied net proceeds of resale. It is expressly understood and agreed that if at any time such a deficiency is established Dealer's reserve fund is less than the amount of the deficiency, Dealer shall be released from said obligation to GMAC to the extent that the deficiency exceeds the amount of the reserve fund held by GMAC to Dealer's credit.2. Settlement of the reserve account held on GMAC's books for Dealer will be made annually on the 10th day of March, except as hereinafter specifically provided. During each period ending on the settlement date, GMAC will continue, on the same basis as heretofore, to credit Dealer's reserve account with the reserve accruing from retail contracts purchased from Dealer during such period, and to accumulate and hold such reserve credits in the account pending settlement.3. If on the annual settlement date, after crediting reserve accruals from retail contracts purchased from Dealer during the settlement period and the deduction of any charges pursuant to paragraph 1 herein during that period, the reserve fund held for Dealer's account exceeds a sum equal to 4% of the retail contracts outstanding, the surplus will be paid 277 to Dealer.4. GMAC reserves the right upon written notice to the dealer at any time to discontinue the annual settlement in the event or for the reason that it deems the dealer substantially to have discontinued submitting retail contracts to it, whether by virtue of liquidation of the dealer's business or for any other reason. In that event, the reserve account shall not be settled, with respect to retail contracts theretofore purchased from Dealer and then outstanding, until such retail contracts shall have been completely liquidated, at which time GMAC will pay to Dealer the balance, if any, then standing in the reserve account after deduction of any charges against same pursuant to paragraph 1 herein.5. This agreement shall continue until terminated upon written notice by either party to the other, effective on the subsequent annual settlement date.6. Upon notice duly given to Dealer that a retail contract submitted for purchase does not sufficiently conform to standard requirements so as to come within the scope of this agreement, GMAC may, at its option, purchase such contract which will not be subject to the provisions of this agreement. Retail contracts covering passenger278 cars of any model older than six years, and used trucks, are expressly excluded from the scope of this agreement.From March 10, 1950, until December 31, 1950, petitioner accumulated reserves amounting to $ 8,785, computed as follows:Balance in reserve account on Mar. 10, 1950$ 8,747Balance in reserve account on Dec. 31, 195017,532Increase in reserve during period from Mar. 10 to Dec. 31, 1950$ 8,785Petitioner's reserve account with G. M. A. C. was not reflected on the profit and loss statement attached to petitioner's corporation income tax return for 1950, but it was reflected on petitioner's balance sheet as one of the "surplus reserves" under "Liabilities." The balance sheet attached to petitioner's tax return for 1950 also contained an 752 item representing notes and accounts receivable less reserve for bad debts, in an amount not material herein.Respondent determined that the net increase in the reserve for contracts sold to G. M. A. C. constituted taxable income. Petitioner contends, however, that the $ 8,785 increase in the reserve account during the period March 10, 1950, to December 31, 1950, is not taxable income in 1950 because petitioner did279 not have the right to receive any part of the accumulated reserves until March 10, 1951.In its petition to this Court, petitioner stated the reason for its contention as follows:(c) In view of the fact that the basis of settlement each year between petitioner and General Motors Acceptance Corporation was contingent on the amount of outstanding accounts as of March 10th, it had no way of determining this source of income by December 31st of each year, nor was it entitled to any of it until the close of the contract year.The general rule with respect to the accruability of items of income was spelled out by the Supreme Court in Spring City Foundry Co. v. Commissioner, 292 U.S. 182">292 U.S. 182. In that case, petitioner, an accrual basis taxpayer, sold goods in 1920 for a specified amount which was represented by open account and unsecured notes. In December 1920, a petition in bankruptcy was filed against the purchaser and a receiver was appointed. In 1922 the receiver paid petitioner a dividend of 15 per cent and in 1923 a second and final dividend of 12 1/2 per cent. Petitioner claimed the entire amount of the debt as a deduction from its income tax for280 the year 1920, the Commissioner disallowed the claim, and the petitioner attacked the Commissioner's determination. On appeal to the Supreme Court, petitioner argued that the debt, to the extent that it was determined to be worthless in 1920, was not returnable as gross income at all. In rejecting this contention, the Supreme Court observed:Keeping accounts and making returns on the accrual basis, as distinguished from the cash basis, import that it is the right to receive and not the actual receipt that determines the inclusion of the amount in gross income. When the right to receive an amount becomes fixed, the right accrues. * The Supreme Court further pointed out that the contingency that amounts accrued as income may become uncollectible does not change the rule, for "[if] such accounts receivable become uncollectible, in whole or part, the question is one of the deduction which may be taken according to the applicable statute." It was thereupon held that the amount of the purchase price was properly accruable in 1920 but that the debt was not deductible until the amount determined to be uncollectible had been ascertained.This Court has consistently followed 281 Spring City Foundry Co. v. Commissioner, supra, in cases involving dealer's reserves and has held 753 that the amounts in the reserves represent accrued income to the dealer. See Shoemaker-Nash, Inc., 41 B. T. A. 417 (1940); Blaine Johnson, 25 T. C. 123, revd. (C. A. 4, 1956) 233 F. 2d 952; Albert M. Brodsky, 27 T. C. 216 (1956); Texas Trailercoach, Inc., 27 T. C. 575 (1956).The initial difficulty in applying the holding of the Spring City Foundry Co. case to this proceeding is that the stipulation of facts is incomplete. Nothing contained therein or in petitioner's tax returns discloses whether petitioner included gross sales in its profit and loss statement for the taxable year 1950 or whether petitioner reported sales reduced by the amounts credited to its dealer's reserve account. However, since petitioner concedes that the amount credited to the reserve account was taxable income until the reserve guaranty plan went into effect on March 10, 1950, and because neither party has raised282 the issue either in the pleadings or on brief, we assume that the sales figures reported by petitioner in its tax returns refer to net sales for the year. It therefore appears that during the period March 10, 1950, to December 31, 1950, a specified percentage of the amount of petitioner's retail sales was transferred from petitioner's books to a reserve account kept by G. M. A. C. and that the amounts reflected in the reserve account were never included in petitioner's sales figures for 1950. As these amounts were credited to its reserve account, however, petitioner's right to receive them became fixed because under the terms of the reserve guaranty plan the reserve was to be used for petitioner's benefit in three ways: (1) The reserve account was chargeable with obligations of petitioner which resulted from repossession losses; (2) if the reserve fund on the annual settlement date exceeded 4 per cent of the retail contracts outstanding, the surplus was to be paid to petitioner; (3) if G. M. A. C. discontinued the annual settlement, petitioner was entitled to receive the balance remaining in the reserve account less deductions for outstanding repossession losses. Petitioner earned283 the amounts contained in the reserve account as surely as if it had received cash for all of its sales. In fact, if petitioner had made no financing arrangement with G. M. A. C., it could have correctly reflected its income only by including in gross sales for the year all receipts from retail sales and would therefore have reported as income those very funds which it now seeks to immunize from taxation during the period involved. We fail to see why a different result should be reached where a finance company kept part of the receipts in a separate reserve account for petitioner's benefit. Cf. Texas Trailercoach, Inc., supra.Accordingly, we hold that the amount of $ 8,785 which represents the increase in petitioner's reserve account with G. M. A. C. during the period from March 10, 1950, to December 31 754 1950, is taxable income to petitioner in 1950. Spring City Foundry Co. v. Commissioner, supra.It is true that since repossession losses not recovered by G. M. A. C. upon resale of a repossessed automobile were chargeable against the reserve fund, the amount contained in the reserve account would284 be reduced by the amount of repossession losses charged against it. If repossession losses were heavy, it is conceivable that the reserve account would never exceed 4 per cent of the outstanding contracts. But this contingency did not affect petitioner's original right to receive the amounts accrued in the reserve. If the reserve account was reduced as a result of a repossession loss, the question would be that "of the deduction which may be taken according to the applicable statute," and not whether the reserve was returnable as gross income at all. Spring City Foundry Co. v. Commissioner, supra.Cf. Josef C. Patchen, 27 T. C. 593 (1956). Petitioner maintained a reserve for bad debts on its balance sheet, and was entitled to deduct a reasonable addition to such reserve in computing net income for the taxable year. Sec. 23 (k), I. R. C. 1939; Regs. 111, sec. 29.23 (k)-5. However, petitioner has made no claim that it is entitled to a deduction for repossession losses charged to its reserve account. Moreover, a reserve for contingencies not expressly provided for by statute may be deducted only in the year 285 when it represents fixed and definite liabilities which have been incurred. Brown v. Helvering, 291 U.S. 193">291 U.S. 193. In any event, as stated above, the question of deductibility of repossession losses has no bearing on the issue whether the amount of the reserve account is taxable income in the year of accrual.Petitioner relies strongly upon Johnson v. Commissioner, 233 F.2d 952">233 F. 2d 952, which held that the amount of a dealer's reserve on the books of a finance company was not taxable income to the dealer. There the Court of Appeals stressed the fact that the dealer's reserve involved was always less than the maximum prescribed in the agreement so that there was never any excess payable to the dealer. In the instant case there is no evidence as to the amount of retail contracts outstanding at the end of the taxable year, nor is there any proof of the amounts of repossession losses charged to the reserve, if any. It does not appear, therefore, that any repossession losses were charged against the reserve during the taxable period involved, and that the entire amount of the increase in the reserve account was not at all times286 in excess of 4 per cent of the retail contracts outstanding. Under these circumstances petitioner would be entitled to receive the $ 8,785 increase in cash which is clearly taxable income. Since petitioner has failed to prove that the entire amount of the reserve account increase was not in excess of 4 per cent of the outstanding contracts, Johnson v. Commissioner, supra, is not applicable.755 If we are mistaken in our conclusion that the instant case is distinguishable from Johnson v. Commissioner, we must nevertheless decline to follow it. In Texas Trailercoach, Inc. and Albert M. Brodsky, both supra, we had occasion to reexamine our decision in the Blaine Johnson case and declined to follow the reversal thereof by the Court of Appeals. For the reasons set forth in those cases and here, with due respect and deference to that court, we feel compelled to adhere to our previous decisions and decline to follow the decision of the Court of Appeals in Johnson v. Commissioner, supra.Decision will be entered for the respondent.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623762/	William H. and Martha C. Leonhart v. Commissioner.Leonhart v. CommissionerDocket No. 6743-65.United States Tax CourtT.C. Memo 1968-98; 1968 Tax Ct. Memo LEXIS 199; 27 T.C.M. (CCH) 443; T.C.M. (RIA) 68098; May 27, 1968. Filed Chapman H. Belew, Jr., for the petitioners. Charles F. T. Carroll, for the respondent. 444 KERN Memorandum Findings of Fact and Opinion KERN, Judge: Respondent determined deficiencies in petitioners' income tax and additions to tax in the following amounts for the following years: YearIncome tax deficiencyAdditions to tax Sec. 6653(a)1960$24,611.16$1,230.56196119,884.64994.23The hearing202 of this case occupied six days. Over 200 exhibits were introduced by the parties. A very large number of relatively small factual questions of a type usually settled by counsel before or during the trial of a case remain unresolved. Petitioner William H. Leonhart is the sole shareholder of Leonhart and Co., Inc., sometimes hereinafter referred to as Leonhart, Inc., which was in the years in question a qualifying small business corporation under Subchapter S of the Internal Revenue Code of 1954. The deficiencies in petitioners' tax relate both to adjustments made with respect to income of Leonhart, Inc., attributable to these petitioners and to disallowed deductions claimed on account of expenditures made by petitioners in their individual capacties. Concessions have been made by both sides. The many issues remaining for our determination may be stated or classified as follows: 1. Whether the statute of limitations precludes the respondent from adjusting petitioners' income in 1960 and 1961 by reason of adjustments in the income of Leonhart, Inc., in those years. 2. Whether petitioners are entitled to certain charitable deductions for the years 1960 and 1961 in addition to those203 allowed by the Commissioner. 3. Whether Leonhart, Inc.'s change in its method of accounting with respect to its reporting of certain commission income from the American Fire and Casualty Company in 1960 and continuing in 1961 without the consent of the Commissioner requires its income to be recomputed under its prior method of accounting for this item for 1960 and 1961. 4. Whether Leonhart, Inc., is entitled to deductions in addition to those allowed by the Commissioner for amounts paid to Harold's sons Bill and Jay in 1960 and 1961 as salary and for employment taxes paid by it with respect thereto. 5. Whether Leonhart, Inc., is entitled to deduct in 1960 as part of its advertising expenses payments incident to publishing the biography of the founder of the Civitan Club International. 6. Whether Leonhart, Inc., is entitled to deduct any amounts for depreciation and expenses relating to the "Leonhart Music Club" for 1960 and 1961. 7. Whether Leonhart, Inc., is entitled to deductions claimed for automobile expense and depreciation in 1960 and 1961 in addition to those allowed by the Commissioner, and for the loss on a sale of an automobile. 8. Whether Leonhart, Inc., is entitled204 to a deduction for legal expenses paid in 1961 in addition to that allowed by the Commissioner. 9. Whether petitioners or Leonhart, Inc., are entitled to deductions for various items claimed to be travel and entertainment expenses for 1960 and 1961 in addition to those allowed by the Commissioner. 10. Whether certain alleged deductions are claimed for the first time on brief and are therefore not to be allowed in this proceeding. 11. Whether Leonhart, Inc., may properly deduct as a business expense a part of the cost of maintaining petitioners' summer house in 1960. 12. Whether petitioners are subject to additions to tax in 1960 and 1961 under section 6653(a), I.R.C. 1954. General Findings of Fact Some of the facts have been stipulated, and they, together with attached exhibits, are found to be as stipulated. Petitioners, husband and wife, are residents of Baltimore, Maryland. For the taxable years 1960 and 1961 they timely filed joint income tax returns with the district director of internal revenue at Baltimore, in which they reported for 1960 adjusted gross income in the amount of $58,903.05 and taxable income in the amount of $40,870.95 and205 for 1961 adjusted gross income in the amount of $67,893.38 and taxable income in the amount of $49,175.95. The notice of deficiency sent to petitioners under date of August 27, 1965, stated deficiencies based upon respondent's determination that petitioners' corrected taxable income for 1960 was $80,190.30 and for 1961 was $81,191.31, resulting from the following adjustments: 445 19601961Taxable income as disclosed by return$40,870.95$49,175.95Unallowable deductions and additional income:(a) Subchapter S Corporation income understated38,506.2632,212.22(b) Contributions419.60265.00(c) Exemption600.00Total$80,396.21$81,653.17Nontaxable income and additional deductions Dividends205.91202.26Casualty loss259.60Corrected taxable income$80,190.30$81,191.31Petitioner William H. Leonhart, sometimes hereinafter referred to as Harold, is and was during the period in question the sole shareholder of Leonhart, Inc. On January 30, 1960, Leonhart, Inc., elected to be taxed as a small business corporation under section 1372 of the Internal Revenue Code of 1954, which election remained effective206 for 1960 and 1961. In those years Leonhart, Inc., filed timely tax returns required of electing small business corporations. While Leonhart, Inc., had a board of directors and officers (such as Vice Presidents, 1 Treasurer and Secretary), Harold had not only the ultimate control over it by reason of his ownership of all of its stock but also complete operational control over all phases of its business. Leonhart, Inc., was incorporated under the laws of Maryland in 1953. During 1960 and 1961 the primary business of Leonhart, Inc., was that of reinsurance brokerage. Reinsurance is, broadly speaking, a method by which an insurance company can reduce its potential liability on an insurance policy or group of policies it has issued by itself contracting with a reinsurance company so that207 the latter assumes a portion of the risk initially assumed by the former. Leonhart, Inc., filed its federal income tax returns for its calendar years 1960 and 1961 and kept its books on a cash basis with the exception of one item of income hereinafter described in some detail. Two basic types of reinsurance contracts, sometimes known as treaties, are "excess of loss" and "quota share" contracts. On an "excess of loss" contract the reinsured assumes all the risk up to a certain amount and the reinsurer agrees to assume all liability in excess of that figure. Under a "quota share" contract the reinsurer assumes a percentage of the risk from "the ground up." The role of Leonhart, Inc., as a reinsurance broker was to bring together insurance companies desiring reinsurance (buyers) and reinsurance companies (sellers) who would be willing to assume a part of the risk of the primary insurer in return for the payment to them of a part of the premiums paid by the insured to the primary insurer. Leonhart, Inc., placed a large proportion of its business with syndicates of insurance underwriters associated with Lloyd's of London although it dealt also with American and other European reinsurers. 208 Leonhart, Inc., placed reinsurance with them through any one of four or five brokers authorized "to go on the floor at Lloyd's and place business." At various times Leonhart, Inc., has dealt with reinsurance companies located in the United States, England, Germany, France, Belgium, the Netherlands, Italy, the Scandinavian countries and Switzerland. Generally, American reinsurance companies require the reinsured to remit the reinsurance premiums directly to them, out of which the broker is paid, whereas European reinsurance companies rely on the broker to collect the reinsurance premiums and, after deducting the commission due, to pay the premiums over to them. The commissions Leonhart, Inc., receives run about 2 or 2 1/2% of the premiums paid by the reinsured on a "quota share" contract and from 5 to 10% on an "excess of loss" contract since the premiums payable to the reinsurer under the latter would be a lower percentage of the premiums paid to the primary insurer than those under a "quota share" contract. Leonhart, Inc., reported commission income for 1960 of $186,442.93 and for 1961 of $210,990.95, derived from 446 reinsurance contracts obtained by it for domestic insurers209 located in many parts of the United States. Leonhart, Inc., ranks about tenth in volume of reinsurance placed by the approximately 100 reinsurance intermediaries in this country. Harold, in addition to being the sole shareholder of Leonhart, Inc., was also the sole shareholder of Leonhart and Company of Maryland, hereinafter sometimes referred to as Leonhart of Maryland, which was incorporated under the laws of that state in 1951. Leonhart of Maryland was formed in order to conduct the insurance brokerage business formerly handled by Leonhart, Inc., which from that time dealt almost exclusively in reinsurance brokerage. Southern Underwriters, Inc., hereinafter sometimes referred to as Southern Underwriters, was a corporation organized around 1941. In 1960 and for some years prior thereto its stock was owned in equal proportions by Walter Hayes, the president of American Fire and Casualty Co., George Bradshaw, the executive vice-president of that company, and by Harold. Its putative purpose was to act as an intermediary for American Fire and Casualty Co. in procuring reinsurance. It also serviced such reinsurance contracts. Southern Underwriters procured such reinsurance through210 Leonhart, Inc. For several years prior to 1960 the profits of Southern Underwriters were distributed as "management fees" to the wives of its stockholders. In 1960 and 1961 Southern Underwriters reported gross income in the respective amounts of $37,265.04 and $63,611.73. During 1961 Hayes and Bradshaw disposed of their stock in Southern Underwriters and Harold increased the amount of its stock owned by him to 70%. Of the remaining 30% of its stock, 10% was acquired by Margaret Sands, the Secretary of Leonhart, Inc., and 20% by a man named Dig. Southern Underwriters and Leonhart, Inc., acted in close cooperation with regard to the procurement and servicing of reinsurance contracts for American Fire and Casualty Co., and each of them was financially interested in obtaining and retaining this business relationship. The brokerage fees received by Leonhart, Inc., on the reinsurance contracts thus procured for American Fire and Casualty Co. constituted an important source of its income. Harold is prominent in the reinsurance field internationally and has taken an active part in civic affairs on the local and national levels. In addition to Harold and Martha the Leonhart family included211 the following children who had attained the following ages as of January, 1960: Valerie9Marybelle12Jeanne15John15Jay19Bill21Petitioners employed the services of a certified public accountant from 1953 through the years in question to aid in the accounting work of the various corporations in which Harold had an interest and to aid in the preparation of the tax returns of Harold and Martha as well as those of the corporations. The financial records of Harold and Leonhart, Inc., for 1960 and 1961 were for the most part kept in detail. An agent of the Commissioner testified that the primary books of entry of Leonhart, Inc., "were of an adequate nature." Aside from the issue relating to an alleged change in method of accounting, the great majority of the items contested relate to deductions claimed by the petitioners herein or by Leonhart, Inc., on account of expenditures which for the most part are conceded by respondent to have been made but which have not been allowed by him on the ground that petitioners have not shown them to be allowable under any provision of the Internal Revenue Code. Additional Findings of Fact Relating to Issue 2 212 In petitioners' income tax return for 1960 deductions on account of charitable contributions were claimed in the total amount of $3,819.92 of which respondent disallowed $419. In their return for 1961 petitioners claimed deductions on account of charitable contributions in the total amount of $4,746.36, of which respondent disallowed $265. As to those items claimed as charitable deductions on the returns for the taxable years concessions have been made by both respondent and petitioners as a result of which there remain at issue only the deductions claimed on account of payments made by petitioners in 1960 to "Hibernian Society" and to "Reverend Elbert Gay" in the respective amounts of $5 and $50. 447 The Hibernian Society is an organization qualifying under section 170, I.R.C. 1954. The record herein does not disclose the identity of "Reverend Elbert Gay" or the purpose for which petitioners made the payment to him. A number of items which were not claimed as charitable deductions on petitioners' returns were alleged to be deductible as charitable contributions in petitioners' amended petition. Concessions have been made by both parties with regard213 to these items but there remain at issue the following: cash contributions alleged to have been made by petitioners to their church in 1960 and 1961 in the estimated amounts of $520 each year, a payment of $50 made by petitioners in 1961 to "St. Mary's Building Fund," and a payment of $25 made by petitioners in 1961 to "The Evergreen Annual." Petitioners' alleged cash contributions to their church and their payment of $50 in 1961 to "St. Mary's Building Fund" will be considered infra, in those parts of our findings and of our opinion set forth under "Issue 10." Although the check evidencing petitioners' payment to The Evergreen Annual bore the notation "contribution" it was characterized by Harold in his oral testimony as being for a business advertisement related to Leonhart, Inc., placed by him in a Loyola College (Maryland) yearbook and we so find. Its deductibility as a business expense is considered infra, in those parts of our findings and of our opinion set forth under "Issue 9." Additional Findings of Fact Relating to Issue 3 In the "Explanation of Adjustments" attached to the notice of deficiency, respondent stated: 1. It is determined that gross income was understated214 for the years 1960 and 1961, in the respective amounts of $14,929.08 and $15,596.15, caused by a change in your method of accounting from that previously used by you to compute your income. Since you failed to secure the prior consent of the Commissioner of Internal Revenue Service to change your method of accounting, your gross income has been computed under that method regularly used by you. Section 446 of the Internal Revenue Code. In all relevant years petitioners Harold and Martha reported income on their individual income tax return on a cash basis and Leonhart, Inc., reported its income on a cash basis except with regard to its income received as commissions on reinsurance policies written for American Fire and Casualty Co., which were reported on an accrual basis until 1960. American Fire and Casualty Co., a primary insurer, acting through Southern Underwriters, Inc., purchased practically all of its reinsurance from syndicates of underwriting members of Lloyd's of London through Leonhart, Inc., as broker. Among the types of reinsurance procured for American Fire and Casualty Co. (hereinafter sometimes referred to as "American Fire") by Leonhart were215 inland marine, aviation, fire and allied lines, and workman's compensation treaties. Each reinsurance premium was paid by American Fire to Southern Underwriters, which would, after deducting the commission due Leonhart, Inc., forward the balance of the premium to Lloyd's underwriters. Southern Underwriters did not itself charge any commission in connection with the reinsurance contract involved in this issue. The amount of reinsurance premiums due from a primary insurer to a reinsurer under a reinsurance contract is calculated on the basis of the insurance premiums received by the primary insurer. The timing of the payment of the reinsurance premium is normally determined in one of two ways. On the so-called "written premium basis" the reinsurance premium is calculated and payable on the basis of the amount of primary insurance issued, or "written," during a given period. It was on this basis that the reinsurance premium payable under Contract No. 4112, a reinsurance contract between American Fire and the Lloyd's underwriters in fire and allied lines, was calculated and remitted (through Southern Underwriters) by American Fire to the Lloyd's underwriters from the inception of the216 contract in 1956 until 1960. Under this method American Fire submitted monthly reports to Southern Underwriters which in turn transmitted them to the reinsurer reflecting the amount of primary insurance issued or "written" by American Fire during the month covered by the report and a calculation of the reinsurance premium due from American Fire relating to that primary insurance. It was the practice of the Lloyd's underwriters to send confirmation of the figures contained in the monthly reports submitted by American Fire to Southern Underwriters for transmittal to 448 American Fire. After confirmation was received by American Fire, it would be billed by Lloyd's underwriters. Although American Fire could and sometimes did remit the amount payable at an earlier time, it was not required to do so under the terms of Contract No. 4112 until after submitting a quarterly statement of account to the Lloyd's underwriters. The portion of Contract No. 4112 relating to these requirements follows: ARTICLE XIII The COMPANY [American Fire] agrees to submit through Messrs. Leonhart & Co., Inc., to Messrs. Joseph Hadley (Insurance) Limited, King William Street House, Arthur Street, London, 217 E.C. 4. for transmission to the REINSURERS a monthly statement of written premiums subdivided by class of risk together with bordereaux of paid and outstanding losses subdivided by class of risk and cause of loss. In addition, the COMPANY shall also forward as soon as possible and not later than forty five (45) days after the close of each calendar quarter a statement of account on which the REINSURERS shall be credited with: - (a) The Gross Written Premiums less Return Premiums and Cancellations entered during the quarter in question. (b) The amount of the Reserve Fund retained during the corresponding quarter of the previous year. (c) The amount of outstanding losses and loss adjustment expenses as of the end of the preceding quarter. and shall be debited with: - (d) Forty three and three quarters per cent (43 3/4%) ceding commission on the Gross Written Premiums less Returns and Cancellations entered during the quarter in question. (e) Fifty per cent (50%) of the Net Written Premiums (as defined in Article XI hereof) entered during the quarter in question for the Reserve Fund: (f) The amount of losses and loss adjustment expenses less recoveries paid during the quarter218 in question (exclusive, however, of any losses paid by special remittance as provided for in Article XII hereof). (g) The amount of outstanding losses and loss expenses outstanding as of the end of the quarter in question. The resultant balance due to the creditor party by the debtor party shall become payable not later than ninety (90) days after the close of the quarter in question. All transactions hereunder shall be payable in United States dollars. The usual term of a reinsurance treaty is one year. On December 20, 1960, American Fire instructed Harold to amend reinsurance Contract No. 4112 from a "written premium basis" to an "earned premium basis" effective at midnight December 31, 1960. The "earned premium basis," as described by one of petitioners' witnesses, is as follows: On the earned premium basis, the unearned premium takes the same status as the inventory of a merchandising concern. We take the unearned premium at the beginning of the year, and to that we add the premiums written, and then subtract the unearned premiums at the end of the year, and that gives you the earned [premium.] On December 28, 1960, Harold wrote one of his London brokers, Ronald Hadley, 219 requesting the change, stating that although he regretted the necessity for the change because it required refund of brokerage by Leonhart, Inc., the "written premium basis" of reporting was causing problems in the statistical department of American Fire. The first paragraph of this letter read as follows: I enclose herewith letter from George S. Bradshaw which is self-explanatory and it occurs to me that Underwriters might prefer to make the amendment effective 12:01 a.m. January 1, 1961, rather than December 31, 1960, at midnight, however, if it is at all possible, the reassured would appreciate the amendment as requested. On January 11, 1961, Harold's London broker cabled that the reinsurers had agreed to the change from the "written" to the "earned premium basis" and Harold wired this information to American Fire that same date. The treaty was amended on January 23, 1961, to be effective 12:01 A.M. on January 1, 1961. The pertinent parts of this amendment are as follows: Notwithstanding anything which may be contained herein to the contrary, it is understood and agreed that effective 12:01 a.m. 1st January, 1961 and with respect to all in force business at this time together220 with new and renewals thereafter, accounting for premiums hereunder shall be on an "earned" basis. In consequence of this amendment, Reinsurers agree to return to the Reassured the unearned premium on in force business at 12:01 a.m. 1st January, 1961 against the release of all premium reserve amounts held by the Reassured. 449 As a result of this amendment to the contract the Lloyd's underwriters were required to refund to American Fire an amount determined to have represented reinsurance premiums paid to them in excess of the amount which would have ben payable to the reinsurer by the primary insurer, American Fire, had the reinsurance premiums been calculated on the "earned premium basis." The refund was made by the Lloyd's underwriters to American Fire through Southern Underwriters, which refunded the premiums originally paid by American Fire not diminished by the broker's commission originally withheld. The premiums paid by American Fire to Southern Underwriters in 1960 under Contract No. 4112 which were required to be refunded as a result of the change to an "earned method" amounted to $252,276.27. Of this amount $13,411.81 had been withheld by Southern Underwriters and221 remitted to Leonhart, Inc., as brokerage commission, and the balance of $238,864.46 had been paid to the Lloyd's underwriters in 1960. After the change the reinsurers refunded the $238,864.46, adjusted for reasons not relevant herein, to Southern Underwriters in two payments made on May 8, 1961 and May 26, 1961. Southern Underwriters refunded to American Fire the gross premiums of $252,276.27, adjusted for the same reasons, in three payments made on May 5, 1961, May 26, 1961, and July 20, 1961, which refund included in its third payment the commission relating to the premiums originally received by Leonhart, Inc. The commission received by Leonhart, Inc., in 1960 in the amount of $13,411.81, was refunded to Southern Underwriters by a check drawn by Leonhart, Inc., to it dated July 19, 1961. In 1959 Leonhart, Inc., which was on a cash basis of accounting for income tax purposes for all items except commissions received under all American Fire contracts, including Contract No. 4112, reported the income received under this contract on an accrual basis. Under this method when American Fire forwarded monthly reports to Lloyd's underwriters through Leonhart, Inc., showing premiums written222 during that period, Leonhart, Inc., would calculate the commissions due thereon and take them into income. Leonhart, Inc., had reported its American Fire commission income in this manner since 1955. For 1960 Leonhart, Inc., began reporting all commission income from American Fire on a cash basis. For November and December of 1960 Leonhart, Inc., had accrued $14,929.08 of commissions from American Fire which were not received in 1960 and thus not reported as income in its return for that year under Leonhart, Inc.'s new cash method of accounting with respect to that item. Under Leonhart, Inc.'s prior accrual method this amount would have been reported as income in 1960. This amount was taken into income by Leonhart, Inc., in 1961. In 1961 Leonhart, Inc.'s change in its method of accounting resulted in a deferral to a later period of $14,264.93 accrued in the third quarter and $16,260.30 accrued in the fourth quarter of that year but not received. Under Leonhart, Inc.'s old method of accounting these amounts, totalling $30,525.23, would have been taken into income in 1961, reduced by the $14,929.08 which was deferred from 1960 to 1961 under the new system. In order to reflect the223 above-mentioned refund made by Leonhart, Inc., to American Fire relating to Contract No. 4112 Leonhart, Inc., deducted $5,000 in 1960 and the balance of $8,411.81 in 1961. Leonhart, Inc., did not seek the permission of the Commissioner in effecting the change in the method of reporting income from American Fire commissions. Ultimate Finding of Fact Relating to Issue 3 Leonhart, Inc.'s change in method of accounting amounted to a change in the treatment of a material item within the meaning of section 446(e), I.R.C. 1954. Additional Findings of Fact Relating to Issue 4 Leonhart and Co., Inc., claimed the following amounts as deductions for salaries paid to Harold's sons William (hereafter referred to as Bill) and Jay and for employment taxes paid by it thereon: 19601961SalaryTaxSalaryTaxBill$1,700$81.60$2,500$125.00Jay$ 400$19.20$2,300$115.00The respondent disallowed all of the claimed deductions save $1,000 paid to Bill for work done by him in the first five months of 1960 and the employment tax relating thereto. The parties agree that payments were made in the full amount claimed224 by Leonhart, Inc., and that employment taxes with respect thereto were paid in the amount of 4.8% of the disallowed salaries in 1960 and 5% in 1961. 450 In January of 1960 Jay was 19 years old and a student at Loyola College in Baltimore. In the summer of that year he enrolled in the Berkeley School of Music in Boston, Massachusetts, where he remained as a full-time student until the summer of 1961. In November of 1960 Harold wrote to Jay and suggested that if Jay were to qualify himself to act as a countersigning agent on certain insurance policies in Massachusetts he could earn about $2,000 per year. Following this communication Leonhart, Inc., began paying Jay $200 per month. In order to qualify as a countersigning agent it was necessary for Jay to pass a Massachusetts insurance examination. Jay did not take the examination and therefore did no countersigning. On December 6, 1960, Harold flew to Boston to take part in an undisclosed number of conferences during that week with respect to a reinsurance account of Leonhart, Inc. Jay attended one or two of these meetings. The record does not disclose the capacity in which Jay attended these meetings or what, if any, his contributions225 to them were aside from Harold's testimony to the effect "Mr. Obrecht [a representative of a client of Leonhart, Inc.] was quite a devotee of old jazz records and he and Jay got along quite well on that [subject.]" In the summer of 1961 Jay played with a professional orchestra and did not return to Baltimore. In the fall of 1961 Jay enrolled at the Toronto School of Contemporary Music in Toronto, Canada, where he remained until the end of the year. Bill Leonhart was 21 years old in 1960. In the previous year Bill had taken a course in insurance at the American Fire and Casualty Co. in Orlando, Florida. In January of 1960 Bill began working full time for Leonhart, Inc., in Baltimore at a monthly salary of $200. The primary purpose of this employment was to familiarize him with the operations of Leonhart, Inc. This employment continued through May of 1960. In June Bill left Baltimore on a pleasure trip to Europe. His salary for the 5 months of January through May was allowed by respondent as a salary deduction to Leonhart, Inc. In the fall of 1960 Bill enrolled at American University in Washington, D.C., where his principal field of study was classical guitar. Bill had previously226 attended the Institute of Languages and Linguistics of Georgetown University in Washington, D.C., from the fall of 1958 until the fall of 1959. While Bill was studying music at American University Harold wrote him a letter dated September 23, 1960, parts of which follow: Dear Bill,… 2. A Research Program in Reinsurance is essential to me and will involve: A. Translating the German Dictionary, if it has not already been translated. (You can ascertain whether it has been done and whether the English translation is available.) B. Studying Facultative Reinsurance with Otis Clark in San Francisco. C. Sitting in Lloyd's Box in London both Underwriting and Claims for at least three months. D. Working with Domestic Reinsurance companies, such as Christiania General, and Reinsurance Brokers, such as, Reinsurance Agency, Inc., in Chicago, and Booth, Potter and Seal, in Philadelphia, or NERCO in Boston. E. Finally, writing a book on the subject and establishing offices for LCO in various countries. 3. I am beginning to build up the Reinsurance and General Agency business for the American Fidelity and Casualty Company and the American Fidelity Fire Insurance Company of which227 T. Coleman Andrews is President, which will necessitate my working with Reinsurance Brokers, Reinsurance Companies, and General Agents throughout the country and perhaps in other countries. Therefore, it will be very necessary that we establish immediately a Research and Development Activity which will establish LCO permanently and importantly in the Reinsurance business world-wide. 4. I am going to Los Angeles today and San Francisco Monday, returning Tuesday night, and talk to Otis Clark about the company and perhaps to send Harry Gibbs's son, Holden, to San Francisco to begin his study of Reinsurance. Holden is 28 years old and has just come out of the army and has a B.S. in Business Administration. After I return I would like for you to meet him. 5. There could also be a place for Dick Lurito in this activity and if he is interested, I will try to arrange a salary to both of you during the Study and Research period, of $200.00 per month, less Withholding Taxes and Social Security. Incidentally, I paid the note at the Union Trust which is enclosed 451 herewith. I didn't want a personal loan for such a small amount to be outstanding with the name Leonhart on it because228 it would become common knowledge amongst all of the bank officials. McEachern should not have endorsed it but, of course, as with borrowing his car, he wouldn't say no to you, and for that reason I would appreciate your not making any requests of anyone in the organization or anyone that I know for assistance of that type or financial assistance - you can ask me. What I have proposed is most essential and will enable both you and Dick to embrace your past education and training with respect to Economics and Languages and need not necessarily interfere with the continuation of the studies in related fields. The "Dick" referred to in this letter was Richard Lurito, who was attending American University as a student in the fall of 1960 and was rooming with Bill. He was paid by Leonhart, Inc., $200 per month during the fall of 1960 and the first part of 1961 to gather information relating to the feasibility of an American reinsurance company entering the Latin American market and to the laws of certain South American countries applying to the potential conduct of such a business by an American company. Richard, who had a background in languages, drew up a questionnaire in Spanish which229 was sent to several Latin American governmental officials. The record in this case does not contain evidence of any responses to this questionnaire. The only specimens in the record of work completed by Bill are a barely legible handwritten copy of the translation into English of a book in French on reinsurance, and a translation of approximately 50 German words, many of which related to the insurance business. There is no evidence that the translations were ever utilized by Leonhart, Inc., for any purpose. Payments of "salary" to Bill were made by Leonhart, Inc., during 1960 and 1961 as follows: 19601961DateCheck #AmountDateCheck #Amount1/122006$ 100.001/14U1264$ 100.001/272047100.001/30U1280100.002/112091100.002/15U1291100.002/252109100.002/28U1305100.003/112172100.003/15U1319100.003/262249100.003/31U1335100.004/92274100.004/15U1353100.004/262338100.004/28U1386100.005/122398100.005/12U1408100.005/252440100.005/24U1423100.009/23U1137100.006/15U1462100.0010/15U1163100.006/30U1475100.0010/25U1184100.007/14U1496100.0011/15U1199100.007/31U1508100.0011/30U1218100.008/15U1516100.0012/15U1233100.008/31U1529100.0012/30U1260100.009/15U1540100.00$1,700.009/22U1547100.0010/17U1584100.0010/30U1590100.0011/13U1615100.0011/27U1637100.0012/11U1648100.0012/26U1659100.00$2,500.00230 In connection with the work to be done by Bill for which these "salary" payments were made, Bill wrote the following letter to Harold: Dear Dad: Since I am not merely translating this book as a personal favor to you or for my own edification but as part of a project, for which you are responsible to the Internal Revenue, I would like to suggest a probable course of action. I would prefer to work on the transaction and present it to you as a component of Dick's work, not merely as an interesting book. That is, I would rather have you cease payment and consider, when the job is done, whether or not you still cherish the whole idea or not. If you do, then you could arrange adequate compensation for it. In the meantime I keep my own record of hours spent on the work. My knowledge of your situation with the Internal Revenue is very limited, nor do I know whether I have conveyed my suggestion properly in terms of a feasible solution to the present situation. If not, I will confer with you anytime which is convenient for you. Bill Both Bill and Jay held membership cards in a musicians' union in the years in question. They occasionally played their musical instruments before customers231 of Leonhart, Inc., in 1960 and 1961 at the request of their father. In 1960 and 1961 neither Bill nor Jay had made a career choice, but both were considering becoming professional musicians. Harold was interested in having both enter the reinsurance business. In 1964 both decided to do so and have been with Leonhart, Inc., since that time. Ultimate Finding of Fact Relating to Issue 4 Petitioners have failed to establish that any amounts in addition to those allowed 452 by respondent designated as "salary" of Bill or Jay were ordinary and necessary business expenses of Leonhart, Inc., or that Leonhart, Inc., had an actual or apparent liability for the employment taxes paid relating to the contested salary payments. Additional Findings of Fact Relating to Issue 5 In 1960 petitioners claimed $18,587.57 as deductions on account of advertising expenses of Leonhart, Inc. Of this amount the respondent disallowed $708.05 representing expenses incurred by Leonhart, Inc., related to the publication of a biography of Dr. Courtney W. Shropshire. This book, entitled The Fabulous Octogenarian, was written by Harold's brother, James C. Leonhart. Dr. Shropshire, or "Dr. Shrop" as232 he is referred to in the book, was the founder of the Civitan Club International, a service organization of which Harold was a member. James Leonhart had been an English teacher but retired in order to complete the book. Harold was a close friend of "Dr. Shrop" and had worked with him when Harold was the director of the Red Cross blood program in Baltimore. No mention is made of Harold's business in that part of the book introduced into evidence herein as petitioners' Exhibit 170 with the exception of one reference to transactions of Harold with Lloyd's of London. Harold is mentioned frequently in Exhibit 170 but the name of Leonhart, Inc., appears only once, in the reproduction of the letterhead of a letter from Harold to "Dr. Shrop." No evidence was adduced as to the nature or extent of the distribution of the book except Harold's statement that "it was distributed throughout the country." Ultimate Findings of Fact Relating to Issue 5 Petitioners have not shown that the expenses relating to the Shropshire biography were deductible business expenses of Leonhart, Inc. Additional Findings of Fact Relating to Issue 6 Leonhart, Inc., claimed deductions of expenses and depreciation233 on equipment in connection with the "Leonhart Music Club" in the following amounts, all of which were disallowed: YearExpensesDepreciation1960$ 1.82$760.891961$755.42$901.44From 1953 until the years in question Leonhart, Inc., carried on its books an asset account designated "Music Club Equipment." By the end of 1961 the total cost of the equipment assigned to this account was $10,350.71. Among the items carried on this account up through 1960 were 2 pianos, an electric player piano, 2 ukeleles, a variety of banjos and guitars, a recording instrument, a record player and a radio. In 1961 there was added equipment in the amount of $2,672.95, including among other things two flutes, a base [bass] fiddle, two guitars and a bass. Items in this account were depreciated on a straight-line basis, all items being assigned a useful life of ten years. Of the claimed deduction for "Music Club" expenses in 1961 petitioners have conceded that an item of $268.50, representing the expense of music lessons for Jeanne, Valerie, and John are not deductible. Harold's entire family was interested in music and all eight members played instruments. Bill and Jay234 were professional musicians in 1960 and 1961 and were members of a musicians' union. They both were considering music as a career at that time. Bill received $12 to $14 per hour for performing as a professional musician at various functions in 1960 and 1961. Jay played with a professional orchestra during the summer of 1961. The only evidence of any income of Leonhart, Inc., attributable to the Music Club is a bank deposit slip in the amount of $100 dated September 14, 1961, stating "RECEIVED FROM WILLIAM H. LEONHART, II, CREDIT TO L CO * * MUSIC CLUB ACCOUNT INCOME - PERFORMANCE FEE." Bill and Jay occasionally played musical instruments for the purported entertainment of customers of Leonhart, Inc. Ultimate Findings of Fact Relating to Issue 6 Petitioners have failed to prove that the expenses and depreciation related to the "Leonhart Music Club" constitute proper deductions of Leonhart, Inc., for the taxable years 1960 and 1961 and that respondent erred in disallowing them. 453 Additional Findings of Fact Relating to Issue 7 Leonhart, Inc., claimed deductions for depreciation and maintenance expenses in connection with several automobiles, the titles to most235 of which were held in its name. With regard to some of these automobiles respondent disallowed parts or all of the claimed deductions. As to these petitioners allege that most of the automobiles were used in the business of the corporation and that the use of other automobiles by certain employees of the corporation for personal purposes constituted "fringe benefits" paid to such employees. Leonhart, Inc., depreciated all of the automobiles on a straight-line basis, assigning to some a three and others a four year useful life. The entire amount of the depreciation and the maintenance expenses was deducted by Leonhart, Inc., with no allocation of any part thereof to any other person on account of personal use. The claimed depreciation items and those disallowed by respondent are as follows: Cost lesssalvageDateLifeAutovalueAcquired(Years)(1) 1957 Chevrolet $2730.387/23/574(2) 1958 Olds* 3584.5019584(3) 1958 Chrysler Imp* 7247.0019584(4) 1957 Cadillac* 4743.0019584(5) 1959 Cadillac4730.003/24/603(6) 1960 Ford Falcon1948.119/604(7) 1960 Cadillac4911.002/27/613(8) 1959 Jaguar2700.006/20/613(9) 1961 Ford Falcon2013.574/3/614Total236 19601961Depr.Depr.Depr.Depr.Autoclaimedallowedclaimedallowed(1) 1957 Chevrolet$ 682.58$ 0$ 341.35$ 0(2) 1958 Olds896.120896.120(3) 1958 Chrysler Imp1811.751521.721811.751521.72(4) 1957 Cadillac592.870592.870(5) 1959 Cadillac788.34 788.34788.34788.34(1/2 yr.)(1/2 yr.)(1/2 yr.)(1/2 yr.)(6) 1960 Ford Falcon243.52243.52487.04487.04(1/2 yr.)(1/2 yr.)(7) 1960 Cadillac00818.50818.50(1/2 yr.)(1/2 yr.)(8) 1959 Jaguar00450.000(1/2 yr.)(9) 1961 Ford Falcon00251.690Total$5015.18$2553.58$5844.79$3615.60In explaining his adjustments to the amounts claimed as depreciation deductions respondent in schedules attached237 to his notice of deficiency stated that the automobiles for which no depreciation was allowed, other than the 1957 Chevrolet, were "considered personal and not business items," 2 that the 1957 Chevrolet was "determined to be used 25% for business, therefore, asset is fully depreciated" (since petitioners had accumulated depreciation of $1,706.45 on that item in prior years), and that the salvage value of the 1958 Chrysler Imperial was increased from zero to $725. Leonhart, Inc., also claimed as a deduction "automobile expense" which included expenditures for repairs. The total amount spent for such repairs, the allocations thereof to the particular automobiles and the respondent's allowance or disallowance thereof, are as follows: 3238 454 REPAIRS19601961DescriptionClaimedAllowedClaimedAllowed1. 1953 Jaguar$442.66$ 0$ 570.71$ 02. 1958 Chrysler Imperial329.21317.241272.651261.153. 1953 Oldsmobile120.480004. 1958 Oldsmobile S.W.712.750852.4105. 1960 Volvo68.500179.5406. 1957 Chevrolet136.4834.12197.3849.357. 1959 Cadillac121.430008. 1951 Ford6.500377.5409. 1957 Cadillac000010. 1959 Jaguar00116.72011. 1961 Ford Falcon0062.28012. 1958 Ford0026.800Total$1938.01$351.36$3656.03$1310.50In addition to the claimed deduction for repairs in 1960 certain amounts were expended for gas, oil, tires and license plates and were included in the deduction claimed as "automobile expense." Of a total of $1,625.22 claimed on account of those expenses, the respondent allowed $10.97 representing gasoline purchased by Harold ($8.95) and an employee of Leonhart, Inc. ($2.02), and $18.48 apparently representing the cost of tires, neither item being allocated to any particular automobile. The following expenditures on account of gas, oil, tires and license239 plates in a total amount of $1,568.99 were disallowed by respondent for 1960: (1) $731.22 representing purchases of gasoline paid for by Leonhart, Inc., but not identified as to a particular car or purchaser; (2) $165.61 representing an expenditure only explained as having been made by "W.H.L. Agent" and not related to any particular car or cars; (3) $91.50 representing expenditures for licenses for the 1953 Jaguar, 1958 Olds, 1960 Volvo, 1953 Olds, and 1958 Ford; and (4) expenditures for gasoline, tires, and oil shown as purchased by the following individuals in the following amounts but without any showing of the particular automobile for which the expenditure was made: Bill$ 30.27Martha51.06Jay119.75John274.77Jeanne104.21$580.66 The record does not explain the discrepancy of $26.78 between the total amount of the deductions claimed as expenditures for gas, oil, tires and license plates in 1960 and the total of the specific items allowed and disallowed which appear in the exhibits which are in evidence. In addition, Leonhart, Inc., claimed deductions in 1960 in the amount of $176.51 on account of a loss on the sale of a 1957 Cadillac which240 was driven primarily by Martha, and in the amount of $50 expended by it to cover Bill's traveling expenses to New York and return, incident to his picking up a Jaguar automobile from a repair shop in New York and returning it to Baltimore. In addition to the claimed deduction for repairs in 1961, certain other amounts were included in the deduction claimed as "automobile expense." Of a total amount of $553.78 claimed on account of those expenses respondent allowed a deduction of $44.37 representing expenditures for oil and gas made by Harold not allocated to any given automobile. The following amounts expended in 1961 by the following persons for oil and gasoline, not allocated to any given automobile, were disallowed by respondent: Jeanne$ 34.90Jay31.20John112.36Bill2.50Martha23.74$204.70 Respondent also disallowed deductions for the following expenditures made by or on behalf of Leonhart, Inc.: (1) $157.50 expended for car rental; (2) $10 paid for automobile paint, and (3) $126.72 paid to a "Downtown Garage" for storage and gas. The remaining amount of $10.49 in the total claimed deduction on account of "automobile expense" apparently represents241 claimed expenses of Leonhart, Inc., on account of 455 "Gas, Oil, Tires, Etc." but is not further explained or substantiated by the record. 4In 1960 and 1961 Harold expended $58.83 and $374.76 respectively for gas and oil, which amounts were credited to his personal account by Leonhart, Inc., and for which no deduction has been claimed. All of the automobiles owned and operated by Harold or Leonhart, Inc., were insured at a "business" rather than a "personal" rate by Fowler, Leonhart and Associates, Inc., an agency in which Harold had an ownership interest in 1960 and 1961. The 1957 Chevrolet was used to some extent for business by Margaret Sands, Harold's secretary and an officer of Leonhart, Inc. It was also used by her with the consent of Leonhart, Inc., for commuting to and from work and for other personal purposes. The use of this automobile by Margaret in 1960 and 1961 constituted one half the use of this242 automobile for those years. Leonhart, Inc., permitted this use of the 1957 Chevrolet by Margaret for the purpose of either improving employee relations or supplementing cash compensation or for both reasons. The 1951 Ford was driven by Mrs. Lindsay, an employee of Leonhart, Inc., to an extent and for purposes not disclosed by the record. The 1959 Cadillac was kept in Florida and used by Harold when he was in Orlando on business. It was also used by officers of the American Fire and Casualty Co. Petitioners have not established that any of the automobiles other than the 1958 Chrysler Imperial, the 1959 Cadillac and the 1957 Chevrolet were used by Harold or other employees of Leonhart, Inc., in the business of Leonhart, Inc. Martha, Jeanne, John, Bill and Jay all operated some of the automobiles at various times during the years in question. Martha, Jeanne and John were not employed by Harold or Leonhart, Inc., during the taxable years. The facts relating to the employment of Bill and Jay are set out, supra, under Issue 4. Harold regularly drove to and from work, a distance of about six or eight miles each way. In the summer months the Leonhart family regularly lived at "Sherwood243 Forest" which was located about 24 miles from their residence in Baltimore. Harold would usually drive to Sherwood Forest twice each week in the summer except when he was absent from the Baltimore area. Ultimate Findings of Fact Relating to Issue 7 Petitioners are not entitled to deduct any loss claimed on account of the disposition of the 1957 Cadillac or to deduct any expense incident to the return of a Jaguar from New York to Baltimore. Expenses of maintenance and repair relating to the 1957 Chevrolet are deductible business expenses of Leonhart, Inc., to the extent of 50% of the amounts claimed for those items. The expense of the repairs to the 1959 Cadillac claimed for 1960 is a deductible business expense of Leonhart, Inc. No other deductions on account of automobile expense or depreciation charges with regard to automobiles owned by Leonhart, Inc., or petitioners or members of petitioners' family in excess of those allowed by respondent are properly allowable. Additional Findings of Fact Relating to Issue 8 In 1961 Leonhart, Inc., made a payment of $1,500 to the Baltimore law firm of Cross and Shriver. Of this amount, all of which was claimed as a deduction by244 Leonhart, Inc., respondent disallowed $1,200. A copy of a voucher relating to this payment read "For the account of W. Harold Leonhart, Leonhart and Co., Inc., Leonhart and Co. (Md.), Inc., and Southern Underwriters, Inc." No statement from the law firm indicating the nature of the services performed for which the payment was made could be located in the records of either Leonhart, Inc., or the law firm. A "time sheet" from the files of Cross and Shriver indicated that certain matters relating to Harold personally as well as some business matters not identified as to corporation remained unbilled as of December 31, 1961. Ultimate Findings of Fact Relating to Issue 8 Petitioners have failed to prove that Leonhart, Inc., is entitled to a deduction with respect to this payment in addition to that allowed by respondent. 456 Additional Findings of Fact Relating to Issue 9 On its returns for 1960 and 1961 Leonhart, Inc., claimed travel and entertainment expense deductions in the amounts of $43,677.96 and $25,999.93 respectively. Of these amounts the respondent in his notice of deficiency disallowed $12,385.25 for 1960 and $2,053.49 for 1961. In an amendment to their245 petition petitioners claimed additional deductions for business expenses of Harold in 1961 for amounts alleged to have been paid by Harold and not reimbursed to him by Leonhart, Inc., or any other corporation. A total of $4,090.63 of additional deductions claimed in petitioners' amended petition for travel and entertainment expenses remains in dispute. Among the individual items involved in this issue are claimed deductions relating to the following: (1) a South American tour; (2) The American Fire and Casualty Company; (3) the Merchants Club; (4) expense of Martha and the wife of a business associate of Harold on a trip to London in 1960; (5) travel expenses of Martha; (6) liquor purchases; (7) rare books; (8) Diner's Club; (9) Nassau and Miami trip; (10) flowers; (11) F.B.I. "Steak-Out"; (12) traveler's checks; (13) the University Club of Orlando, and (14) alleged business expenses of Harold paid by him for which he was not reimbursed. South American Tour In 1960 Harold participated in a "trade tour" of South America sponsored by the Maryland Port Authority. The parties agree that his travel expenses on this trip, which were paid by Leonhart, Inc., amounted to $2,399.50. The246 respondent disallowed the deduction of the entire amount. The stated purpose of the tour was to stimulate the business of the Port of Baltimore and of Maryland generally. Of the 20 Maryland businessmen and 8 officials of the Port Authority who participated in the tour, Harold was the only person engaged in the insurance business. The 25-day tour itinerary called for business conferences, plant inspections, harbor tours and receptions in Puerto Rico, Venezuela, Brazil, Argentina, Chile, Peru and Columbia. Harold had some interest in exploring the possibility of expanding his reinsurance business into South America, particularly into Colombia. After the tour Leonhart, Inc., did no reinsurance business in South America although Harold made a subsequent trip to Bogota, Colombia, and maintained an interest in the possibility of carrying on a reinsurance business in South America. See findings relating to Issue 4, supra. Leonhart, Inc., took out at its own expense and on Harold's initiative a group accident policy with Mutual of Omaha extending insurance protection to all of the participants of the tour while airborne. Under this policy the estate of each participant would receive $75,000247 upon his accidental death. The cost of this coverage to Leonhart, Inc., was around $115. No business was acquired by Leonhart, Inc., directly as a result of the tour. Sometime after the tour the Baltimore Airport increased the insurance it carried with Mutual of Omaha from $7,000,000 to $15,000,000. As a result Mutual of Omaha purchased additional reinsurance through Leonhart, Inc. At that time the chairman of the Airport Commission was Charles Crane, who had been the chairman of the tour. In 1964 and again in 1966, Leonhart, Inc., procured accident insurance covering members of other tour groups sponsored by the Maryland Port Authority, the sponsor of the 1960 South American tour. In 1966 Leonhart also procured trip baggage insurance for tour members. The total commission on these policies received by Leonhart, Inc., did not exceed $335. In 1965 Leonhart, Inc., procured two "group trip personal accident insurance" policies for the Baltimore Gas and Electric Company. Leonhart, Inc.'s commission on these policies was undisclosed by the record. Charles Crane was chairman of the board of the Baltimore Gas and Electric Company in 1960. The record does not disclose whether he was248 associated with that company in this or any other capacity in 1965. In 1962 Leonhart, Inc., acquired for the City of Baltimore from Lloyd's underwriters a five year fire and lightning insurance policy on which Leonhart, Inc., received a substantial commission. Expenses Relating to the American Fire and Casualty Company The respondent disallowed a deduction claimed by Leonhart, Inc., for 1960 in the amount of $1,200 representing rental payments for the months of January, February, 457 March and April, for a fishing cottage in Florida known as Englewood Lodge. This cottage was owned by two officials of the American Fire and Casualty Co. Harold informed one of the co-owners, Charles Hagar, vice president of American Fire, that he (Hagar) could invite anyone he wanted to the cottage as long as the person invited was a client or prospective client of Leonhart, Inc., or American Fire. American Fire, a substantial client of Leonhart, Inc., had an office in Orlando, Florida, which is in the same general area as the cottage. Harold used the cottage himself twice when on business in Orlando. The cottage was also used by various officials of American Fire and other insurance men. Leonhart, 249 Inc., did not rent the cottage after 1960 because Harold felt it was not getting enough use. On April 2, 1960, Harold entertained officers and wives of officers of American Fire and the American Independent Reinsurance Co. at the Villa Nova Restaurant in Winter Park, Florida, on the occasion of the 33rd anniversary of the founding of American Fire. The cost of the party was $859.31, all of which was claimed as a deduction and disallowed by the respondent. In 1960 Leonhart, Inc., paid $843.40 to the Villa Nova Restaurant for packaged liquor which was given to officials of American Fire as Christmas gifts. The respondent disallowed a deduction claimed for this amount. Leonhart, Inc., received a large amount of commission income in 1960 on reinsurance purchased by American Fire. See additional findings of fact relating to Issue 3, supra. Merchants Club Respondent disallowed a deduction by Leonhart, Inc., of $38.91 paid by it in 1960 to the Merchants Club in Baltimore in connection with the entertainment of Thomas F. McNulty, Ernest F. Fink, and Walter Peppersack. The Merchants Club is a businessmen's luncheon club. McNulty was then the president of a Baltimore radio station250 and was at some prior time chairman of the Maryland State Liquor Board. Fink held a Steinway piano dealership in Baltimore. Peppersack was in 1960 the warden of the State Penitentiary at Baltimore. Expenses of Martha and Wife of Business Associate on Trip to London in 1960 Leonhart, Inc., claimed $5,676.56 as a deduction for the cost of a trip to London taken by Harold, Donald M. Madgett, vice president of Mutual of Omaha, and their wives in 1960. Mutual of Omaha employed Leonhart, Inc., as its broker in the purchase of reinsurance. Much of this reinsurance was obtained through Lloyd's. The principal purpose of the trip to London was to introduce Madgett, who was in charge of reinsurance for Mutual of Omaha, to the Lloyd's underwriters with whom Harold did business. Respondent disallowed this claimed deduction to the extent of $2,806.63, which represented the expenses of the trip relating to the wives of Harold and Madgett. Of the total amount claimed, $189.90 5 represented railroad fares and expenses from Baltimore to New York for Harold and Martha, the Madgetts, and Mr. and Mrs. John D.C. Roane. The respondent disallowed one-third of this amount, or $63.30, as expenses relating251 to Martha and Mrs. Madgett. Donald Madgett paid Harold $750 as reimbursement to Leonhart, Inc., of a portion of the expenses of his wife, for which he (Madgett) was not reimbursed by Mutual of Omaha. Neither wife had any specific business function and played no part in the transaction of business during the day. Rather, they would spend the day shopping or sightseeing. After the men finished their business of the day they would be joined for dinner by their wives. Frequently petitioners and the Madgetts would have as their guests at dinner English insurance men and their wives. As a vice president of Mutual of Omaha, Donald Madgett was in252 a position to participate in the determining of which reinsurance broker would be utilized in procuring reinsurance for his compan8. In the years 1960 through 1963 Leonhart, Inc., received commission income on business transacted between Mutual of Omaha and Lloyd's in the amounts of $15,545, $25,179, $27,980, and $13,434, respectively. 458 Travel Expenses of Martha In 1960 Leonhart, Inc., paid a hotel bill in the amount of $31.90 to the John Marshall Hotel in Richmond, Virginia, for expenses incurred by Harold and Martha on September 20, 1960. Harold was in Richmond to make a speech at a Red Cross meeting. In 1961 Leonhart, Inc., paid hotel bills of $244.21 to the Mark Hopkins Hotel in San Francisco and $68.32 to the Astor Hotel in New York City. These sums represented the cost of hotel accommodations for Harold and Martha. On the New York visit Harold met with Joseph Hadley, a Lloyd's broker, and George Bradshaw, a vice president of American Fire and Casualty Co. In San Francisco Harold met with Otis Clark, who was successfully engaged in the insurance business on his own account and was also an officer of Leonhart, Inc., during part of 1961. On both trips the men with253 whom Harold conferred were accompanied by their wives. The respondent disallowed petitioners' claimed deductions with respect to these amounts (i.e., the amounts spent in Richmond, San Francisco and New York) to the extent of $15.90, $122.11, and $34.16, representing the portion of the costs applicable to Martha. The respondent disallowed a deduction claimed for 1960 in the amount of $27.92 paid by Leonhart, Inc., to the Pennsylvania Railroad. On October 7, 1960, Leonhart, Inc., purchased three round-trip rail tickets between Baltimore and New York at a cost of $27.92 each. Two of the Baltimore to New York portions of the tickets were used by Harold and Martha on October 9, 1960, according to an expense account memorandum for that day kept by Harold. Two of the three return trips to Baltimore were used on October 26. A rail travel order issued by the Pennsylvania Railroad indicated that the passengers were "Mr. and Mrs. W. Harold Leonhart." Harold's expense account memorandum book indicated that a business associate, David Douetil, also accompanied him from New York to Baltimore on October 26. The $27.92 amount disallowed by the respondent represented the cost of a roundtrip254 ticket for Martha between Baltimore and New York. Liquor Purchases In 1960 and 1961 respondent disallowed deductions claimed by Leonhart, Inc., for liquor purchases in the amounts of $343.13 and $621.41 respectively. Respondent concedes that the amounts claimed were expended by Leonhart, Inc. The liquor so purchased was consumed on the premises occupied by Leonhart, Inc., and also by Leonhart and Co. of Maryland and Southern Underwriters. 6Rare Books Respondent disallowed a deduction claimed by Leonhart, Inc., for 1960 in the amount of $411 representing the cost of a first edition of Dr. Samuel Johnson's Dictionary and a first edition of Boswell's Life of Johnson. The two books were purchased by Harold at the Clark Hall Bookshop in London in September of 1960. The books were brought to Baltimore and kept in the offices of Leonhart, Inc. Harold believed the books would be of interest to business associates and clients, particularly those from England. As "conversation pieces" the books had an indeterminate useful life in excess of one year. Harold did not have a collection of rare books at home. Harold kept255 the books until 1966, at which time he gave them to an educational institution. The books were then worth more than $411. Diners' Club The respondent disallowed deductions claimed by Leonhart, Inc., of $65.74 and $193.22, representing amounts paid by it to the Diners' Club in February and March of 1960. These obligations were incurred in the first instance by Harold's son Bill on the dates and to the payees as follows: Paid in FebruaryDateLocationAmountDec. 14, 1959Chesapeake Inn, Annapolis, Md$ 22.32Jan. 6, 1960Hertz Co., Miami, Fla31.04Jan. 12, 1960Taylor House, Towson, Md12.38Total$ 65.74Paid in MarchDateLocationAmountDec. 4, 1959New York City (restaurant)$ 22.63Dec. 5, 1959Keen's Chop House, New York City24.89Dec. 6, 1959Brass Rail, New York City14.86Dec. 8, 1959Normandy Farm Inn, Rockville, Md20.53Dec. 10, 1959Charcoal Pit Restaurant, Washington, D.C.5.59Dec. 13, 1959Peerce's Plantation, Inc., Phoenix, Mo6.24Dec. 15, 1959C.S. Hammond & Co., Maplewood, N.J.13.00Dec. 19, 1959The Mt. Vernon, Fayetteville, N.C.10.30Dec. 21, 1959L'Auberge, Inc., Orlando, Fla18.35Dec. 22, 1959Gifford Arms, Orlando, Fla47.56UndisclosedUndisclosed9.27Total$193.22256 At some time during the fall of 1959 Bill attended an insurance training school operated by the American Fire and Casualty Co. in Orlando, Florida. He became a fulltime employee of Leonhart, Inc., in January 1960 and continued in that capacity through May 1960. Nassau and Miami Trip In 1960 Leonhart, Inc., claimed a deduction for $292.72 paid to American Airlines. Of this amount $27.50, representing the amount of the fare from Boston to Baltimore of an employee of Leonhart, Inc., was allowed as a deduction. Of the remaining $265.22, 7 which related to a trip to Nassau taken by all eight members of the Leonhart family in December of 1959, including Harold, respondent allowed 1/9 or $29.47 as a deduction. Harold transacted business with two insurance companies while in Nassau, although the trip was purely personal as to the members of Harold's family. After leaving Nassau in the first week of January 1960, Harold and his family flew to Miami257 where they stayed for a few days at the DuPont Plaza Hotel. The total cost of their stay was $440.20. Of this amount paid by Leonhart, Inc., and claimed as a deduction, respondent disallowed $356.98. The record does not disclose whether all of the Leonhart family stayed at the hotel Harold transacted some business while in Miami In addition Leonhart, Inc., paid the sum of $15.47 on account of an automobile rented in Miami by Bill. The use to which the auto was put is not disclosed by the record. This amount was claimed by Leonhart, Inc., as a deduction and disallowed by the respondent. Flowers In 1960 Leonhart, Inc., paid $10.30 for flowers sent to the wife of Thomas McNulty when she was in the hospital. McNulty was president of a Baltimore radio station in 1960 and was not connected with the insurance business. In that year Leonhart, Inc., paid a total of $33.52 to Earle Kirkley, Inc., for flowers. Of this amount $15.46 was for flowers designated "Leonhart" on the invoice, $15.46 for flowers designated "Hayes" and "Porter" on the invoice, and an undesignated $1.60 telegram charge. Porter and Hayes were officers of American Fire and Casualty Company. On another occasion258 in 1960 Leonhart, Inc., expended $3.50 for flowers for the wife of Charles P. Crane, the chairman of the Baltimore Gas and Electric Company referred to, supra, in connection with the South American tour. All of these amounts were claimed as deductions by Leonhart, Inc., and disallowed by the respondent. F.B.I. "Steak-Out" In 1961 Leonhart, Inc., paid $10 for two tickets to a "steak-out" or cook-out sponsored by the Federal Bureau of Investigation. A deduction claimed for this amount was disallowed by the respondent. An F.B.I. agent had at some prior time aided in some way in the establishment of the salvage value of stolen furs which had been recovered and which had been insured against loss by theft by an insurance policy written through Leonhart, Inc. Traveler's Checks In 1961 Leonhart, Inc., made certain payments on account of the travel expenses of 460 James O. Honeywell incident to a trip to London taken by him and Harold in this year. Honeywell was an officer of the New Amsterdam Insurance Company. Before they left for London, Honeywell reimbursed Leonhart, Inc., to the extent of $875.58. Harold used the reimbursement check of Honeywell for purchasing traveler's259 checks in his own name in the amount of $800 and kept the remainder of $75.58 in cash. The traveler's checks were cashed by Harold while in Europe, principally in hotels and banks. No evidence was introduced relating to the persons or purposes to whom or for which Harold paid the proceeds of these checks or the $75.58 in cash. Of the payments made by Leonhart, Inc., in connection with this trip respondent disallowed the sum of $889.38 related to the expenses of Honeywell. Petitioners continue to claim that the entire amount of $889.38 disallowed by respondent is deductible by Leonhart, Inc., as an ordinary and necessary business expense for 1961. Petitioners on brief claim in the alternative that Leonhart, Inc., is entitled to deduct the $875.58 as travel expenses of Harold. The University Club of Orlando In 1961 Leonhart, Inc., paid to the University Club of Orlando, Florida, the amount of $11.02 for expenses incurred by Harold on February 24, 1961, for two massages totaling $8.06, and two bar checks totaling $2.96. On this occasion, Harold was in the company of a mannamed Michael Wheeler of London,England, who was a business acquaintance of Harold. Harold frequently took260 massages because of "certain ailments" which he had, including an arthritic shoulder and hip. The record does not disclose what business, if any, was discussed by Harold and Wheeler on this occasion. Unreimbursed Expenses In an amendment to their petition, petitioners claimed deductions for 1961 for business expenses of Leonhart, Inc., not previously claimed, paid for by Harold in 1961 but not reimbursed by Leonhart, Inc., or any other corporation. Respondent does not contend that any of the sums claimed were not actually paid by Harold, and we find that all of the amounts so claimed were paid. Of the amounts claimed, the following items in even dollar amounts represent checks cashed by Harold at the following hotels: DATEPAYEEAMOUNT5/15/61@WHL (cashed by Hotel Mark Hopkins)$ 200.002/14/61Barclay Hotel100.003/11/61Golden Strand Hotel & Villa100.003/27/61Hotel Emerson50.003/13/61Cherry Plaza Hotel200.005/ 1/61GoldenStrand200.005/10/61Hotel Emerson100.005/14/61Chapman Park Hotel100.005/28/61Hotel Sheraton Belvedere60.006/30/61Hotel Warwick100.006/ 4/61Hotel Bellevue - Stratford15.009/13/61Canfield Hotel50.009/13/61Hotel Canfield50.009/17/61Hotel Chapman Park50.009/29/61Hotel Emerson100.0010/ 9/61Hotel Emerson50.0011/26/61Hotel Emerson200.0012/ 2/61Chapman Park Hotel200.0012/27/61Hotel Biltmore200.0012/29/61Hotel Biltmore200.00Total$2,325.00261 The purposes for which the proceeds of these checks were spent are not disclosed by the record before us. Additional amounts claimed which remain in dispute follow: DATEPAYEEAMOUNT2/ 9/61The Evergreen Annual$ 25.005/ 4/61Mecca Restaurant7.519/ 7/61International Playboy Club50.002/23/61University Club of Orlando120.002/25/61Swetman Travel Service137.515/17/61Chapman Park Hotel, Los Angeles295.605/ 1/61The Golden Strand - Miami132.605/ 3/61The Golden Strand - Miami116.023/12/61The Golden Strand - Miami20.0310/19/61Berger A. Gustafson300.0012/ 9/61Fairmont Hotel - San Francisco288.1512/29/61Biltmore Hotel - New York (1/6 $539of.25)89.871/10/61Sheraton Belvedere Hotel183.34Total$1,765.63On February 9, 1961, Harold drew a check for $25 to the order of The Evergreen Annual, a Loyola College (Maryland) yearbook. This was in payment for a business advertisement relating to Leonhart, Inc., although the check bore the notation "contribution." The only evidence in the record relating to the Mecca Restaurant item of $7.51 is Harold's unsupported statement that "Mecca Restaurant would262 be luncheon or something of that sort, nearby the office." While Harold was in Chicago at some undisclosed time he was taken by a business associate to the International Playboy Club. On that occasion Harold purchased a membership in the club at a cost of $50. 461 Harold paid $120 to the University Club of Orlando on February 23, 1961, for membership for Harold in the club. This payment was made by a check drawn on the joint bank account of petitioners and signed by Harold, with the notation thereon "membership." Harold paid $137.51 to the Swetman Travel Service of Winter Park, Florida, on February 25, 1961, representing the cost of transportation from Orlando, Florida, to Baltimore of Harold and Michael Wheeler of London,England, with whom Harold had a business acquaintance. Harold was in Florida at the time on business. The record does not disclose the business purpose, if any, of Harold's sojourns at the Chapman Park Hotel - Los Angeles, 8 the Golden Strand - Miami, Fairmont Hotel - San Francisco, Biltmore Hotel - New York and Sheraton Belvedere Hotel in connection with which the expenditures listed above were made. 263 By a check dated October 19, 1961, Harold paid $300 to Berger A. Gustafson, a masseur at the Golden Strand Hotel in Orlando, for massages for himself and others not identified by this record. Findings of Fact Relating to Issue 10 In 1960 and 1961 Harold expended amounts totaling $275.57 and $1,155.67 respectively for liquor which was consumed at the Leonhart home and for which he was not reimbursed by Leonhart, Inc., or any other corporation. At least one half of these amounts constituted expenditures by Harold for business entertainment. In 1961 petitioners made a payment of $50 to "St. Mary's Building Fund," which constituted a payment to an organization qualifying under section 170, I.R.C. 1954. Harold made cash contributions to a church totaling $200 in each of the years 1960 and 1961. None of these items were claimed as deductions by petitioners in their returns for the years 1960 and 1961. In an amendment to their petition petitioners allege that "[the] Commissioner erred in failing to allow petitioners additional deductions not claimed in their 1960 and 1961 individual income tax returns representing unreimbursed business expenses and unclaimed264 charitable contributions, and in particular he erred in failing to allow petitioners additional deductions in 1961 evidenced by checks and vouchers aggregating approximately $5,347.41." The parties entered into the following stipulation relating to the amendment to petitioners' petition: Attached hereto as Exhibit 123 is a summary showing additional amounts claimed by Petitioners as contributions and unreimbursed business expenses in 1961, and which Petitioners claim were not deducted by them on their 1961 income tax returns and further claim were not reimbursed to them by the company." The exhibit referred to contained no reference to the liquor purchases, the payment to "St. Mary's Building Fund," or cash contributions to any church. Additional Findings of Fact Relating to Issue 11 From around 1947 through the years in question Harold maintained a summer home in a residential community known as Sherwood Forest located in Maryland about 24 miles from the Leonharts' Baltimore home. Petitioners' home in Sherwood Forest is usually open from about the first of May through Labor Day. In the summer months of 1960 and 1961 the members of Harold's family normally stayed at Sherwood265 Forest rather than their Baltimore residence and Harold would usually travel there twice a week when he was in Baltimore. Harold was traveling outside the Baltimore area almost half the time between May 1, 1960, and September 5, 1960 (Labor Day). For that period in 1960 Harold's daily calendar makes no reference to Sherwood Forest although it contains numerous entries regarding business luncheons and other meetings with business associates. On July 1, 1956, Martha wrote a letter addressed to the "Boys and Girls" which was posted on the premises of Leonhart, Inc., extending an invitation to the employees of Leonhart, Inc., to visit at Sherwood Forest at any time through July 1, 1957. Leonhart, Inc., claimed a deduction in 1960 in the amount of $329.48 on account of maintenance expenses incurred in connection with petitioners' home at Sherwood Forest, which represented the part of such expenses 462 for which Harold was reimbursed by Leonhart, Inc. This reimbursement represented 25% of the total maintenance expenses in 1960 relating to the Sherwood Forest property, based upon Harold's judgment that the Sherwood Forest home was used at least 25% of this year for entertaining employees266 and clients of Leonhart, Inc. These deductions were disallowed in their entirety by the respondent. 1960 was the only year for which a deduction for the maintenance expenses of Sherwood Forest was claimed by Leonhart, Inc. In addition petitioners in 1960 and 1961 claimed certain depreciation deductions relating to equipment used in connection with the Sherwood Forest property. On brief petitioners concede that the depreciation deductions claimed in these years with respect to Sherwood Forest equipment were erroneous in that the equipment had already been fully depreciated. Ultimate Findings of Fact Relating to Issue 12 Based upon the facts which we have heretofore found with respect to the other issues presented herein, we find that petitioners have failed to prove that no part of the deficiencies in the income tax of the petitioners for each of the years 1960 and 1961 was due to their negligence or intentional disregard of rules and regulations with respect to income taxes. Opinion Issue 1: Statute of Limitations Petitioners alleged in their petition that: The Commissioner erred in including in the gross income of the petitioners' additional income in the amounts267 of $38,506.26 in 1960 and $32,212.22 in 1961, based upon adjustments in the income and deductions of an electing small business corporation not occurring or consented to within the time prescribed by section 6501(a) of the 1954 Code (made applicable by section 6037 of said Code) for the assessment of taxes imposed by reason of such adjustments. On brief petitioners further state that: The petitioners' plea of the statute is limited to corporate adjustments. The result of this partial plea in bar is to leave other disputed items relating solely to the individual returns open to assessment claims by the respondent and overpayment claims by the petitioners. The petitioners, then, make no contention that any statutory limitation of time prevents adjustments with respect to their individual returns. However, it is only with respect to their individual returns that the respondent has determined deficiencies. Leonhart, Inc., is conceded to have been an electing small business corporation under Subchapter S of the Internal Revenue Code of 1954. Where a corporation eligible to be treated as a "small business corporation" under section 1371 elects "not to be subject to the taxes imposed268 by this chapter" (i.e., normal taxes and surtaxes) under section 1372, the amount of its undistributed taxable income (i.e., the amount of its taxable income which had not been actually distributed as dividends to its shareholders) is treated as amounts distributed as dividends and is taxable not to the corporation but to the shareholders under section 1373. Accordingly, where an eligible small business corporation makes a valid election under Subchapter S the statute contemplates that no income taxes are to be paid by it and therefore that there would be no occasion for a period of limitation on assessment and collection with respect to the corporation. It is only where the election of the corporation is for some reason determined to have been ineffective that section 6037 9 is intended to provide that the information return filed by the corporation will be treated as a corporate return for the purposes of the statute of limitations. That is clearly indicated by that portion of the Senate Report on the Technical Amendments Act of 1958, which added section 6037, relating to that section, which reads as follows: 269 IV TECHNICAL EXPLANATION Section 68. Election of Certain Small Business Corporations * * * Annual returns required Notwithstanding the fact that an electing small-business corporation is not subject to the tax imposed by chapter 1 of the 1954 Code, such corporation must make a return for each taxable year in 463 accordance with new section 6037 as added by subsection (c) of section 68 of the bill. Such return will be considered as a return filed under section 6012 for purposes of the provisions of chapter 66, relating to limitations. Thus, for example, the period of limitation on assessment and collection of any corporation tax found to be due upon a subsequent determination that the corporation was not entitled to the benefits of subchapter S, will run from the date of filing of the return required under the new section 6037, Senate Report No. 1938, 85th Cong., 2d Sess. (1958), 3 C.B. 922">1958-3 C.B. 922, at 1147. Petitioners rely on cases which indicate that where a taxpayer pleads and proves facts which raise the issue of the statute of limitations the burden is on the respondent to plead and prove any exception that may apply. See, e.g., D.A. MacDonald, 17 T.C. 934">17 T.C. 934.270 Since petitioners have neither pleaded nor proved any facts which raise the issue of the statute of limitations with respect to the petitioners herein, this reliance is misplaced. We decide this issue for respondent. Issue 2: Charitable Contributions Petitioners and respondent have each conceded some of the items claimed as charitable deductions in 1960 and 1961 by petitioners on their returns for these years and in an amendment to their petition. Of the items remaining in dispute respondent contends that two should not be allowed on the ground that the question of their deductibility was raised by petitioners for the first time on brief. We shall consider these two items infra, under "Issue 10." Other than these there are three alleged charitable contributions in dispute: (1) a payment of $5 made by petitioners to the Hibernian Society in 1960, (2) a payment made to "Reverend Elbert Gay" by petitioners in 1960 in the sum of $50, and (3) a payment of $25 made by petitioners to "The Evergreen Annual." With regard to these three payments petitioners have proved that they were made to the alleged recipients in the amounts claimed. However, respondent contends that petitioners have271 failed to prove that the recipients of the payments qualify under section 170, I.R.C. 1954, and that therefore the payments may not be deducted as charitable contributions. We have found that the payment to the Hibernian Society in 1960 of $5 was a payment to an organization qualifying under section 170, I.R.C. 1954, and therefore such payment is deductible. Petitioners have offered no evidence as to the alleged charitable contribution represented by the payment to "Revered Elbert Gay" in 1960 of $50 except testimony to the effect that a payment in this amount was made to "Reverend Elbert Gay." The name of a donee alone is not proof that the donee qualifies under section 170, I.R.C. 1954, nor is it proof of the purpose for which the payment was made. Adam Ortseifen, 14 B.T.A. 1403">14 B.T.A. 1403. This claimed deduction is therefore denied. The evidence in this case indicates that the payment to The Evergreen Annual was for a business advertisement for Leonhart, Inc., in a Loyola College (Maryland) yearbook. This amount is therefore not allowable as a charitable deduction. 10272 Issue 3: Change of Method of Accounting In 1959 Leonhart, Inc., reported its commission income from American Fire and Casualty Co. on an accrual basis, and had done so since 1955, In 1960 Leonhart, Inc., elected to be taxed as a small business corporation. In its return for that year prepared and filed in 1961, Leonhart, Inc., reported this item on a cash basis, and did the same thing in its return for 1961. As a result of the change in method of accounting with regard to this item from an accrual to a cash basis Leonhart, Inc., did not report as 1960 income commissions in the amount of $14,929.08 on reinsurance secured by it for American Fire and Casualty Co. which accrued in November and December of 1960 which were not received in that year. These amounts were reported by it as 1961 income in which year they were received by it in cash. Leonhart, Inc., in January, 1961, became obligated to refund certain American Fire and Casualty Co. commissions received by it in 1960 because of a change in the reporting procedures between the primary insurer, American Fire, and the reinsurers, a syndicate of Lloyd's of London, with respect to Contract No. 4112 referred to in our findings273 of fact. Although Leonhart, Inc., as has been stated, changed to a cash method 464 of reporting American Fire income, it deducted $5,000 in its income tax return for 1960 to reflect a part of the commissions received by it in 1960 but which it anticipated would have to be refunded later in 1961. In 1961 the refund was made in the amount of $13,411.81. In 1961 Leonhart, Inc., deducted this amount, less the $5,000 deducted in 1960, or $8,411.81, from its gross income for 1961. This treatment of the refund by Leonhart, Inc., was not questioned by the respondent for either of the years 1960 and 1961 although the entire amount was paid in 1961 and the obligation could not have accrued before 12:01 A.M., January 1, 1961, the effective date of the amendment to Contract No. 4112, which occasioned the necessity of the refund. For the third and fourth quarters of 1961 Leonhart, Inc., would have had accrued income of $30,525.23 in American Fire commissions under its old method of accounting. However, because of its change in accounting it did not report this item of income for 1961 since it had not been received by it in cash in that year. The net effect of Leonhart, Inc.'s change in274 method of accounting for American Fire commissions from an accrual to a cash method was to defer income of $14,929.08 from 1960 to 1961 and to defer from 1961 to 1962 a net amount of $15,596.15 ($30,525.23 minus $14,929.08). This change in method of accounting was made without the consent of the Commissioner. Petitioners' first contention is that respondent's notice of deficiency reflected, erroneously, a determination that petitioners, rather than Leonhart, Inc., had changed their method of accounting. From this they conclude that the question of a change of accounting method by Leonhart, Inc., did not appear in respondent's notice of deficiency and that therefore respondent has the burden of proof on this issue. Petitioners rely on the following Explanation of Adjustments attached to respondent's notice of deficiency: 1. It is determined that gross income was understated for the years 1960 and 1961, in the respective amounts of $14,929.08 and $15,596.15 caused by a change in your method of accounting from that previously used by you to compute your income. We are unable to agree with petitioners' contention. Respondent's "Exhibit A" attached to his notice of deficiency, which275 contained the quoted pararaph relied upon by petitioners, indicated clearly that the increases in gross income determined by the respondent which are referred to in the above-quoted paragraph were due to the adjustment in the gross income of Leonhart, Inc. The paragraph in "Exhibit A" which precedes the quoted paragraph, supra, reads as follows: Explanation of the books and records of the Subchapter S Corporation known as Leonhart & Company, Inc., discloses that your distributable income for the taxable years 1960 and 1961 is $46,282.52 and $49,509.96, respectively, computed as follows: Following this paragraph is a list of items comprising "Corrected Subchapter S Corporation ordinary income," two of which are items of additional gross income for 1960 and 1961 in the respective amounts of $14,929.08 and $15,596.15, which are the same amounts as those contained in the succeeding paragraph of the statement relied upon by petitioners. That the language employed by respondent may have tended to obfuscate the nice distinction between an electing small business corporation and its sole shareholder does not change the fact that the determined increase in petitioners' income necessarily276 resulted from a determination that their distributable income from their small business corporation, Leonhart, Inc., should be increased by the amount of $14,929.08 in 1960 and by the amount of $15,596.15 in 1961. Even though this determination is inartistically expressed it is nevertheless clear and was plainly understood by petitioners. "The reasons given in the notice of deficiency do not constitute the issues and the presumption of correctness of the respondent's determination is not destroyed by the reason given, even if it be unsound or badly expressed." Estate of Peter Finden, 37 T.C. 411">37 T.C. 411, 423. The burden with respect to the instant issue remains with petitioners. Petitioners next argue that Leonhart, Inc., was free to change its method of accounting because such change took place in the year in which the Subchapter S election was made by it. Petitioners point out that Leonhart, Inc., was "a distinct corporate and taxable entity notwithstanding its Subchapter S election," citing John E. Byrne, 45 T.C. 151">45 T.C. 151, aff'd 361 F. 2d 939. In this we agree. 465 But petitioners then argue that "Assuming the effect of the Subchapter S election277 was to create a new taxable entity then such entity was free to elect its own accounting methods." [Emphasis ours] Petitioners advance no reason and cite no authority in support of the assumption that Leonhart, Inc., in 1960 was a new entity. Petitioners' position might have been well taken had Leonhart, Inc., been incorporated in 1960, but such is not the case. We are not aware of any provision of the Internal Revenue Code which would entitle an existing corporation which elects to be taxed as a small business corporation under Subchapter S to change its accounting methods without the consent of the Commissioner solely on account of such election, notwithstanding the provisions of section 446(e), I.R.C. 1954 infra. A third argument advanced by petitioners in justification of the change in the method of reporting American Fire commissions is that respondent has failed to show that petitioners' new method does not clearly reflect income. Respondent has adjusted the income of Leonhart, Inc., on the basis of the requirement of section 446(e), I.R.C. 195411 that a taxpayer who changes his method of accounting must first seek the permission278 of the Commissioner. The regulations 12 amplifying this requirement make clear that such consent is required where a change in the overall method of accounting is made, or a change in the treatment of a material item, without regard to whether the taxpayer's new method accurately reflects income for the years in question. Taxpayers are required by the Code to employ a method of accounting that clearly reflects income, section 446(b), I.R.C. 1954, 13 and petitioners' position is tantamount to one which would require a taxpayer to seek the permission of the Commissioner to change his method of accounting only in those cases wherein a method not accurately reflecting income was contemplated. It is fundamental that income can be reported in a variety of ways any of which may be deemed to accurately reflect income for tax purposes, see section 446(c), I.R.C. 1954. American Fire commissions might well be accurately reported on either a cash or an accrual basis. But where the taxpayer make a change from one method of accounting to another certain distortion or "gaps" frequently result from the change even though the income for an individual279 year may be said to be accurately reflected. Therefore, even though Leonhart, Inc., might properly have elected as an original matter to report American Fire commissions on either a cash or an accrual basis, it is required to obtain the consent of the Commissioner before it may change its method of accounting with regard to a material item. 280 A fourth argument of petitioners is that Leonhart, Inc., was not required to obtain the consent of the Commissioner in order to change its accounting for American Fire commission in 1960 because "[the] change was caused by circumstances beyond the control of the petitioners." The gravamen of this argument of petitioners is that since Leonhart, Inc.'s change in accounting was occasioned by a change in Contract No. 4112 over which it had no control and since this change occurred too late for Leonhart, Inc., to timely and Effectively secure the consent of the Commissioner to change its method of accounting for 1960, such consent was not required. We have found that the change made by Leonhart, Inc., in its accounting in 1960 was related to the change in Contract No. 4112. In addition, petitioners point out that Leonhart, Inc., could not have timely and effectively secured the consent of the Commissioner at the time it first learned of the impending change in Contract No. 4112 (on December 20, 1960) because such consent must be applied for 466 within 90 days after the beginning of the taxable year for which the change is subject. In this we agree. Section 1.446-1(e) (3), Income Tax Regs.281 However, petitioners have cited no authority, nor have we found any, which would justify a suspension of the requirement of obtaining the consent of the Commissioner under these circumstances. Moreover, although Leonhart, Inc., might not have known of the change in the contract terms between American Fire and Lloyd's in time to seek the consent of the Commissioner for a change in 1960, such is not the case for 1961. Finally, petitioners maintain that the change was not material within the meaning of section 1.446-1 (e) (2) (i), Income Tax Regs., supra, footnote 12, which states that a change in the method of accounting for the purpose of section 446(e) "includes * * * a change in the treatment of a material item." Petitioners argue that the effect of the change was not material in 1960 in that the amount of income deferred in 1960 as a result of the change was $14,929.08 offset by $13,411.81 representing the amount of the refund alleged by petitioners to have accrued in 1960 which was paid in 1961 by Leonhart, Inc., or a net amount of $1,517.27. This argument appears to be predicated on a misconception of the pertinent regulation, which provides that282 "a change in the method of accounting includes a change in the overall method of accounting for gross income or deductions or a change in the treatment of a material item," section 1.446-1 (e) (2) (i), Income Tax Regs., supra. It is obvious that "material item" should be read in context as "material item of gross income or deductions" and should not be construed as meaning "a material item of net income" nor as meaning a material difference between the amount of income computed under one method of accounting and that computed under another method. There can be no doubt that the commissions from American Fire constituted a material item of gross income. Total commissions from American Fire were $46,735.35 in 1960 and $33,103.94 in 1961. Commissions from American Fire were material both absolutely and with relation to petitioners' gross income in 1960 of $186,442.93 and in 1961 of $210,990.95. However, petitioners also contend that there must be a substantial change in the material item, see Dorr-Oliver, Inc., 40 T.C. 50">40 T.C. 50, 54, and that there has been no such substantial change in this case. In our opinion, petitioners' argument with regard to283 the substantiality of the change is not convincing. In their view the effect of the change in 1960 was to increase the taxable income of Leonhart, Inc., in the net amount of only $1,517.27 representing the difference between $14,929.08 (the amount of the commissions accruable but not received in that year) and the $13,411.81 which Leonhart, Inc., was required to refund to American Fire. While Leonhart, Inc., was required to make a refund of commissions in an amount ultimately determined to be $13,411.81 and made such refund on July 19, 1961, it accrued and deducted this refund on its books in 1960 in the estimated amount of $5,000 even though no obligation to make the refund arose until January 1, 1961. The balance of such refund ($8,411.81) was deducted by Leonhart, Inc., in 1961. The respondent has not questioned the right of Leonhart, Inc., to deduct $5,000 in 1960 and $8,411.81 in 1961 on account of this refund. Under these circumstances we think that this refund item is not relevant in a calculation of the net distortion of income attributable to Leonhart, Inc.'s change in accounting method. 14 The understatements of the income of Leonhart, Inc., attributable to its change of284 accounting method are in the amounts of $14,929.08 for 1960 and $15,596.15 for 1961. In our opinion this change was and is substantial. For the above reasons we decide this issue for the respondent. 467 Issue 4: "Salaries" of Petitioners' Sons Our findings of fact regarding this issue indicate clearly that neither petitioners' son Bill nor their285 son Jay performed any substantial services which furthered the business of Leonhart, Inc., other than those services performed by Bill in the first half of 1960 for which a salary deduction was allowed by the respondent. Jay was away from Baltimore for virtually the whole period in which he was receiving a "salary" of $200 per month and the only activity performed by him relating to the business of Leonhart, Inc., was to be present at one or two business conferences held in Boston in December of 1960. Although Bill did spend some time, at Harold's request, translating from French and German some written material having to do with reinsurance, we are convinced that Leonhart, Inc., had little or no interest in the translation for its own sake. Neither have petitioners shown that the periodic payments made to Bill and Jay which are here in issue were in consideration of their occasional efforts to entertain friends and clients of Harold, by playing music. 15286 Petitioners' primary argument on this issue is that the amounts paid to Jay and Bill are deductible by Leonhart, Inc., as salary not because they were made for the purpose of obtaining the services of Bill and Jay which could be considered realistically as a quid pro quo for such payments, but because they were paid in an effort to interest the boys in its business and constituted one of "the Company's methods of inducing them into the business," the other "methods" being the "Music Club," "frequent communications" and "delegation of seemingly trivial tasks." Petitioners cite no pertinent authority for their argument. We have found Harold was interested in having Bill and Jay, both of whom were contemplating careers in music, enter his reinsurance business with the hope that one or the other or both of them might succeed him in its management. See our additional findings of fact for Issue 6. Both did elect to join the business in 1964, several years later. However, petitioners have failed to establish that the payments made to Bill and Jay were caused by Harold's desire to influence Jay and Bill in their choice of careers rather than by the personal motives of a father who desires287 to finance the education of his children in a manner which would benefit him tax-wise. Petitioners have not shown that Jay was required to do anything which might increase his interest in the insurance business in order to "earn" the payments made to him, and we can see no significant relationship between these payments and Harold's interest in Jay's entering the reinsurance business. While Bill was brought into contact with a small amount of written material dealing with reinsurance which he might not have had if his father had not made the payments in question, we are not persuaded by the evidence adduced by petitioners that the disallowed payments made to Bill were other than sums advanced in the nature of an "allowance" to a son. In the letter from Harold to Bill sent just prior to the time when the disallowed payments were begun, portions of which we have set out in our findings of fact on this issue, Harold noted that he had just paid off a personal bank loan endorsed by a friend of Harold's which Bill had incurred and stated that "I would appreciate your not making any requests of anyone in the organization or anyone that I know for assistance of that type or financial assistance288 - you can ask me." And in the letter written by Bill to Harold in connection with the payments here in question which we have quoted in our findings Bill writes that he is "not merely translating this book as a personal favor to you or for my own edification but as part of a project, for which you are responsible to the Internal Revenue * " and makes another reference to "the Internal Revenue" in connection with a "suggestion properly in terms of a feasible solution to the present situation." This strongly suggests that Harold's primary expressed interest in his financial arrangements with Bill was the deductibility of the payments arranged to be made to Bill rather than the usefulness to Harold or to Leonhart, Inc., of any work to be done by Bill. We find that the payments made to Bill and Jay in 1960 and 1961 disallowed by respondent were of a personal, non-deductible nature and we so hold. 468 The case cited by petitioners of Kilpatrick v. U.S., an unreported case ( S.D. N. Y. 1952, 44 A.F.T.R. (P-H) 1040">44 A.F.T.R. 1040), is inapposite. In that case the employer made a payment of $3,000 to his son in 1943 while the son was in the armed services, during which period he admittedly289 performed no services for the employer, although he had been employed by his father before the war and re-entered his employment after the war. A deduction was allowed pursuant to a ruling of the Commissioner which provided for the deduction of salaries paid during the Second World War to employees who are absent in the military service but who intend to return to their employment at the conclusion of the war. I.T. 3417, C.B. 1940-2, p. 64. In addition to the fact that the deduction was allowed primarily on the basis of the special ruling cited, the employee in Kilpatrick had completed his education and worked for his father for two full years prior to his entrance into the military and returned to this employment after the war. Petitioners have not argued the question of the deductibility of the employment taxes paid by Leonhart, Inc., apart from the question of the salary deduction itself. Respondent characterizes these payments as "voluntary payments in furtherance of a scheme of tax avoidance" and therefore "not payments of any true tax liability." A deduction for a tax paid but later determined to have been erroneously paid may be allowable in the year paid, Baltimore Transfer Co., 8 T.C. 1">8 T.C. 1,290 but only if the liability therefor was actual or apparent when paid. Cooperstown Corp. v. Commissioner, 144 F. 2d 693; Hart Furniture Co., 12 T.C. 1103">12 T.C. 1103, rev'd on another point; Kenyon Instrument Co., 16 T.C. 732">16 T.C. 732. In the last three cases cited, wherein deductions for taxes paid were denied, the taxes were erroneously paid because of oversights on the part of the taxpayers involved and it was indisputable that no tax liability existed. Petitioners have likewise failed to establish by their evidence herein that there was an actual or apparent liability on the part of Leonhart, Inc., to pay the employment taxes relating to the disallowed salaries. On the authority of the Cooperstown, Hart, and Kenyon cases, supra, we hold that the deductions for employment taxes relating to the disallowed salaries were properly disallowed. Issue 5: The Shropshire Biography Our additional findings of fact relating to this issue are dispositive of it. It is well settled that deductions are a matter of legislative grace and that the taxpayer seeking a deduction bears the burden of pointing to an applicable statute and showing that he comes within it. New Colonial Ice Co. v. Helvering, 292 U.S. 435">292 U.S. 435.291 The Shropshire biography was written by Harold's brother. The subject of this biography, affectionately referred to by Harold as "Dr. Shrop," was the founder of the Civitan Club International and was a close personal friend of Harold's rather than a business associate. Harold was a member of the Civitan Club, which was a service organization, unrelated to the insurance business. Under the circumstances it would be difficult for petitioners to establish that the payments of Leonhart, Inc., in connection with the publication of this book constituted deductible business expenses of Leonhart, Inc., or of petitioners. They have failed to do so and we so hold. Issue 6: "The Leonhart Music Club" With regard to the deductibility by Leonhart, Inc., of expenditures and depreciation relating to the so-called "Leonhart Music Club," the only contention stated by petitioners in the pleadings and on brief is to the effect that these deductions are proper since "the musical instruments were used for the entertainment of Harold's customers." Petitioners have adduced testimony to the effect that Bill and Jay were called upon to play before customers of Harold. The record also shows that Harold292 himself was interested in music having at one time played an instrument in a symphony orchestra, that his father had been a dealer in musical instruments, that his entire family consisting of eight members was interested in music and played musical instruments and that the so-called "Music Club" acquired instruments including 2 pianos, an electric player piano, 2 ukeleles, a number of banjos and guitars, 2 flutes, a base [bass] fiddle, a bass, a recording instrument, a record player and a radio. The record before us does not disclose which, if any, of these instruments were used by Bill and Jay in connection with their very occasional entertainment of Harold's customers or explain the necessity of the purchase of over 469 $10,000 worth of musical instruments for these occasions. In our opinion, the evidence as a whole indicates that the musical instruments were acquired and the expenditures relating to the "Music Club" were made for the primary reason that Harold had a personal interest in the collection of musical instruments, that he and his entire family derived pleasure from music and the playing of musical instruments, and that Harold took great personal pride in the musical293 talents of his children. The evidence adduced by petitioners on this issue fails to prove that a substantial reason for the acquisition of the musical instruments and the expenditures by Leonhart, Inc., was to furnish musical entertainment to the customers and prospective customers of Leonhart, Inc., for the purpose of stimulating its business and increasing its profits. There are vague suggestions in the record to the effect that petitioners intended the operation of the "Music Club" to be a profitable business enterprise regardless of its effect on the sale of reinsurance. The evidence would not support such a contention, and, as we have indicated it was not made by petitioners on brief. Petitioners do make the observation on brief that "[the] musical activity appears on much too vast and professional scale as to be classified as personal." Petitioners are apparently referring to the musical activity of Bill and Jay, who were members of a musicians' union and played professionally during the taxable years. The evidence indicates that Bill earned up to $14 per hour performing in hotels and at private parties and that Jay played with a professional orchestra in the summer of294 1961. However, the only evidence of "income" of Leonhart, Inc., which could be attributed to the "Music Club" was a copy of a bank deposit slip dated September 14, 1961, which indicated that Leonhart, Inc., had been credited with $100 representing a "performance fee" of William H. Leonhart, II. There was no testimony with regard to this deposit. 16 Any "vast and professional scale" of musical activity appears to be in the professional musical appearances of Bill and Jay as individual musicians earning money on their own account. We are unable to see how the individual professional activity of Bill and Jay could be relevant to the question of whether the expenditures and depreciation of Leonhart, Inc., here in issue are properly deductible. Petitioners have failed to establish any significant relation between the expenses and depreciation related to the295 "Music Club" and the business of Leonhart, Inc., and respondent's determination is upheld on this issue. Issue 7: Deductions Relating to Leonhart, Inc., Automobiles Petitioners take the position that the burden of proof regarding this issue has shifted to respondent because (1) "the number of mathematical errors in [schedules relied upon by the respondent in making his determination] is appalling" and (2) the procedure used by the respondent was arbitrary. They further contend that "the best evidence of automobile expenses and depreciation is the contemporaneous entries made on the books of the company." Since many of the "appalling errors" referred to by petitioners are erroneous figures appearing in the books of Leonhart, Inc., itself or supplied by petitioners and since petitioners have pointed out in their briefs specifically only two such errors, one a $.43 mistake in addition and the other a misallocation of an amount of $11.21 as between two of the Leonhart, Inc., automobiles, it is our opinion that petitioners have failed to establish that a presumption of correctness should not attach to the respondent's determination because of mathematical errors. It is also our296 opinion that petitioners fail in their contention that respondent's method of determining which of the cars was used and in what proportion, if any, for business purposes, and of allowing a deduction for that proportion of the amount established to have been expended for that vehicle was arbitrary. Petitioners offered a great deal of evidence relating to the total amounts expended by Leonhart, Inc., for its various automobiles. We have found in our findings of fact that the sums claimed as expended by Leonhart, Inc., were so expended. However, petitioners offered virtually no evidence as to the business use, if any, to which any of the automobiles were put. The evidence introduced relating to such 470 business use was vague, general, and unpersuasive. Petitioners have failed to convince us that any member of the Leonhart family other than Harold used any of the company automobiles for business purposes to more than a negligible extent. Petitioners have further failed to establish that any member of the family other than Harold and Bill was a bona fide employee of Leonhart, Inc., and drove any of the cars as a "fringe benefit." 17297 Although petitioners offered only the unsupported testimony of the accountant of Leonhart, Inc., to establish that a 1959 Cadillac was kept in Florida for the use of Harold as well as officials of the American Fire and Casualty Co., we have determined that the Cadillac was so maintained. We also have determined that the Chevrolet used by Margaret Sands was used by her to the extent of 50% although we have been unable to determine the extent or purpose of Mrs. Lindsay's use of the 1951 Ford. Respondent contends that no amounts expended by Leonhart, Inc., on automobile expenses for the benefit of Leonhart, Inc., employees are deductible unless the automobile was used in connection with and for the direct benefit of the business of Leonhart, Inc. We think otherwise. We have found in our findings of fact that one employee of Leonhart, Inc., Margaret Sands, had the use of a 1957 Chevrolet approximately 50% of the time. Respondent has not contended that the relation between Harold or his company and this employee was anything other than a business relationship or that Leonhart, Inc., intended to make a gift to this employee of the use of a company automobile. In our opinion the record298 requires a conclusion that Leonhart, Inc., permitted this employee to make use of the automobile for its own business purpose, either to improve employee relations or supplement compensation paid in cash to this employee or for both reasons. These expenses are therefore deductible as ordinary and necessary business expenses of Leonhart, Inc., to the extent indicated. See McCoy-Brandt Machinery Co., 8 B.T.A. 909">8 B.T.A. 909; and Cecil R. Hopkins, 30 T.C. 1015">30 T.C. 1015, rev'd on another issue, 271 F. 2d 166. The question of the includability of any portion of these sums in the income of the employee is not before us. We think the respondent was justified in disallowing any deduction for amounts spent on gasoline, license plates, etc., which could not be allocated to any particular car since no evidence was introduced which would indicate, even in a general way, the relative use to which the various individual cars were put. To sum up, we are holding that in addition to the deductions for expenses and depreciation relating to automobiles allowed by respondent, the following deductions are allowable to Leonhart, Inc.: (1) $11.97 and $11.50 for repairs to the 1958299 Chrysler in 1960 and 1961 respectively. (2) 50% of the amounts claimed for repairs on the 1957 Chevrolet for the years 1960 and 1961. (3) $121.43 for repairs to the 1959 Cadillac in 1960. The respondent's determination is upheld in all other respects, including his disallowance of a claimed loss on the sale of a 1957 Cadillac driven primarily by Martha and the expenses incurred in returning a Jaguar from New York to Baltimore, neither of which automobiles was shown to have been used in the business of Leonhart, Inc., and also including his disallowance of unsubstantiated deductions claimed on account of the cost of repairs to an automobile of some undisclosed business associate and on account of the cost of what is described as "paint purchased through petty cash" for "repairs for business." No evidence was introduced with regard to the last two items. Issue 8: Legal Expenses In its return for 1961 Leonhart, Inc., claimed certain deductions on account of professional services. Respondent here disallowed $1,200 of such deductions as representing "an expenditure unrelated to the business activity of Leonhart & Company, Inc." A voucher indicating that the payment of $1,500 was300 for the account of Harold, Leonhart, Inc., Leonhart and Co. of Maryland, Inc., and Southern Underwriters is the only evidence in this record bearing on the services for which payment was made. Petitioners have failed to show that any part of the amount paid in addition to the deductions allowed by the respondent 471 was a business expense of Leonhart, Inc. See Forcum-James Co. 7 T.C. 1195">7 T.C. 1195, 1219. Petitioners have advanced the contention that respondent's partial disallowance of this deduction for legal fees could only be valid if it was specifically made pursuant to the authority granted by section 482, I.R.C. 1954. In our opinion this argument is without merit. Issue 9: Travel and Entertainment Expenses Many of the items claimed by Leonhart, Inc., as deductions for travel and entertainment expense are determined on the basis of our findings of fact and do not require further discussion herein. The petitioners have failed to prove that the expenditures relating to the following items were ordinary and necessary business expenses of Leonhart, Inc.: (1) the expenses of the South American tour, (2) the payment to the Merchants Club, (3) the301 payment to the Diner's Club, (4) the expenses of the Nassau and Miami trip, except to the extent of 1/8 of the $265.22 paid to American Airlines relating to the trip, or $33.15, representing Harold's share, (5) expenditures for flowers, except to the extent of a payment of $15.46 in 1960 relating to "Hayes" and "Porter," (6) the payment incident to the F.B.I. "Steak-Out," and (7) the payment to the University Club of Orlando. Petitioners have established that payments for flowers in 1960 to the extent of $15.46 relating to "Hayes" and "Porter," business associates of Leonhart, Inc., and 1/8 of the payment of $265.22, or $33.15, representing Harold's share of expenses of the Nassau and Miami trip (rather than the 1/9 share, or $29.47, allowed by the respondent) are valid business expenses of Leonhart, Inc., for 1960. Respondent's primary contention regarding Leonhart, Inc.'s claimed deductions in 1960 for the expenses relating to Englewood Lodge of $1,200, gifts to American Fire and Casualty officials of liquor in the amount of $843.40, and entertainment of American Fire officials on the occasion of the 33rd anniversary of that company costing $859.31 is that these items were properly302 business expenses of Southern Underwriters, Inc., rather than Leonhart, Inc. We think this contention is without merit. Formally, Leonhart, Inc., usually dealt with American Fire and Casualty through Southern Underwriters, Inc., and we have so found in our findings of fact. However, it is obvious that in reality the source of the reinsurance commissions received by Leonhart, Inc., was the American Fire and Casualty Co. This is demonstrated by the fact that Leonhart, Inc., reported a total of $46,735.35 in commissions from American Fire and Casualty in 1960. With regard to these items we decide in favor of petitioners. Petitioners have argued strenuously for the deductibility of various expenditures of Leonhart, Inc., relating to the expenses of Martha while traveling with Harold on business. These include the expenses incurred on her account in 1960 in Richmond, Virginia, on trips to Nassau and London, her rail fare to New York, and in 1961 her hotel expenses in New York and San Francisco. The portion of the expenditures in connection with these trips and visits which related to Harold was allowed by respondent. In addition to these disallowed expenses of Martha are amounts claimed303 as deductions in 1961 representing Martha's portion of expenses at a variety of hotels which were paid by Harold and not reimbursed by Leonhart, Inc. These unreimbursed expenditures relating to both Harold and Martha enumerated in our findings of fact, were disallowed by the respondent in their entirety. It has not been established on this record that Martha served any other than a social function while traveling with Harold on business. Petitioners do not contend that she took any part whatsoever in the discussion or transaction of business, but rather that her presence facilitated the development of a closer relationship between Harold and a prospective client. Petitioners state on brief that "[it] is very helpful for a reinsurance broker to have his wife along on a [business] trip * * * and especially helpful if the client can also have his wife present." Although the testimony regarding the functions performed by Martha while away from home with Harold was of a very general nature and although Martha herself testified only very briefly, we do not doubt that Martha was helpful to Harold when she accompanied him on business trips. But this is not enough to qualify the expenditures304 as "ordinary and necessary expenses paid * * in carrying on [a] trade or business" within the meaning of section 162. We said in L. L. Moorman, 26 T.C. 666">26 T.C. 666, at 679: The petitioner testified that his wife assisted him in his work while on these business trips and that she was of help 472 in entertaining the dealers. However, the evidence does not establish that her services were necessary, although they may have been helpful. The evidence here is not sufficient to show that these expenditures on behalf of the wife were not family expenses [and thus] non-deductible. We think this statement applied with equal force in the instant case. See Alabama-Georgia Syrup Co., 36 T.C. 747">36 T.C. 747, 769, reversed sub nom. L. B. Whitfield v. Commissioner on other grounds, 311 F. 2d 640; Walter M. Sheldon, 299 F. 2d 48, affirming a Memorandum Opinion of this Court. The respondent disallowed not only the expenses of Martha relating to the London trip but also those of Mrs. Madgett, who, with her husband, a business associate of Harold, accompanied the Leonharts on the trip. Neither petitioners nor respondent have attempted to distinguish these305 expenses from those of Martha, but we think they stand on entirely different footing. Although it has not been established, nor was it claimed, that either Martha or Mrs. Madgett took any formal part in the transaction of business on the London trip, we are convinced that the expenditures made by Leonhart, Inc., on behalf of the latter were made for business rather than personal reasons. Madgett testified that he was in a position, as vice president of Mutual of Omaha, alone or in conjunction with others, to decide which broker would be selected to handle the company's reinsurance business. He further testified that the relation between him and Harold was of a business rather than social nature, which testimony was not contradicted. Whether the expenses of Mrs. Madgett are deemed to be "travel" expenses or "entertainment" expenses, we think petitioners have sustained their burden of establishing that they were paid by Leonhart, Inc., for business reasons, a burden they have not sustained regarding the expenses of Martha. 18 We have, therefore, held that the expenditures made by Leonhart, Inc., relating to the expenses of the Madgetts on the London trip, less the $750 reimbursement306 made by them, is deductible by it. Leonhart, Inc., claimed as deductions for 1960 and 1961 the amounts of $343.13 and $621.41 respectively, representing liquor expense. Although these expenditures represent liquor consumed on the premises occupied by Leonhart, Inc., Leonhart and Co. of Maryland and Southern Underwriters, Inc., petitioners made no attempt to allocate the expense among the three corporations. Rather, they take the erroneous position that Leonhart, Inc., is entitled to the full deduction because Leonhart and Co. of Maryland and Southern Underwriters claimed no deduction for any part of these amounts nor could they have since the amounts were paid by Leonhart, Inc. This fact, even if true, does not transform business expenses of Leonhart and Co. of Maryland and Southern Underwriters into a business expense of Leonhart, Inc. In the absence of any evidence as to the proper allocation of the liquor expenses as among the three related307 corporations, we have determined that Leonhart, Inc., is entitled to 1/3 of the amounts claimed for each year. Cohan v. Commissioner, 39 F.2d 540">39 F. 2d 540. Leonhart, Inc., claimed as a deduction in the amount of $411 in 1960 the cost of first editions of a Johnson Dictionary and Boswell's Life of Johnson. These books were kept in the offices of Leonhart, Inc., and used as "talking points" with customers of Leonhart, Inc., particularly those from London, until 1966, at which time they were donated to an educational institution. Petitioners claim on brief that if the cost is not allowable as an expense in 1960, it should be properly amortized over the six years that the books were held by Leonhart, Inc. It was Harold's testimony that the books were worth more than $411 at the time they were donated. Petitioners have failed to establish that the useful life of the books in the business of Leonhart, Inc., was less than one year or that their salvage value was less than cost during 1960 and 1961. The respondent's determination is therefore sustained with regard to this item. Among the deductions claimed by Leonhart, Inc., in 1961 on account of travel expenses were deductions308 of expenditures incident to a trip to Europe of Harold and James O. Honeywell, an officer of the New Amsterdam Insurance Co. These included the sums of $1,751.16 for "Steamer" and $611.37 for "Mayfair Hotel." Respondent disallowed the deduction of one-third of the expenses for "Steamer" and one-half 473 of the expenses involved in the item "Mayfair Hotel" or a total of $889.38. Just before leaving on the trip Honeywell gave his check to either Harold or Leonhart, Inc., for $875.58 as repayment of one-half of the expenditures made by Leonhart, Inc., on account of "Steamer" expenses. Accordingly it is obvious that the unreimbursed expenditures of Leonhart, Inc., in connection with any travel expenses of Honeywell amounted to only $13.80, which amount we determine to be a deductible business expense of Leonhart, Inc. With regard to petitioners' alternative contention that they are entitled to deduct the amount of $875.58, which was the proceeds of Honeywell's reimbursing check, we point out that there was no convincing proof offered by petitioners as to the times when or the purposes for which Harold paid out these proceeds. Of the items claimed by petitioners on their amended petition309 as business expenses of Harold for 1961, the following items have not been proved to be either business expenses of Harold or of Leonhart, Inc.: (1) checks cashed by Harold in even amounts at various hotels totaling $2,325, (2) a payment to the Mecca Restaurant, (3) payments to Berger A. Gustafson, and (4) expenses of Harold and of Harold and members of his family at the various hotels enumerated in petitioners' amended petition. Petitioners have failed to prove that the memberships purchased by Harold at the Playboy Club in Chicago and the University Club of Orlando did not have a useful life beyond the year of acquisition or that their benefits were not of an indefinite duration. Therefore, the respondent's determination is upheld with respect to these two items. Mercantile National Bank at Dallas, 30 T.C. 84">30 T.C. 84, 95. Of an amount of $137.51 paid to the Swetman Travel Service by Harold representing the cost of transportation of Harold and Michael Wheeler from Orlando to Baltimore, petitioners have established that the 1/2 relating to Harold's travel is deductible by petitioners as an ordinary and necessary travel expense of Harold in his capacity as an officer of Leonhart, 310 Inc. Section 162(a) (2). The portion of the expenditure relating to Wheeler has not been proved to be related to any business of Harold or of Leonhart, Inc. Although the check drawn by Harold to the order of "The Evergreen Annual," a Loyola College (Maryland) yearbook, bore the notation "contribution," Harold testified that the payment was on account of a business advertisement relating to Leonhart, Inc. The respondent has accepted this characterization of the payment as a business expense but contends that the item is not deductible by Harold because it was an expense of Leonhart, Inc., rather than of Harold individually and at the same time would not be deductible by Leonhart, Inc., since it was not paid for by it. We think this amount, paid by Harold and not reimbursed by Leonhart, Inc., is properly deductible by petitioners. Deductions have been allowed to sole shareholders of corporations for expenditures made by them in connection with the corporations where reason exists to disregard the distinction between the corporation and its owner. Archibald R. Watson, 42 B.T.A. 52">42 B.T.A. 52, affirmed, 124 F.2d 437">124 F. 2d 437. Under the circumstances present herein, i.e., the311 election by petitioners themselves to have Leonhart, Inc., in effect disregarded for tax purposes by their election to have it treated as a small business corporation under Subchapter S and the inability of petitioners to gain any tax advantage by attempting to shift this deduction from Leonhart, Inc., to themselves, we decline to uphold the determination of the respondent with respect to this item. Issue 10: Deductions Alleged to Have Been Claimed for the First Time On Brief We have found in our findings of fact that Harold expended $275.57 and $1,155.67 in 1960 and 1961 respectively for liquor consumed at the Leonhart residence for which Harold was not reimbursed by Leonhart, Inc., or any other corporation and which was utilized to the extent of one-half in business entertaining by Harold. We further found that petitioners made a payment of $50 in 1961 to the "St. Mary's Building Fund," which constituted a payment to a qualifying organization under section 170, I.R.C. 1954. The respondent has made no contention contrary to these findings. Petitioners allege that they made cash contributions to a church averaging $10 per week, or a total of $520 for each312 of the years 1960 and 1961. With regard to this item, Harold's uncorroborated testimony may be fairly summarized as follows: that he made cash contributions during 1960 and 1961 to a church which he believed was St. Mary's Church of Govans, that the amount he gave depended on "the number of persons attending with [him] or whether [he] 474 put up the money for them or whether they had the money themselves" and that he thought it would average "close to $10.00 a week cash." From the whole record herein we are satisfied that petitioners were active members of the Roman Catholic Church and had an established pattern of giving to its causes. While we are accordingly satisfied that petitioners made cash contributions to their church we are not satisfied by the testimony with regard to the amount thereof. Applying the so-called Cohan rule we have determined as an ultimate fact that the deductible amount of such cash contributions to petitioners' church was $200 in each of the years 1960 and 1961. The respondent takes the position that deductions in respect to these items should not be allowed because in his view the question of their deductibility was raised for the first time313 on brief. We disagree. In an amendment to their petition petitioners raised the general question of "additional deductions not claimed on their 1960 and 1961 individual tax returns representing unreimbursed business expenses and unclaimed charitable contributions…" The portion of the stipulation entered into by the parties relating to the amended petition and set out in our finding refers to a "summary" of contributions and unreimbursed business expenses for 1961. There is no language in the stipulation indicating that the "summary" was intended to be such a complete schedule of all the specific items intended to be covered by petitioners' amendment as to preclude the consideration of any additional items of the types referred to in the amendment. In fact, a contrary inference is to be drawn from the fact that the amendment refers to contributions and unreimbursed business expenses for 1960 and 1961 whereas the stipulated paragraph and exhibit referred to therein relate only to contributions and expenses for 1961. Furthermore, we think any possible ambiguity regarding the scope of the amendment to petitioners' petition was resolved at the hearing, at which time Harold testified314 with respect to each of the three items discussed under the issue without objection by counsel for respondent and petitioners introduced in evidence, also without objection from counsel for the respondent, exhibits relating specifically to two of these items (although there were no exhibits introduced relating to the cash contributions to a church). We think that the questions of the deductibility of the unreimbursed liquor purchases, the contribution to the "St. Mary's Building Fund" and the weekly church contributions were properly before the Court, that respondent has in no way been surprised or disadvantaged, and that the deductions should be allowed to the extent indicated. See Arthur C. Ruge, 26 T.C. 138">26 T.C. 138. Issue 11: Expenses of Summer Home Although Harold testified that Sherwood Forest was used to entertain employees and clients of Leonhart, Inc., and Jay Leonhart and Richard Lurito, a school friend of Jay's, testified that Bill and Jay entertained employees and customers of Leonhart, Inc., at Sherwood Forest with their music, none of them identified even one employee or customer who was so entertained nor indicated when such entertainment took place. Harold315 testified that he went up to Sherwood Forest twice a week in the summer, but his daily calendar for the summer months of 1960 indicates that he was out of town almost half the time and fails to reflect even one instance of Harold's taking an employee or customer to the Sherwood Forest home. Although in 1956 Martha extended a written invitation to the employees of Leonhart, Inc., to visit Sherwood Forest at any time through July 1, 1957, there is no evidence on this record that this invitation was renewed in any subsequent year. Under the circumstances, we think petitioners have failed to establish that the Sherwood Forest property was used to any material extent for the entertainment of employees or clients of Leonhart, Inc., and the claimed deduction for maintenance expenses thereon is accordingly disallowed. Issue 12: Negligence Penalty It is the respondent's determination that at least part of the deficiencies in petitioners' tax for the years 1960 and 1961 were due to their negligence or intentional disregard of rules and regulations but without intent to defraud and that therefore petitioners are liable for a 5% addition to tax pursuant to section 6653(a). 19 This determination316 by the 475 respondent is presumptively correct, and it is incumbent upon the petitioners to convince us that such a determination is erroneous. David Courtney, 28 T.C. 658">28 T.C. 658, 669-670. We think petitioners have failed to do so. The record is replete with evidence of deductions erroneously claimed by petitioners on grounds which were obviously untenable. See Fihe v. Commissioner, 265 F. 2d 511. As examples of acts which, taken in their entirety, constitute in our opinion negligence within the meaning of the statute, we point to the following: (1) The deduction of 100 percent of the depreciation on the automobiles held in the name of Leonhart, Inc., regardless of the obvious and conceded fact that many were used to a considerable extent for personal rather than business purposes. (2) The computation of depreciation on some of the automobiles (including the most expensive) held in the name of Leonhart, Inc., without ascribing salvage values to them as was done with the other automobiles. (3) The deduction by Leonhart, Inc., of depreciation on approximately $10,000 worth of musical instruments including 2 pianos, an electric player piano, a record player and a radio, without any attempt to show a valid business purpose for the acquisition and ownership by Leonhart, Inc., of a number of these instruments. (4) The inclusion in the deduction taken on account of "Music Club" expenses of amounts paid for music lessons given to three of petitioners' children. (5) The deduction as a business expense by Leonhart, Inc., of a number of payments made by it on account of restaurant and bar bills incurred by317 petitioners' son Bill at times when it was obvious that Bill was not employed by Leonhart, Inc. (6) The deduction of depreciation on equipment used in connection with petitioners' summer house which had already been fully depreciated. Decision will be entered under Rule 50. Footnotes1. During the taxable years Leonhart, Inc., had six vice presidents, including petitioner Martha, James C. Leonhart (Harold's brother), Lillian Claus (who was also Treasurer), and Otis Clark, who lived in San Francisco, was in some phase of the insurance business and with whom Leonhart, Inc., "had a substantial account." The duties, if any, of these vice presidents are not disclosed by the record.↩. The salvage value of this automobile shown on the "Automobiles Depreciation Schedule" (Petitioners' Exhibit 159) was zero. No explanation is given by petitioners as to why depreciation was calculated on this automobile without ascribing some salvage value to it. [This table has been constructed from Exhibit 177 and schedules A and B of respondent attached to his deficiency notice]↩2. Since depreciation deducted on these cars (which included the 1958 Olds and the 1957 Cadillac) was disallowed in toto, it was not necessary for respondent to make any adjustments increasing the salvage values from zero, as in the case of the Chrysler Imperial.↩3. Petitioners introduced at trial copies of a ledger account of Leonhart, Inc., for the years in question, schedules indicating the amounts claimed as a deduction and the amounts denied, and a summary of these schedules, all relating to "automobile expense," including repairs. Petitioners' summary varied somewhat from the schedules from which it was constructed although the totals of the amounts claimed and of the amounts denied were unchanged. Since the respondent has not challenged petitioner's figures as to the total amount expended by Leonhart, Inc., or their allocation of this amount as among various automobiles, we have adopted petitioners' summary as a true statement of the total amount expended by Leonhart, Inc., for "automobile expense" and of the allocation of such expenditures to particular automobiles, or to individual members of the Leonhart family.↩4. The total amount claimed in 1961 for automobile expense was $4,209.81 reduced by $395 representing an amount credited to the expense account by Leonhart, Inc., for the receipt of insurance proceeds as a result of an accident damaging the 1953 Oldsmobile.↩5. At the hearing petitioners agreed that the only part of the $189.90 disallowed related to the expenses of Martha and Mrs. Madgett. On brief petitioners contend that a part of the disallowed amount represented other business trips taken by Harold. Since no evidence was introduced relating any part of this amount to some other business trip of Harold, we will treat the entire amount disallowed as expenses relating to the wives of Harold and Donald Madgett on a trip which was of a business nature as far as the husbands were concerned.↩6. Southern Underwriters also had an office in New York.↩7. Although there is some evidence that a portion of this amount relates to traveling other than the Nassau and Miami trip, both parties apparently agree that the entire amount related only to that trip and we will so treat it.↩8. Included among the photostats of this hotel bill and the check in payment thereof contained in petitioners' Exhibit 131 are photostats of two handwritten "memos" bearing the name "The Chapman Park." One of them reads as follows: "Father John J. Walsh - S.J. Dean, Marquette Univ. Pessimism - Cynicism - There is no love in a world that does not love God." The other reads as follows: "Man - conscious but bereft of purpose - Milton - Shaw - Mind is a Miracle - Matter is a fact."↩9. SEC. 6037. RETURN OF ELECTING SMALL BUSINESS CORPORATION. * * * Any return filed pursuant to this section shall, for purposes of chapter 66 (relating to limitations), be treated as a return filed by the corporation under section 6012.↩10. The question of the deductibility of this item as a business expense is discussed infra, under "Issue 9."↩11. SEC. 446(e)↩. REQUIREMENT RESPECTING CHANGE OF ACCOUNTING METHOD. - Except as otherwise expressly provided in this chapter, a taxpayer who changes the method of accounting on the basis of which he regularly computes his income in keeping his books shall, before computing his taxable income under the new method, secure the consent of the Secretary or his delegate. 12. Sec. 1.446-1(e). Requirement Respecting the Adoption or Change of Accounting Method. (2)(i) Except as otherwise expressly provided in chapter 1 of the Code and the regulations thereunder, a taxpayer who changes the method of accounting employed in keeping his books shall, before computing his income upon such new method for purposes of taxation, secure the consent of the Commissioner. A change in the method of accounting includes a change in the over-all method of accounting for gross income or deductions, or a change in the treatment of a marital item. Consent must be secured whether or not a taxpayer regards the method from which he desires to change to be proper. Thus, a taxpayer may not compute his taxable income under a method of accounting different from that previously used by him unless such consent is secured. ↩13. SEC. 446(b)↩. Exceptions. - If no method of accounting has been regularly used by the taxpayer, or if the method used does not clearly reflect income, the computation of taxable income shall be made under such method as, in the opinion of the Secretary or his delegate, does clearly reflect income.14. The right of Leonhart, Inc., to have accrued any amount under their old accrual method of accounting as a deduction in 1960 on account of a refund is questionable since no obligation to make such refund arose until 1961. Therefore, if we should consider this refund as relevant to a consideration of the substantiality of the change in the material item and would apply Leonhart, Inc.'s old method of accounting to both the item of income (the $14,929.08) and the item of deduction (the $5,000) in 1960 it might well be that the income of Leonhart, Inc., would be increased by $14,929.08 and its deductions decreased by $5,000 because of the apparent non-accruability of this latter amount. This would result in the net distortion of Leonhart, Inc.'s income being $19,929.08 in 1960 instead of the $14,929.08 determined by respondent.↩15. Presumably any payments from Leonhart, Inc., to Jay or Bill on account of their musical activity would have been reflected on the account of the "Leonhart Music Club." This account was credited with one unidentified payment of $100 during the years in question. See our additional findings of fact relating to "Issue 6."↩16. We note that during September 1961, Bill received, from Leonhart, Inc., 3 checks for $100 each instead of the 2 checks for $100 received by him during the other months of 1960 and 1961 when he was purportedly employed by Leonhart, Inc., "at $200.00 per month." (See additional findings of fact relating to Issue 4, supra.)↩17. It is conceded that Bill was employed by Leonhart, Inc., for the first five months of 1960. But petitioners have failed to prove that any repairs or other expense items relating to an automobile used by Bill were paid or incurred by Leonhart, Inc., during the period of Bill's employment.↩18. We note that any question of the deductibility of an entertainment expense herein is to be decided under section 162 rather than the more stringent section 274, which was not effective until taxable years ending after December 31, 1962.↩19. SEC. 6653. FAILURE TO PAY TAX. (a) Negligence or Intentional Disregard of Rules and Regulations With Respect to Income or Gift Taxes. - If any part of any underpayment (as defined in subsection (c)(1)) of any tax imposed by subtitle A or by chapter 12 of subtitle B (relating to income taxes and gift taxes) is due to negligence or intentional disregard of rules and regulations (but without intent to defraud), there shall be added to the tax an amount equal to 5 percent of the underpayment.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623763/	MEDICAL PRACTICE SOLUTIONS, LLC, CAROLYN BRITTON, SOLE MEMBER, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, RespondentMedical Practice Solutions, LLC v. Comm'rNo. 14668-07LUnited States Tax Court132 T.C. 125; 2009 U.S. Tax Ct. LEXIS 6; 132 T.C. No. 7; March 31, 2009, Filed6 Single member LLC failed to pay employment taxes for several periods. Notices of lien and of intent to levy were sent to B, sole member of LLC. After hearing under sec. 6330, I.R.C., notice of determination sustaining lien and proposed levy were sent to "LLC, B, Sole Member", pursuant to sec. 301.7701-3(b), Proced. & Admin. Regs. (check-the-box regulations). B claims that only LLC is liable and that check-the-box regulations (as applicable to employment taxes related to wages paid before January 1, 2009) are invalid.Held: Collection may proceed against B. Littriello v. United States, 484 F.3d 372">484 F.3d 372 (6th Cir. 2007), and McNamee v. Dept. of the Treasury, 488 F.3d 100">488 F.3d 100 (2d Cir. 2007), followed.Carolyn Britton, for petitioner.Louise Forbes, for respondent.Cohen, Mary AnnMARY ANN COHEN125 OPINIONCOHEN, Judge: This case was commenced in response to a Notice of Determination Concerning Collection Actions(s) Under Section 6320 and/or 6330 addressed to "Medical Practice Solutions LLC, Carolyn Britton, Sole Member" (petitioner), with respect to unpaid employment taxes for quarters ended March 31 and June 30, 2006. Unless otherwise 126 indicated, all section references are to the Internal Revenue Code and 7 all Rule references are to the Tax Court Rules of Practice and Procedure.The issue for decision is whether "check-the-box" regulations, specifically section 301.7701-3(b), Proced. & Admin. Regs., in effect for the periods in issue were invalid in allowing pursuit of collection of employment taxes against the sole member of a limited liability company.BackgroundAll of the facts have been stipulated, and the stipulated facts are incorporated in our findings by this reference. Carolyn Britton (Britton) resided in Massachusetts at the time the petition was filed. During the periods in issue, Medical Practice Solutions, LLC (the LLC) was a single-member limited liability company registered in the Commonwealth of Massachusetts with its principal office in Massachusetts.Britton was the sole member of the LLC during the periods in issue and treated the LLC as her sole proprietorship on Schedule C, Profit or Loss From Business, of her Federal income tax return for 2006. She did not elect to have the LLC treated as a corporation for Federal income tax purposes.Forms 941, Employer's Quarterly Federal Tax Return, for the periods in issue were filed in the name of the LLC. For the period ended 8 March 31, 2006, the Form 941 reported tax liability in the amount of $ 16,648.01. For the period ended June 30, 2006, the Form 941 reported tax liability of $ 18,434.58. The reported amounts were not paid for either period.On December 12, 2006, the Internal Revenue Service (IRS) sent to Britton a Final Notice, Notice of Intent to Levy and Notice of Your Right to a Hearing with respect to the unpaid employment taxes for the periods in issue. On December 20, 2006, the IRS sent to Britton a Notice of Federal Tax Lien Filing and Your Right to A Hearing Under IRC 6320. On January 10, 2007, Britton requested a hearing with respect to each collection action. The request for hearing suggested as a collection alternative a purported installment agreement dated August 9, 2006. The request for hearing also requested penalty abatement for "reasonable cause". A letter attached to the request asserted, among other things, that the notice of Federal tax lien was against the wrong taxpayer because 127 Britton "is not liable for the employment Taxes; Medical Practice Solutions, LLC is liable."A hearing pursuant to section 6330 was conducted on April 23, 2007. In the notice of determination sent May 25, 9 2007, the levy action and the lien were sustained. At the time of the hearing and at the time of the notice, petitioner had not proposed an amount for an installment agreement and had not submitted supporting financial information. Petitioner had merely sent a letter dated August 9, 2006, asking that the letter be considered "a written request to set up a payment plan of the maximum duration and the minimum due now, permitted by law."DiscussionBefore addressing the main issue in this case, we dispose of some arguments raised by petitioner that are unsupported by evidence, reason, or authority.This case was submitted fully stipulated, and the requirements with respect to adducing proof, or the effect of failure of proof, apply. See Rule 122(b). Several of petitioner's arguments are based on claims as to the manner in which demands and notices were addressed and the pendency of an installment agreement, but there is no evidence in the record supporting those arguments. The stipulated exhibits contradict petitioner's assertions that certain notices, including the notice of determination that is the basis of this case, were addressed "only" to the LLC. So far as the record reflects, all 10 notices were either addressed to the LLC, Carolyn Britton, Sole Member, or to Britton.The petition was initially filed in the names of the LLC and Britton, but the caption was corrected on order of the Court to be consistent with the notice of determination. Petitioner now claims that the Court lacks subject matter jurisdiction over Britton because no notice of determination was sent to her. The manner of address in the notice speaks for itself: it was sent to Britton as the sole member of the LLC, consistent with the regulations discussed below. For purposes of this proceeding, under those regulations, the LLC and its sole member are a single taxpayer or person to whom notice is given.Petitioner asserts that certain IRS instructions for filing employment tax returns are misleading. There is no evidence 128 supporting that characterization or showing that petitioner was misled.Although in the request for hearing and the petition, petitioner raised an issue of abatement of penalties, there is no evidence of reasonable cause. Petitioner's opening brief did not address the penalties, and petitioner failed to file the reply brief ordered by the Court. Thus arguments concerning the penalties 11 have been abandoned. See, e.g., Nicklaus v. Commissioner, 117 T.C. 117">117 T.C. 117, 120 n.4 (2001).The "Check-The-Box" RegulationsThe relevant parts of the regulations provide:(b) Corporations. -- For federal tax purposes, the term corporation means --(1) A business entity organized under a Federal or State statute, or under a statute of a federally recognized Indian tribe, if the statute describes or refers to the entity as incorporated or as a corporation, body corporate, or body politic; [Sec. 301.7701-2(b)(1), Proced. & Admin. Regs.]* * * * * * (2) Wholly owned entities. -- (i) In general. -- A business entity that has a single owner and is not a corporation under paragraph (b) of this section is disregarded as an entity separate from its owner. [Sec. 301.7701-2(c)(2), Proced. & Admin. Regs.] * * * * * (a) In general. -- A business entity that is not classified as a corporation under section 301.7701-2(b)(1), (3), (4), (5), (6), (7), or (8) (an eligible entity) can elect its classification for federal tax purposes as provided in this section. An eligible entity with at least two members can elect to be classified as either an association (and thus a corporation under section 301.7701-2(b)(2)) 12 or a partnership, and an eligible entity with a single owner can elect to be classified as an association or to be disregarded as an entity separate from its owner. Paragraph (b) of this section provides a default classification for an eligible entity that does not make an election. Thus, elections are necessary only when an eligible entity chooses to be classified initially as other than the default classification or when an eligible entity chooses to change its classification. * * (b) Classification of eligible entities that do not file an election. -- (1) Domestic eligible entities. -- Except as provided in paragraph (b)(3) of this section, unless the entity elects otherwise, a domestic eligible entity is --(i) A partnership if it has two or more members; or(ii) Disregarded as an entity separate from its owner if it has a single owner. [Sec. 301.7701-3(a) and (b)(1), Proced. & Admin. Regs.]129 For employment taxes related to wages paid on or after January 1, 2009, a disregarded entity is treated as a corporation for purposes of employment tax reporting and liability. Sec. 301.7701-2(c)(2)(iv), Proced. & Admin. Regs., T.D. 9356, 2 C.B. 675">2007-2 C.B. 675.Petitioner's position is that the LLC13 was the employer liable for the taxes in issue and that so-called check-the-box regulations under which the IRS pursues collection against Britton are invalid. Petitioner contends that the amended regulations, which reverse the effect of regulations applicable to the periods in issue here, show that the prior regulations were unreasonable. Each of petitioner's contentions in this regard, however, has been consistently rejected by other courts.In Littriello v. United States, 484 F.3d 372">484 F.3d 372 (6th Cir. 2007), the Court of Appeals upheld the check-the-box regulations in the context of employment tax liabilities of a single-member LLC. After reviewing the history of the regulations and their purpose in filling gaps left in the definitions of entities set out in section 7701, the Court of Appeals analyzed the regulations under Chevron U.S.A., Inc. v. Natural Res. Def. Council, Inc., 467 U.S. 837">467 U.S. 837, 104 S. Ct. 2778">104 S. Ct. 2778, 81 L. Ed. 2d 694">81 L. Ed. 2d 694 (1984). The Court of Appeals rejected arguments that the Chevron test had been modified by subsequent Supreme Court cases; the argument that the LLC's separate existence under State law had to be recognized; and the argument that the amendments to the regulations that had been proposed as of the time 14 of Littriello's litigation should reflect then-current Treasury Department policy and be applied to that case.In McNamee v. Dept. of the Treasury, 488 F.3d 100">488 F.3d 100 (2d Cir. 2007), the Court of Appeals considered almost identical arguments and reached the same result. The court stated:In light of the emergence of limited liability companies and their hybrid nature, and the continuing silence of the Code on the proper tax treatment of such companies in the decade since the present regulations became effective, we cannot conclude that the above Treasury Regulations, providing a flexible response to a novel business form, are arbitrary, capricious, or unreasonable. The current regulations allow the single-owner limited liability company to choose whether to be treated as an "association" -- i.e., a corporation -- or to be disregarded as a separate entity. If such an LLC elects to be treated as a corporation, its owner avoids the liabilities that would fall upon him if the LLC were disregarded; but he is subject to double taxation -- once at the corporate level and once at the individual shareholder level. If the LLC chooses not to be treated as a corporation, either 130 by affirmative election 15 or by default, its owner will be liable for debts incurred by the LLC, but there will be no double taxation. The IRS check-the-box regulations, allowing the single-owner LLC to make the choice, are therefore eminently reasonable. AccordLittriello, 484 F.3d 372">484 F.3d 372, 376-79. [Id. at 109.]Other courts that have addressed the specific issue before us have followed Littriello and McNamee. See Kandi v. United States, 97 AFTR 2d 721, 2006-1 USTC par. 50,231 (W.D. Wash. 2006), affd. 295 Fed. Appx. 873">295 Fed. Appx. 873 (9th Cir. 2008); Stearn & Co., LLC v. United States, 499 F. Supp. 2d 899">499 F. Supp. 2d 899 (E.D. Mich. 2007).Petitioner asserts that in Dover Corp. & Subs. v. Commissioner, 122 T.C. 324">122 T.C. 324, 331 n.7 (2004), this Court "intimated, sua sponte" that the check-the-box regulations were invalid. The Court, however, specifically declined to give an opinion on the validity of the regulations, because neither party had raised the issue, and mentioned only that commentators had speculated on the subject. Moreover, Dover Corp. did not involve employment tax liability of a single-member LLC. Petitioner also cites People Place Auto Hand Carwash, LLC v. Commissioner, 126 T.C. 359">126 T.C. 359 (2006), which involved employment tax liability of *16 an LLC with more than one member. None of the cases petitioner cites speaks to the subject here.Petitioner has not even addressed the authorities directly in point. She has given us no reason to reach a different result, and we have found none. She has not contested the underlying liabilities. We have considered her other contentions, but they are irrelevant or lack merit.To reflect the foregoing,Decision will be entered for respondent.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623766/	APPEAL OF BURNSIDE STEEL CO.Burnside Steel Co. v. CommissionerDocket No. 3292.United States Board of Tax Appeals3 B.T.A. 20; 1925 BTA LEXIS 2068; November 12, 1925, Decided Submitted June 18, 1925. 2068 The depreciated cost of a portion of a building demolished in order to make place for a larger and better addition to factory buildings is an allowable deduction from gross income under the Revenue Act of 1918. Appeal of The First National Bank of Evanston, Wyo.,1 B.T.A. 9">1 B.T.A. 9, followed. James W. Good, Esq., for the taxpayer. L. C. Mitchell, Esq., for the Commissioner. TRUSSELL 20 Before JAMES, LITTLETON, SMITH, and TRUSSELL. This is an appeal from the determination of a deficiency in income taxes for the years 1918 and 1919 in the amount of $16,391.81. Only so much of the tax is in controversy as arises from the disallowance by the Commissioner of a deduction representing the alleged unextinguished cost of a portion of a building demolished by the taxpayer in the year 1918. FINDINGS OF FACT. The taxpayer is a corporation organized under the laws of the State of Illinois on September 27, 1916, with its principal office at Chicago, and it is, and has been since its organization, engaged in the manufacture of steel castings. Shortly after the corporation was organized, it began the construction of a factory building, 2069 which was completed in March, 1917. An addition to the original building was made by the taxpayer during the period July to September, 1917. The business of the taxpayer increased rapidly and in the year 1918 it was found that the original building and the addition thereto were inadequate for the corporation's operations. Therefore, in July, 1918, a second addition or annex to the building was begun and it was completed in November, 1918. In order properly to make this addition, it was necessary to demolish a part of the original building and the addition thereto erected in 1917. The portion of the building so demolished had a depreciated cost at that time of $4,700.17. The taxpayer in its income-tax return for the year 1918 claimed a deduction of the unextinguished cost of that portion of the building demolished in that year. This deduction was disallowed by the Commissioner. DECISION. The deficiency should be computed in accordance with the following opinion. Final determination will be settled on 10 days' notice, under Rule 50. 21 OPINION. TRUSSELL: The only question presented by the record in this appeal is whether the taxpayer, in computing its net2070 income for the year 1918, is entitled to a deduction on account of the demolition of a part of its factory building in that year. It is conceded by the Commissioner that the depreciated cost of the demolished portion of the building was $4,700.17. It is not necessary to enter into an extended discussion of this appeal. The facts presented by the record are similar to those presented in the , and the decision therein is controlling here. In that appeal the evidence established that the taxpayer, in making certain alterations of its banking building, tore out a wall, discarded floors, dropped window openings and installed new windows, discarded certain doors, changed the roof and ceiling, and took out the old entrance. The depreciated cost of the portion of the building so demolished was held by this Board to be a proper deduction from the taxpayer's gross income for the year in which the demolition occurred. The taxpayer in this appeal demolished a portion of its building in the year 1918, in order to make additions and alterations necessary for the operation of its business, and it is entitled to2071 deduct from gross income for that year the depreciated cost of the part demolished. The deficiency for the year 1918 should be modified accordingly.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623768/	W. W. Davenport v. Commissioner. H. Marie Davenport v. Commissioner.W. W. Davenport v. CommissionerDocket Nos. 19435, 19436.United States Tax Court1950 Tax Ct. Memo LEXIS 280; 9 T.C.M. (CCH) 88; T.C.M. (RIA) 50034; February 8, 1950280 Held, that certain payments made to petitioner by virtue of his retirement from active duty with The Travelers Insurance Company are not exempt from tax under section 22(b)(5), I.R.C., as accident or health insurance or as compensation for personal injuries or sickness. W. W. Davenport, pro se. D. Louis Bergeron, Esq., for the respondent. VAN FOSSAN Memorandum Findings of Fact and Opinion The respondent held that certain payments made to petitioners by The Travelers Insurance Company constituted taxable income and determined deficiencies as follows: 19451946W. W. Davenport $225 $129H. Marie Davenport225129The sole question presented is whether the payments in question were exempt from tax under favor of section 22(b)(5) of the Internal Revenue Code. 1281 Findings of Fact Petitioners are husband and wife, residents of Houston, Texas, where they filed separate returns on the cash basis in accordance with the community property laws of Texas. From 1915 to October 5, 1945, W. W. Davenport (hereinafter sometimes called the petitioner) was a salaried employee of The Travelers Insurance Company, hereinafter called Travelers. After serving in various positions he became Manager of the Claims Department with offices successively in Louisville, Kentucky, Indianapolis, Indiana, Cleveland, Ohio, and Houston, Texas. In 1945 he was demoted from his Houston, Texas position and transferred to Chicago, Illinois, where he remained until September 1945. Being unable to find suitable living accommodations for his family and having become incapacitated, he was retired from active duty after more than 30 years' service, effective October 5, 1945. On July 3, 1919, Travelers issued a circular in the following form: "TO EMPLOYEES OF THE TRAVELERS INSURANCE COMPANY: "The Board of Directors of The Travelers Insurance Company has decided to liberalize the Insurance and Pension Plan initiated March 12, 1913, in order that more of the employees may282 share in the benefits thereof by shortening the period of service prior to granting insurance. "Hereafter employees of six months' service will be provided with insurance to the extent $300of, increasing to $500 after one year's service and thereafter an additional $100 for each completed year of service, subject to the maxium of $2,500. The scale of insurance on those employees who have already been provided for will be increased $200, subject to the same maximum. There is no change in the schedule of pension benefits. "The action of the Board of Directors on June 16, 1919, is as follows: 'It being the desire of the Board of Directors to liberalize benefits to employees in the form of insurance and pensions as authorized by this Board March 10, 1913, the resolutions of March 10, 1913, are hereby rescinded and the following substituted therefor In recognition of the fact that the success of THE TRAVELERS INSURANCE COMPANY is due to a large extent to the faithful and efficient work of its employees and to encourage and perpetuate honorable, efficient work in the future as well as to recognize common interests between the Company and its employees; BE IT RESOLVED that the officers283 of the Company are authorized to provide at the Company's expense to those employees who devote all their time to the Company's service and are compensated therefor by salary and who have completed six months of continuous service, life insurance to the extent of $300, increasing to $500 after one year's continuous service with thereafter an additional $100 for each completed year of service; and that insurance on a similar scale be provided for present employees of less than six months' service or employees subsequently placed upon the Company's payroll at the completion of the six months' period; the maximum amount of insurance in any case to be $2500, such benefits to be payable either in one sum or in instalments; and BE IT FURTHER RESOLVED that the officers of the Company be and are hereby authorized to provide for allowances during the pleasure of the Company in the nature of pensions to employees who for old age or failure of health from any cause except vicious habits shall become disabled and unable to render further service; no one to become eligible to such pension unless he shall have rendered five years' continuous service, and no pension to exceed one-half the compensation284 received at the time of retirement and none to exceed $3,600 a year; and BE IT FURTHER RESOLVED that the Committee hereinafter referred to shall be empowered to continue salary payments or other remuneration to temporarily disabled employees in accordance with an equitable plan to be decided upon by such Committee. RESOLVED that the President is hereby authorized to appoint a Committee not exceeding four to consist of members of the official staff to pass upon the claims of qualifications of employees to share in the benefits of the insurance and pension plans authorized by the foregoing resolutions. This Committee shall have full power to determine upon the eligibility of an employee to a pension or temporary benefits and shall have full power to adjust the payment of insurance in the event of the death of an employee, including the payment of the insurance in instalments at the discretion of the Committee. RESOLVED that nothing in the foregoing resolutions shall be deemed to obligate the Company to continue or make permanent a policy or plan for insurance or pension benefits in favor of its employees, and that no employee shall by sharing at any time in the advantages of such285 plans become thereby a permanent beneficiary thereunder or acquire a right to the continuation of either or both plans.' "Notification of the amount of insurance provided for the individual employee will be sent out by the Actuarial Department in due season. To those already provided for under the insurance plan, notification of the increase in insurance will be sent upon the next anniversary of employment, although the Company's records will indicate the new scale of insurance commencing June 16, 1919. "The Committee appointed in accordance with the foregoing resolution consists of Secretary Howard, Comptroller Pye, Actuary Morris, and Office Supervisor Read." While in the employ of Travelers, petitioner held certain disability insurance contracts. During the period subsequent to his retirement in October 1945, petitioner W. W. Davenport has been receiving approximately $197 per month disability insurance under such policies. The payments so made were not taxed by respondent. Petitioners filed separate individual income tax returns for the taxable year 1945, wherein, among other income, they reported $4,258.28 as salary received by W. W. Davenport from Travelers. The withholding286 receipt attached to the return disclosed that petitioner had received $6,227.87 as salary during 1945, on which amount $1,054.50 tax had been withheld. Also attached to the return filed by W. W. Davenport was a letter addressed to the collector by H. Marie Davenport, which read as follows: "I am attaching 1945 returns of my husband and I under community property laws of Texas. "The following special conditions occured [occurred] during 1945 affecting these returns. "My husband has been gainfully employed for 37 years after doing two outstanding reorganization jobs in past sixteen years. His company demoted him under a man junior to him and he worried over his companies ingratitude until he is suffering from a nervous breakdown in the form of medical certificates. [certification] "His employer, the Travelers Insurance Co. sells group accidend [accident] and health insurance and naturally extend this insurance to their own employees. "He has not worked since Sept. 27th and indemnity paid him by his Co. since that date was health insurance paid by their welfare department. "The exclusion of health insurance is a new rule this year and I was advised by your local office287 that this health insurance paid after Sept. 27th is not subject to income tax." Both petitioners filed separate individual income tax returns for the year 1946 wherein, among other items, they reported $3,392.12 as salary received by W. W. Davenport from Travelers. Withholding receipt was not attached to the return but the amount of tax withheld was reflected in the computation of tax where, in each return, the figure of $135 was noted as the amount withheld from wages. Attached to the 1946 returns were duplicate letters addressed to the collector, signed by both petitioners, which read as follows: "Enclosed separate returns of husband and wife are being submitted under reservations of our rights owing to the following circumstances. "Then [When] income from the Travelers Ins. Co. is disability retirement pay owing to permanent totall [total] disability of William Wallace Davenport details of which were previously submitted to the Collector. "Since such payments are exempt under exclusions (e) general instructions withholding is in error, object- [objection] was made but withholding was nevertheless made in the amount of $265.20 in 1946. "It is our intention to get288 a ruling and if it is favorable to ask for a refund." In the statutory notice of deficiencies respondent advised petitioners that the taxable income for each year had been increased to reflect the amount of salary paid by Travelers and that deficiencies had been determined in the amounts first above set out. The payments received during 1945 and 1946 by petitioner W. W. Davenport were paid in accordance with the resolution of the board of directors dated June 16, 1919, as above set out. Opinion VAN FOSSAN, Judge: It is the contention of the petitioners that the payments made from October 5, 1945 to January 1, 1947 constitute "group sickness insurance compensation," and as such, were exempt under the provisions of section 22(b)(5). We do not agree. The payments of salary were made to petitioner pursuant to the resolution of June 16, 1919, which provided for group life insurance, not here involved, and further provided "allowances during the pleasure of the Company in the nature of pensions to employees who for old age or failure of health from any cause except vicious habits shall become disabled and unable to render further service; no one to become eligible to such pension289 unless he shall have rendered five years' continuous service, and no pension to exceed one-half the compensation received at the time of retirement and none to exceed $3,600 a year; and "BE IT FURTHER RESOLVED that the Committee hereinafter referred to shall be empowered to continue salary payments or other remuneration to temporarily disabled employees in accordance with an equitable plan to be decided upon by such Committee." It is obvious that the payments in question do not fall under the second quoted paragraph, as it related to "temporarily disabled employees." Petitioner does not so qualify. Therefore, by the company's own characterization, the payments were "in the nature of pensions." The quoted section of the statute provides that certain pensions are specifically included, namely, those "for personal injuries or sickness resulting from active service in the armed forces of any country." Here the old maxim expressio unius est exclusio alterius is peculiarly apt. By no stretch of the imagination could petitioner qualify under this provision. The statute is neither ambiguous nor is it unclear in its meaning. It refers to amounts received "through accident or health insurance290 or under workmen's compensation acts, as compensation for personal injuries or sickness." The terms used are all terms of well recognized and definite meaning. It has often been said that he who seeks an exemption from taxation must prove that he comes clearly within the terms of the statute. Petitioners have not been able so to prove their rights to an exemption. See Elmer D. Pangburn, et al., 13 T.C. 169">13 T.C. 169. We affirm respondent's action in taxing the income in question. Decisions will be entered for the respondent. Footnotes1. 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: * (5) COMPENSATION FOR INJURIES OR SICKNESS. - Except in the case of amounts attributable to (and not in excess of) deductions allowed under section 23 (x) in any prior taxable year, amounts received through accident or health insurance or under workmen's compensation acts, as compensation for personal injuries or sickness, plus the amount of any damages received whether by suit or agreement on account of such injuries or sickness, and amounts received as a pension, annuity, or similar allowance for personal injuries or sickness resulting from active service in the armed forces of any country; * *↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623723/	EVERETT E. KENT, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Kent v. CommissionerDocket Nos. 39576, 42589, 46064.United States Board of Tax Appeals26 B.T.A. 482; 1932 BTA LEXIS 1301; June 21, 1932, Promulgated 1301 Where an annuity was payable "from the income and so much of the principal of the trust fund as may be needed or required from time to time," such annuities are a charge on the corpus of the trust and not taxable to the recipient. Everett E. Kent, Esq., pro se. C. C. Holmes, Esq., for the respondent. VAN FOSSAN 482 These proceedings were brought to redetermine deficiencies in the income taxes of the petitioner for the years 1924, 1925, 1926 and 1927 in the sums of $138.56, $156.64, $210.59 and $188.72, respectively. Of the above amounts only $91.43, $102.16 and $188.72 for the years 1924, 1925 and 1927, respectively, are in controversy. The petitioner 483 asserts that for the year 1926 the alleged deficiency should be increased from $210.59 to $228.08 under the respondent's theory of computation, but alleges that the entire amount of $228.08 is an improper deficiency. The above proceedings were consolidated for hearing and report. The petitioner alleges that the payment to him of an annuity of $2,400 under the will of Herbert A. Wilder constituted a gift or bequest, payable in installments, and that the respondent erred in1302 determining it to be income. The facts were stipulated, and from the stipulation we find as follows. FINDINGS OF FACT. Herbert A. Wilder, of Newton, Massachusetts, died October 12, 1923, leaving a will which was duly probated. In so far as is material to this proceeding the will provided as follows: Fifth Item: I direct that all the bequests and devises in this my will be made free from all legacy and inheritance taxes and government dues of every kind, and that my executors pay all such taxes and dues attaching at the time of the probate of my will to the various legacies and provisions, from the remaining portion of my estate, so that all the legacies and provisions in the foregoing and the next following items may be undiminished save as the ultimate residue may be affected by having to bear such payments. Sixth Item: I give, bequeath and devise to my trustees hereinafter named, their survivors, survivor, successors or successor, but IN TRUST NEVERTHELESS, all the rest, residue and remainder of my property and estate, personal or real, wherever found or situated, including the reversions or remainders established or contemplated in the foregoing items of this1303 my will, and any income or benefits which may result to my estate from any transactions I may effect in my lifetime, the same to be invested and held by said trustees in safe and suitable securities and properties, save as hereinafter provided, and from the income and so much of the principal of the trust fund as may be needed or required from time to time, (a) to pay and keep down all taxes, assessments, insurance, repairs and improvement charges or expenses of any kind, * * (b) to pay all charges, taxes and expenses upon or connected with the trust or trust property, so long as the trust continues. * * * (c) to pay annuities, or total net sums in every year, to the persons and in the instalments next below named, or stated giving to each person named so long as he or she may live, save as hereinafter qualified, respectively, a total annual amount as follows, to wit: * * * To my son-in-law, Everett E. Kent, Twenty-four hundred dollars, payable in monthly instalments. (g) after the death of my last surviving daughter, I give, bequeath and devise all the trust funds and estate then remaining or existing, to the final beneficiaries hereinbelow named, in the shares or1304 proportions below stated, to be theirs absolutely and in fee. I authorize my then surviving or acting trustees or trustee, to convert into money such portion of the then existing trust estate 484 as they or he may deem expedient, or to pay over and distribute either in money or securities to the said final beneficiaries as at the time may be found expedient and judicious. Such final beneficiaries being the following, to wit: [Here follow the names of fourteen beneficiaries.] * * * During the years in question the petitioner did not include any part of the said amount of $2,400 in his income-tax returns. The respondent increased the petitioner's income during the several years by the amounts of the said annuity (excluding that portion thereof arising from nontaxable securities), and mailed to the petitioner appropriate deficiency letters covering such increases. All of the distributions made by the estate of Herbert A. Wilder to the petitioner were paid from income received by the said estate and no part thereof from the principal. OPINION. VAN FOSSAN: The petitioner contends that the amount he received under the will of Herbert A. Wilder was a legacy of a1305 specified sum and as such should be excluded from his income, as provided by section 213(b)(3) of the Revenue Acts of 1924 and 1926, which reads as follows: (b) The term "gross income" does not include the following items, which shall be exempt from taxation under this title. * * (3) The value of property acquired by gift, bequest, devise, or inheritance (but the income from such property shall be included in gross income). The petitioner asserts that the case at bar is governed by the decision of the United States Supreme Court in ; affirming , which in turn affirmed our decision in . In that case the will of James Gordon Bennett created twenty or more annuities, including item "Tenth: I also give and bequeath to the said Sybil Douglas, wife of William Whitehouse, an annuity of Five thousand dollars." It also provided that "all annuities hereby given shall commence at the time of my death and be payable in equal parts half yearly except as hereinafter specifically mentioned" and authorized the establishment of a memorial home as the residuary1306 legatee. The annuity for Mrs. Whitehouse was satisfied from the corpus of the estate prior to November 14, 1920, and afterwards out of income derived therefrom. On December 30, 1920, the executors permanently set aside for the memorial home a large amount of interest-bearing securities "but subject to taxes, annuities and other charges." 485 The court held that the bequest was a gift not depending upon income, but was a charge upon the whole estate during the life of the annuitant, to be satisfied like any ordinary bequest and payable at all events. The respondent relies upon , in which the bequest to Gavit was to be paid out of income from a definite fund, and upon ; affd., , in which separate funds were established from which sufficient income would be produced to pay each annuitant. In both cases the funds from which the annuities were paid were ear-marked as income-producing and the annuities were payable only from income of the estate. We agree with the contention of the petitioner. The only variation between the Whitehouse case1307 and the case at bar is in form of language. The Wilder will provided that certain charges against the trust fund and the annuities named should be paid "from the income and so much of the principal of the trust fund as may be needed or required from time to time." In the Whitehouse case the source of payments was not specified. This we regard as a distinction without a difference. As held in the Whitehouse case, the fundamental factor is that the annuity was a charge upon the corpus of the trust fund, to be paid irrespective of whether the income would be sufficient to meet the charge or a part of the principal would be required to complete the annuity payments. The provision of the testator that annuity payments should be made first from income avd then from the corpus is merely an expression of the normal procedure in the administration of estates, particularly under the requirements of Massachusetts law. See It has no broader significance. If he had limited the payment of the petitioner's annuity to the income arising from a definite fund or had confined the payment thereof solely to the income from the estate or trust1308 funds, the principle set forth in Irvin v. Gavit might be controlling. But in the Whitehouse case the Supreme Court said: Irvin v. Gavit is not applicable. The bequest to Gavit was to be paid out of income from a definite fund. If that yielded nothing, he got nothing. This court concluded that the gift was of money to be derived from income and to be paid and received as income by the donee. Here the gift did not depend upon income but was a charge upon the whole estate during the life of the legatee to be satisfied like any ordinary bequest. An attempt is made to strengthen the position of the Commissioner by reference to section 219, Act of 1921, which declares that the tax imposed by sections 210 and 211 shall apply to the income of estates, including "income which is to be distributed to the beneficiaries periodically …." But clearly enough, we think, this section applies only to income paid as such to a beneficiary. And, as above shown, the sums received by Mrs. Whitehouse were not 486 gifts to be derived from and paid out of income, nor were they received as such by her. The exemption in section 213 is plain and should not be destroyed1309 by any strained construction of general language found in section 219. In the Revenue Acts of 1924 and 1926 the corresponding phraseology is found in section 219(a)(2), which reads as follows: (a) The tax imposed by Parts I and II of this title shall apply to the income of estates or of any kind of property held in trust, including - * * * (2) Income which is to be distributed currently by the fiduciary to the beneficiaries, and income collected by a guardian of an infant which is to be held or distributed as the court may direct; * * * For the purposes of the present consideration the word "currently" is similar to the word "periodically." It is easily conceivable that the income from the trust fund may not at all times be adequate to pay the fixed charges against it, including the annuities. In such an event (which may have been anticipated by the testator) the corpus of the trust fund must be invaded in order that the annuities may not fail. It would not be contended that the annuities so paid would be subject to tax. Thus the fortuitous circumstance that the trustees paid to the petitioner his annuity from funds received as income by the estate is not determinative*1310 of the true nature of the bequest. "It would be an anomaly to tax the receipts for one year and exempt them for another simply because the executors paid the first from income received and the second out of the corpus." In a case of this character the purpose and intent of the testator must control our decision. . We conclude that it was the intent of Herbert A. Wilder that the annuities should become charges upon his entire estate, including the corpus and the income arising therefrom. It follows that they are not taxable. Reviewed by the Board. Decision will be entered for the petitioner.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623724/	MARY CONRON, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, RespondentConron v. CommissionerDocket No. 8388-73.United States Tax CourtT.C. Memo 1975-326; 1975 Tax Ct. Memo LEXIS 48; 34 T.C.M. (CCH) 1423; T.C.M. (RIA) 750326; November 4, 1975, Filed 48 Mary Conron, pro se. Larry K. Akins, for the respondent. QUEALYMEMORANDUM FINDINGS OF FACT AND OPINION QUEALY, Judge: The respondent determined that the petitioner is liable for deficiencies and additions to tax as follows: Addition Taxable YearDeficiencyto the Tax1969$372.63$18.631970941.6847.081971558.8027.94The issues for our decision are: 1. The extent to which various business and rental expenses are deductible by the petitioner; and 2. Whether the petitioner is liable for an addition to the tax for negligence or intentional disregard of rules and regulations pursuant to section 6653(a) 1 for the taxable years 1969, 1970, and 1971. FINDINGS OF FACT Some of the facts have been stipulated by the parties. Such facts and the exhibits attached thereto, are incorporated herein by this reference. The petitioner filed individual Federal income tax returns for the taxable years 1969, 1970, and 1971, with the District Director of Internal Revenue, St. Louis, Missouri, using the cash method49 of accounting. At the time of the filing of the petition herein, the petitioner resided in Kansas City, Missouri. For the taxable years 1969, 1970, and 1971, the petitioner, a self-employed professional artist, rented a house in Bedford, New York, for $900, $1,075, and $1,075, respectively. During these years, however, she resided there with her brother only from January 1 to October 1, 1969, during which time she used part of the house as her studio. On October 1, 1969, the petitioner and her brother moved from Bedford to Kansas City, Missouri, and occupied the lower half of a house the petitioner had bought in April 1968 as an investment. The house consisted of two separate living units, one upstairs and one downstairs. The basis of the house for depreciation purposes was $22,622 and the useful life was 15 years. At the time the petitioner purchased the house the lower half was vacant and the upper half was being rented at a rental of $90 per month. The petitioner moved to the Kansas City house in order to dispossess her tenant and to put the house in a rentable condition. Although she always intended to return to Bedford, and for that to be her permanent residence, the petitioner50 remained in Kansas City from October 1969 throughout the taxable years 1969 to 1971, inclusive. The upper half of the Kansas City house was rented for only the first nine months of 1969, during which time the petitioner received only $55 of rent. Although she held the upper half of the house as rental property for the years 1970 and 1971, during these years neither half of the house was rented or leased. For the taxable year 1969, the petitioner deducted certain expenses relating to the house she rented at Bedford, certain expenses relating to the house she owned in Kansas City and various miscellaneous business expenses. In his notice of deficiency the respondent disallowed a part or all of each expense claimed as being personal, as not being an ordinary and necessary expense or as being unsubstantiated. As a result of evidence elicited at the hearing, the respondent agreed to allow certain additional amounts, as reflected in the following schedule: Additional ExpenseClaimedDisallowedAmounts AllowedBedford HouseRent$ 900.00$ 512.50$0Repairs610.00400.000Telephone249.48124.740Oil and Electricity461.78230.890Lawn and Snow240.00240.00120.00Kansas City HouseReal Estate Taxes721.09360.54360.54Oak Meyer Association65.7965.7965.79Utilities317.69317.69317.69Labor and Materials570.15285.08285.08Depreciation1,344.67590.600MiscellaneousInterest1,997.361,997.361,997.36Pictures Donated forPublicity500.00500.00250.0051 The respondent also disallowed a net operating loss carryover to the taxable year 1969 resulting from an interest payment the petitioner made in 1967, which has now been settled. For the taxable year 1970, the petitioner deducted certain expenses relating to the house she rented at Bedford, certain expenses relating to the house she owned in Kansas City, and various miscellaneous business expenses. In his notice of deficiency, the respondent disallowed a part or all of each expense claimed as being personal, as not being an ordinary and necessary business expense, or as being unsubstantiated. As a result of evidence elicited at the hearing, the respondent agreed to allow certain additional amounts, as reflected in the following schedule: Additional ExpenseClaimedDisallowedAmounts AllowedBedford HouseRent$1,075.00$1,075.00 $ 0Insurance76.0076.000Custodian225.00225.000Oil214.46214.460Electricity114.57114.570Kansas City HouseTelephone228.13114.070Real Estate Taxes723.95723.95723.95Oak Meyer Association74.0974.0974.09Utilities578.54578.540Insurance128.00128.0064.00Lawn and Snow220.25220.250Upkeep and Labor1,062.001,062.00241.75Repairs, Paintingand Guttering1,483.001,483.00781.02Wallpaper50.0050.0050.00Depreciation1,386.001,386.00754.07MiscellaneousArt Materials520.00520.00520.00Interest1,756.721,756.722,384.23Pictures Donated forPublicity500.00500.00052 For the taxable year 1971, the petitioner deducted certain expenses relating to the house she rented at Bedford, certain expenses relating to the house she owned in Kansas City, and various miscellaneous business expenses. In his notice of deficiency the respondent disallowed a part or all of each expense claimed as being personal, as not being an ordinary or necessary business expense, or as being unsubstantiated. As a result of evidence elicited at the hearing, the respondent agreed to allow certain additional amounts, as reflected in the following schedule: Additional ExpenseClaimedDisallowedAmounts AllowedBedford House$1,075.00$1,075.00 $ 0Rent706.00706.000Repairs203.00101.500Telephone522.00522.000Custodian317.00317.000Oil103.00103.000Electricity240.00240.000Lawn and SnowKansas City HouseReal Estate Taxes730.00730.00730.00Utilities469.00469.000Insurance128.00128.0064.00Repairs and Labor1,551.001,551.00607.38Depreciation1,386.001,386.00754.07MiscellaneousInterest1,623.001,623.002,144.49Legal and Professional1,680.001,680.000Pictures Donated forPublicity250.00250.00053 The respondent, in his notice of deficiency, determined that part of the underpayment of tax on the petitioner's income tax returns for the taxable years 1969, 1970, and 1971 was due to negligence and intentional disregard of respondent's rules and regulations. He accordingly asserted additions to tax for those years pursuant to section 6653(a). OPINION The petitioner resided in Bedford, New York, from January 1 to October 1, 1969, during which time she was a self-employed artist. Due to difficulties with her tenant and for other reasons, on October 1, 1969, the petitioner and her brother moved from the Bedford house to the lower half of a house she owned in Kansas City, Missouri. The upper half of the Kansas City house was rented for the period January 1 to approximately October 1, 1969, during which time the petitioner collected $55 gross rent. Although the petitioner and her brother have continuously resided in the lower half of the Kansas City house since October 1, 1969, the petitioner continued to rent the house in Bedford, intending to return there. On her income tax returns for the taxable years 1969, 1970, and 1971, the petitioner deducted various expenses as business54 expenses and as expenses incurred in the production of income. The respondent disallowed some of the deductions claimed either as being personal, not ordinary and necessary or as being unsubstantiated. The burden is on the petitioner not only to show that the respondent's determination is wrong, but also to produce evidence from which another and proper determination can be made. Welch v. Helvering,290 U.S. 111">290 U.S. 111 (1933); Lightsey v. Commissioner,63 F.2d 254">63 F.2d 254 (4th Cir. 1933), affg. a Memorandum Opinion of this Court; Rule 142(a), Tax Court Rules of Practice and Procedure.Since the petitioner was not represented by counsel, the Court undertook to assist her in the presentation of her case. Wherever substantiated, the Court requested and the respondent agreed at the hearing to allow an additional amount as a deduction. The remaining amounts which were not allowed at the hearing do not qualify as deductions either because the petitioner was not able to substantiate such amounts or because no business purposes could be established. In addition, the petitioner did not produce any evidence from which the Court is able to find that no part of the underpayment55 of tax in the petitioner's income tax returns for the taxable years 1969, 1970, and 1971, was due to negligence or intentional disregard of the respondent's rules and regulations. Accordingly, a decision will be entered in accordance with the findings herein. Decision will be entered under Rule 155.Footnotes1. All statutory references are to the Internal Revenue Code of 1954, as amended, unless otherwise indicated.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623725/	George Mogg and Myrtle Mogg, Petitioners, v. Commissioner of Internal Revenue, RespondentMogg v. CommissionerDocket No. 25151United States Tax Court15 T.C. 133; 1950 U.S. Tax Ct. LEXIS 111; August 18, 1950, Promulgated 111 Decision will be entered for the respondent. Payment of real estate taxes out of proceeds of real property sold at foreclosure of tax lien held not to entitle petitioners to deduction as taxes paid, notwithstanding that petitioners owned the property prior to foreclosure. Harold M. Blossom, 38 B. T. A. 1136, distinguished. Bert D. Bradley, Esq., for the petitioners.Clarence E. Price, Esq., for the respondent. Opper, Judge. OPPER133 OPINION.Petitioners contest so much of a deficiency of $ 1,048.93 in income taxes for 1945 as results from the disallowance of a deduction of $ 961.97 as taxes paid. The sole issue is whether payment of real estate taxes out of the proceeds of a tax foreclosure sale of property formerly owned by petitioners entitles them to the deduction in controversy. All of the facts have been stipulated.The stipulated facts are hereby found. The stipulation practically in full is as follows:1. Petitioners are husband and wife whose residence at the time of filing the return involved herein was 3112 Ludlow Road, Shaker Heights, Ohio.2. The petitioners' income tax return for the year 1945 was filed with112 the Collector of Internal Revenue for the 18th District of Ohio * .3. The taxes in controversy are income taxes for the calendar year 1945. The Commissioner, in his determination, disallowed three items as deductions in the amounts of $ 3,823.19, $ 128.91 and $ 114.34, as explained on page 2 of the notice of deficiency. The petitioner is only contesting the disallowance of the amount of $ 3,823.19 and concedes that the other two amounts should be properly treated as not being deductible under Rule 50 computation.4. The item of $ 3,823.19 claimed as deduction by petitioner arises in relation to property located on Brecksville Road, Independence, Ohio. This property consists of ten acres of land which petitioners acquired in 1926 at a cost of $ 12,000. The title to the land was taken in the name of Myrtle Mogg.5. Real estate taxes and assessments on the property were delinquent for all the years from 1933 up until foreclosure proceedings in the year 1945.134 6. Foreclosure action was started by the Prosecuting Attorney of Cuyahoga County on behalf of John J. Boyle, County Treasurer in Common Pleas Court of Cuyahoga County, being Case No. 545,284, entitled JOHN J. BOYLE, 113 County Treasurer of Cuyahoga County v. MYRTLE MOGG, ET AL.7. In February, 1945, the Court's Journal Entry was made in the case foreclosing the defendant's (petitioner's) equity of redemption and ordering the property sold. * 8. The property in question was sold by the Sheriff of Cuyahoga County on the 9th day of April, 1945, to Joseph J. and Eleanor Sejd for the sum of $ 4,010.00.9. Subsequently $ 3,823.19 was paid to John J. Boyle, County Treasurer, by the Sheriff of Cuyahoga County from the proceeds of said sale, and said John J. Boyle, County Treasurer issued a receipt for taxes in the amount of $ 3,823.19. * 10. Of these taxes in the amount of $ 3,823.19, $ 961.97 were general taxes and the balance was special assessments for improvements such as sewer, roads, and water.11. In the petitioners' income tax return for the year 1945 * * the petitioners claimed a long-term capital loss in the sum of $ 3,901.59, arrived at as follows: Cost of the property $ 12,000.00, less sale price of $ 4,010.00 plus cost of sale $ 186.81, balance $ 7,803.19; fifty percent thereof $ 3,901.59. $ 1,000 of this amount was claimed against ordinary income and the balance carried over to114 subsequent years.12. Petitioners also claimed as a deduction for taxes paid the sum of $ 3,823.19.13. The Commissioner, in his determination, disallowed the amount of $ 3,823.19 as a deduction for taxes.Petitioners now concede that all but the $ 961.97 of general real estate taxes were properly disallowed.Running through the cases dealing with deductible items is the concept that an obligation to make the payment is essential. Helen B. Sulzberger, 33 B. T. A. 1093, 1099. If there is not a personal liability, then at least some such equivalent must be found as a charge against the taxpayer's property. Martin Thomas O'Brien, 47 B. T. A. 561.Neither requisite is shown here. There is no claim that petitioners were personally liable for the delinquent taxes, and since they had already lost the property by foreclosure when the payment was made, the taxes cannot be said then to have been a charge or incumbrance against any property they owned or had an interest in. Taxes may have been paid out of the proceeds of the sale of the property. But they cannot by the most strenuous effort of the imagination be said to have 115 been petitioners' taxes.Harold M. Blossom, 38 B. T. A. 1136, upon which petitioners principally rely, is an instance of the classic line of cases. The headnote alone is enough to show that it was the payment of interest for which petitioners were liable which rendered it deductible. There was no doubt as to payment there, as there would not be here if it were relevant. The missing element is liability; the taxes paid must be those of petitioners. This we cannot find to be disclosed by the present record.Decision will be entered for the respondent.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623726/	Pittsburgh Forgings Company v. Commissioner.Pittsburgh Forgings Co. v. CommissionerDocket No. 111147.United States Tax Court1943 Tax Ct. Memo LEXIS 33; 2 T.C.M. (CCH) 1080; T.C.M. (RIA) 43506; December 11, 194333 A mortgage indenture dated October 1, 1932 provided that petitioner should declare or pay no dividends on its capital stock unless, at the time of declaration, its bonds should have been redeemed or otherwise cancelled in definite amounts set forth therein; and also that the dividends declared by petitioner should not exceed the amount of such bonds redeemed and retired during the year. Its net income for 1937 was about $500,000. Under a commitment to a bank it curtailed a loan and redeemed or retired none of its bonds. Held, that petitioner was actuated by sound business motives and is entitled to credit provided by section 26 (c) (1), Revenue Act of 1936. H. A. Mihills, C.P.A., 917 Munsey Bldg., Washington, D.C., and R. K. Conaway, C.P.A., 2912 Grant Bldg., Pittsburgh, Pa., for the petitioner. W. J. McFarland, Esq., for the respondent. VAN FOSSAN Memorandum Findings of Fact and Opinion The respondent determined a deficiency of $97,091.44 in the petitioner's income tax for the year 1937. The issues are: 1. The correct amount of the petitioner's liability for income tax due and allocable to the Commonwealth of Pennsylvania. The decision in the second issue will determine 34 such amount. 2. The allowance of the credit provided by section 26 (c) (1) of the Revenue Act of 1936 in the computation of the petitioner's surtax on undistributed profits. Findings of Fact Certain facts were stipulated and as so stipulated are adopted as findings of fact. The pertinent portions of such facts are as follows: The petitioner is a corporation organized and existing under the laws of the State of Delaware, with its principal office and place of business located at Coraopolis, Pennsylvania. The petitioner filed its income and excess-profits tax return for the year 1937 with the collector of internal revenue for the Twenty-third District of Pennsylvania. It kept its books and made its income tax return for that year on the accrual basis. On March 22, 1933 the petitioner entered into an indenture of mortgage dated October 1, 1932, with The Union Trust Company of Pittsburgh as trustee, for the authorized issue of First Mortgage 6% Gold Bonds of $1,000 denominations, in the principal amount of $446,000, but actually issued in the amount of $445,000. Four hundred twenty-one thousand dollars in principal amount of such First Mortgage 6% Gold Bonds, dated October 1, 1932, 35 were issued during the year 1933 in exchange for bonds of the same principal amount of a previous issue due April 1, 1938 and $24,000 in principal amount of the First Mortgage 6% Gold Bonds were issued during the year 1933 in payment of the balance owing on a land contract. The terms of this indenture were not altered prior to or during the year 1937. Section 2, Article Second, and Section 1, Article Third, of the indenture are as follows: Section 2. No dividend shall be declared or paid upon any capital stock of the Company of any class now or hereafter created, unless at the time of the declaration of such dividend the Company shall have redeemed or otherwise retired and cancelled First Mortgage Bonds aggregating at least $42,000 in principal amount, plus additional First Mortgage Bonds aggregating at least $21,000 in principal amount for each whole period of six months which shall have elapsed between October 1, 1932, and the date of the declaration of such dividend; and the total amount of dividends declared and paid in any calendar year by the Company, upon any and all classes of stock of the Company, whether heretofore or hereafter created, shall in no case be greater than36 the aggregate principal amount of such First Mortgage Bonds as have been redeemed or otherwise retired and cancelled by the Company, theretofore during such calendar year. * * * * * Section 1. The Company shall and will, on or prior to the first day of April, in each year during the five-year period commencing with the year 1938 and ending with the year 1942, redeem and retire, or otherwise cause to be retired and cancelled, First Mortgage Bonds of a principal amount aggregating at least ten per cent of the aggregate principal amount of the First Mortgage Bonds which shall have remained outstanding and unpaid on March 31, 1938. The Company may secure the amount of First Mortgage Bonds requisite to enable it to comply with this covenant and may comply with this covenant, either by purchasing such bonds upon the open market and delivering them to the Trustee for cancellation, or by the payment of the redemption prices and by compliance with the conditions hereinafter, in Section 2 of this Article Third, provided and set forth. On December 31, 1931 the petitioner held 5,267 shares of its capital stock in its treasury. These shares had been acquired prior to that date at cost of 37 $42,879.74. During the period from December 31, 1931 to December 31, 1937 the petitioner acquired 466 shares of its capital stock at the dates set forth below: June 30, 1933232 sharesDecember 31, 193425 sharesMay 31, 1935209 sharesOn June 30, 1933 R. A. Mitchell and W. H. Stocking assigned to the petitioner 205 shares and 27 shares, respectively, of its capital stock from shares issued to then as a bonus on that date. The petitioner allowed credits of $614 and $82, respectively, to R. A. Mitchell and W. H. Stocking for these shares in payment of the balances of their personal accounts with the petitioner. The 25 shares, acquired on December 31, 1934, were acquired through the forfeiture of a subscription to purchase the stock from the petitioner by R. J. Koepp. The unpaid balance of the subscription at the date of forefeiture was $113.13, and this amount was entered on the petitioner's books as the cost of the 25 shares. The 209 shares, acquired May 31, 1935, were previously held as collateral security by the petitioner on a note receivable of the Railway Products Company upon which a balance of $740.91 was owing at that date. On May 31, 1935 the petitioner took 38 over the collateral for $627 and charged off the balance owing on the note of $113.91 as a bad debt. During the period from January 1, 1932 to December 31, 1937 the petitioner disposed of 5,733 shares of treasury stock (the 5,267 shares owned December 31, 1931 and the 466 shares acquired on the dates heretofore set forth). These shares were disposed of on the dates, in the manner, and for the amounts shown below: Sale price orvalue assigned withNumberrespect to sharesDateManner of Dispositionof sharesissued as bonusJune 30, 1932Issued as bonus82$ 246.00June 30, 1933Issued as bonus7012,103.00Dec. 21, 1935Issued as bonus5003,500.00Dec. 14, 1935Sold for cash2001,534.70Jan. 28, 1936Sold for cash1,0007,894.33March 1936Sold for cash6008,155.74August 1936Sold for cash1,00010,844.33Dec. 21, 1936Issued as bonus3304,950.00Jan. 12, 1937Sold for cash5009,609.60Apr. 6, 1937Sold for cash3208,021.31Dec. 18, 1937Issued as bonus5004,125.00The stock of the petitioner issued as a bonus as set forth in the foregoing schedule was issued to the following officers of the petitioner: R. A. Mitchell, Vice President943 sharesW. H. Stocking, Asst. to President424 sharesW. H. McGary, Treasurer621 sharesJ. C. Bane, Jr., Secretary125 shares39 On September 24, 1929 and July 10, 1935 the petitioner's capital stock was listed for trading on the Pittsburgh Stock Exchange and the New York Curb Exchange, respectively. During the year 1937 the petitioner's capital stock was traded in on both The Pittsburgh Stock Exchange and the New York Curb Exchange. On July 1, 1935 the capital stock of the petitioner was registered pursuant to sections 12 (b) and (c) of the Securities and Exchange Act of 1934. The provisions of the United States Code, Title 15, § 77a to 77aa, generally known as the Securities Act of 1933, were applicable to the sale or issuance of any securities of the petitioner during the period from May 27, 1933 to December 31, 1937. During the period from August 31, 1934 to July 31, 1939 the petitioner acquired $108,000 in principal amount of its First Mortgage 6% Gold Bonds issued under its mortgage indenture dated October 1, 1932. The date of purchase, the purchase price, and the principal amount of the bonds purchased during the period from August 31, 1934 to July 31, 1939 are set forth in the following schedule: Date ofPurchasePrincipalPurchasePriceAmountAug. 31, 1934$12,000.00$17,000.00May 25, 193527,280.0031,000.00June 193520,430.0024,000.00Aug. 17, 1935902.501,000.00Sept. 18, 1935930.001,000.00Oct. 3, 1935922.501,000.00Nov. 22, 19355,775.006,000.00Dec. 4, 19354,812.505,000.00Dec. 10, 1935 (acquired insettlement of petition-er's account with closedBank of Pittsburgh,N.A.)1,119.021,000.00Apr. 13, 19366,000.006,000.00July 31, 193915,037.5015,000.0040 The purchases were duly authorized by the petitioner's board of directors. The transactions relating to the petitioner's capital stock and First Mortgage Bonds were duly reflected in appropriate entries in its books. The petitioner delivered its First Mortgage 6% Gold Bonds, acquired by it as heretofore set forth, to The Union Trust Company of Pittsburgh, trustee under the indenture, on the dates and in the principal amounts shown below: DatePrincipal amountApril 1, 1938$45,000Jan. 3, 193945,000Aug. 23, 193918,000On September 1, 1939 the petitioner delivered to such trustee its check for $350,480 for the redemption of the then outstanding bonds. This check represented the following: Principal amount of bonds outstanding$337,000Premium - 1%3,370Interest coupons due October 1, 193910,110 Corresponding entries were made in the petitioner's books. The Greenville Steel Car Company, hereinafter called Greenville, was incorporated under the laws of the Commonwealth of Pennsylvania on January 2, 1925. On January 21, 1930 the outstanding preferred capital stock of the company was owned as follows: No. of sharesPreferredF. L. Fay2,836James P. Schrider775Howard Aumend375Others3,014Total7,00041 Greenville retired 611 shares of its First Preferred stock in December 1930 and 463 shares in January 1931. Certain restrictions upon the distribution of dividends on the common stock were imposed in a meeting of stockholders held on January 10, 1925, were referred to in the preferred stock certificates and were made conditions thereof. On January 21, 1930 the petitioner acquired all of the outstanding common stock of Greenville, consisting of 8,000 no par value shares, in exchange for 20,000 shares of the petitioner's stock which at that time had no par value. None of the preferred stock of Greenville was acquired on January 21, 1930 and the petitioner owned none of the preferred stock of Greenville at that time. The 8,000 shares of common stock of Greenville were recorded on the books of the petitioner at a value of $250,000, of which $100,000 represented the stated value of the 20,000 shares of the petitioner's no par value stock issued therefor and $150,000 was credited to the petitioner's capital surplus account. During the period from January 1, 1930 to December 31, 1936 Greenville paid no dividends on its common stock. It received net income or sustained loss and paid dividends42 on its preferred capital stock in the respective years in the amounts shown in the following schedule: Amount ofdividends paidon preferredYearNet IncomeNet Losscapital stock1930$ 90,569.24$ 37,485.421931$75,214.0721,100.59193296,718.55None19334,781.14None1934164,329.9520,741.00193569,919.5415,555.751936186,879.97191,854.25During the period from January 1, 1930 to December 31, 1936 the petitioner received net income or sustained loss and paid dividends on its capital stock in the respective years in the amounts shown in the following schedule: Dividendspaid onYearIncomeLosscapital stock1930$293,043.19$260,362.401931$184,457.92108,635.501932159,694.48None193373,781.46None193431,039.74None193557,864.19None193665,498.53NoneThe restrictions imposed on January 10, 1925 were amended so that the exclusive voting power was vested in the preferred stockholders during default under certain stated conditions. In order to remove these restrictions the petitioner determined to acquire the preferred stock of Greenville. 43 At a meeting of the petitioner's directors held July 20, 1937, authorization was given to the appropriate officers of the petitioner to acquire at least a majority of the outstanding preferred stock of Greenville. On August 2, 1937 the petitioner entered into an agreement with the Manufacturers National Bank of Detroit, hereinafter called the Bank, for the purpose of borrowing $592,600. The provisions of the loan agreement were carried out as therein recited, and the proceeds of the loan were used by the petitioner for the purposes therein stated. The agreement provided that the petitioner would purchase all procurable shares of Greenville preferred stock for a maximum price of $100 per share plus accrued dividends. The Bank agreed to lend the petitioner $592,600, to be covered by the petitioner's interest-bearing notes, payable $200,000 in 90 days, $50,000 in six months, $50,000 in one year, $50,000 in one and a half years and $242,600 in two years. The Greenville stock, preferred and common, owned by the petitioner, was pledged as collateral security, together with other securities of Greenville which might become the property of the petitioner, and the right to receive dividends44 from Greenville stock (provided that until the petitioner should default and should have failed to cure the default within ten days, the dividends should be paid to the petitioner for its own use) was also hypothecated as additional security. Pursuant to the loan agreement the petitioner purchased on August 2, 1937 all of the outstanding preferred stock of Greenville, consisting of 5,926 shares of a par value of $100 each, for the sum of $592,600. After the petitioner acquired all of the preferred stock of Greenville the rights of the preferred stockholders were modified by resolution adopted at a meeting of the stockholders of Greenville held August 21, 1937. The resolution provided, among other things, that the preferred stock should have no voting power. The petitioner paid to the Bank $100,000 on October 15, 1937, $100,000 on October 21, 1937 and $50,000 on November 23, 1937 as repayments on its loan secured August 2, 1937. The petitioner's adjusted net income for the year 1937 was $499,981.20. On December 31, 1936 its earned surplus was $3,286.48, and on December 31, 1937 it was $445,093.10. On July 31, 1937 the petitioner's net current assets were $299,396.40 and on October45 31, 1937 they were $284,277.96. Greenville paid dividends during 1937 as follows: PreferredCommonDateStockStockJanuary 16, 1937$10,370.50March 19, 193710,370.50June 25, 193710,370.50September 20, 193710,370.50October 15, 1937$200,000November 22, 193710,370.5050,000December 29, 193732,000$51,852.50$282,000Total dividends paid$333,852.50Of the total dividends paid by Greenville during the year 1937, dividends aggregating $302,741 were paid to the petitioner. The petitioner paid accrued dividends of $3,507.86 on the preferred stock at the time the preferred stock was purchased on August 2, 1937. The petitioner did not pay any dividends on its capital stock during the period from April 26, 1931 to December 26, 1939. The record discloses the following additional facts: The petitioner manufactures drop and upset steel forgings. The largest portion of its production is sold to the automotive trade and a considerable portion to the railroad industry. The business of both industries is seasonal. The recurrent demands of such seasonal business were met by securing current or short-term loans. The petitioner's own bonds, purchased46 by it prior to 1937, were retained in its treasury because none were due at the time of purchase. The petitioner did not offer such bonds for sale. The petitioner did not acquire and retire its bonds during the taxable years as contemplated in the bond indenture because it considered that it did not have sufficient funds to do so. Supported by its bankers, the petitioner regarded it more necessary to preserve its working capital than to retire its bonds. No feasible method of accomplishing the retirement of the bonds was developed. Greenville was engaged in the business of building and repairing freight cars. The Greenville stock was acquired by the petitioner in order to diversify and augment its own business. The petitioner was not in competition with Greenville. Greenville's business was fluctuating. It maintained no substantial inventory on hand except for specific orders. The dividend of $250,000 on the Greenville common stock was not used by the petitioner to retire its bonds because the petitioner had agreed with the Bank to apply it to the partial liquidation of the Bank loans. In 1939 the petitioner refinanced its loan with the Bank by a new loan of $500,000, and from 47 its proceeds paid off and retired its remaining outstanding bonds. Opinion VAN FOSSAN, Judge: The primary issue before us is whether or not the declaration of dividends by the petitioner in 1937 would have violated the provisions of Section 2, Article Second, of the mortgage indenture dated October 1, 1932, as contemplated by section 26 (c) (1) of the Revenue Act of 1936. 148 It cannot be gainsaid that this section, a part of the petitioner's written contract with the mortgagee, dealt expressly with the payments of dividends and that it was executed prior to May 1, 1936. Dr. Pepper Bottling Co. of Memphis, 45 B.T.A. 540">45 B.T.A. 540; Kaufmann Department Stores Securities Corporation, 2 T.C. 656">2 T.C. 656. The vital question is whether, under the present facts, the contract prohibits the declaration of dividends within the taxable year. The petitioner cites and relies on Maumee Malleable Castings Co., 44 B.T.A. 263">44 B.T.A. 263, and Page Oil Co., 41 B.T.A. 952">41 B.T.A. 952. We believe these cases are substantial and adequate authority to require a decision in petitioner's favor. In the Maumee case a parallel situation existed. Under the provisions of a mortgage petitioner in that case was prohibited from making any distribution of earnings or surplus until a bond had been fully paid. Petitioner did not pay off the bond in full. We held that its failure to pay the bond in full was actuated by sound business purposes and allowed the credit. See also E. C. Atkins & Co., 44 B.T.A. 441">44 B.T.A. 441,49 affirmed 127 F.2d 783">127 F.2d 783. We make the same holding here. Petitioner's action in paying the bank loan was actuated by sound business purposes, as was its action in conserving its working capital. The credit is allowed. The parties have agreed that the disposition of the primary issue determines the amount of the petitioner's liability for income tax due and allocable to the Commonwealth of Pennsylvania. The correct amount will be ascertained and taken into consideration upon the recomputation of the petitioner's tax hereunder. Decision will be entered under Rule 50.Footnotes1. SEC. 26. CREDITS OF CORPORATIONS. In the case of a corporation the following credits shall be allowed to the extent provided in the various sections imposing tax - * *(c) Contracts Restricting Payment of Dividends. - (1) Prohibition on payment of dividends. - An amount equal to the excess of the adjusted net income over the aggregate of the amounts which can be distributed within the taxable year as dividends without violating a provision of a written contract executed by the corporation prior to May 1, 1936, which provision expressly deals with the payment of dividends. If a corporation would be entitled to a credit under this paragraph because of a contract provision and also to one or more credits because of other contract provisions, only the largest of such credits shall be allowed, and for such purpose if two or more credits are equal in amount only one shall be taken into account.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623727/	Pressed Steel Car Company, Inc., Petitioner, v. Commissioner of Internal Revenue, RespondentPressed Steel Car Co. v. CommissionerDocket No. 35771United States Tax Court20 T.C. 198; 1953 U.S. Tax Ct. LEXIS 180; April 28, 1953, Promulgated 180 Decision will be entered under Rule 50. Income -- Deduction -- Purchase of Stock to Settle Dispute. -- The stockholders of a Delaware corporation transferred all of its assets, except one contract with the petitioner, to another corporation and then sold all of their stock in the Delaware corporation to the petitioner. The petitioner purchased the stock solely for the purpose of settling a dispute about its liability under the contract and it then dissolved the Delaware corporation. Held, that the amount which the petitioner paid for the stock was deductible from its income at the time paid and was not in the nature of an investment in the stock. Lee W. Eckels, Esq., Richard E. Olwine, Esq., and John Logan O'Donnell, Esq., for the petitioner.A. W. Dickinson, Esq., for the respondent. Murdock, 181 Judge. MURDOCK 198 The Commissioner determined a deficiency of $ 50,385.15 in excess profits tax for 1941. The only issue for decision is whether $ 375,000 paid by the petitioner in 1941 to the stockholders of Illinois Armored Tank Corporation for all of the stock of that corporation was paid to settle a claim of that corporation against the petitioner and, therefore, was deductible in computing the excess profits net income of the petitioner for 1941.FINDINGS OF FACT.The petitioner, a Pennsylvania corporation, filed its return for 1941 with the collector of internal revenue for the twenty-third district of Pennsylvania.The principal business of the petitioner prior to July 1940 was the production of various railroad cars. It had not manufactured armored tanks.Officers of the petitioner and officers of Armored Tank Corporation, a New York corporation (hereafter called New York), signed an agreement on July 23, 1940, which provided in part that the petitioner would pay New York $ 750 for each tank sold by the petitioner "of a 199 design other than that of" New York "as compensation for technical advice." Thereafter, the petitioner manufactured many tanks for the182 British Purchasing Commission and for the United States War Department. It received an advance of $ 500,000 from the British Purchasing Commission in November 1940 and paid New York $ 75,000.New York transferred all of its assets and liabilities to Armored Tank Corporation, a Delaware corporation (hereafter called Delaware I), in September 1941 and the president of the petitioner signed a letter on behalf of the petitioner consenting to the transfer. New York was dissolved after its stockholders had received the stock of Delaware I.Thereafter, the petitioner repudiated the acts of its officers in relation to New York and Delaware I as unauthorized and tried to cancel the contract calling for the payment of $ 750 on each tank. Delaware I refused to cancel. Negotiations were carried on in an effort to settle the differences between the parties but the petitioner never offered an amount in settlement which Delaware I was willing to accept. The petitioner suggested that it might buy all of the stock of Delaware I and the stockholders of Delaware I offered to sell their stock for $ 50 a share if they could retain the name (Armored Tank Corporation) and all other assets except the183 contract of July 23, 1940. The petitioner agreed to pay $ 37.50 per share for the Delaware I stock under the conditions offered.The name of Delaware I was changed to "Illinois Armored Tank Corporation" and a new corporation, "Armored Tank Corporation," hereafter called Delaware II, was incorporated. Delaware I then assigned all of its assets, except the contract of July 23, 1940, to Delaware II for all of the Delaware II stock which then went to the Delaware I stockholders.All of the stock of Delaware I, 10,000 shares, was transferred on October 15, 1941, to nominees of the petitioner for $ 375,000. Delaware I was dissolved on November 22, 1941.The petitioner never made any payments under the contract of July 23, 1940, except for the $ 75,000 paid in November 1940 and the $ 375,000 paid to the Delaware I stockholders. The latter payment was made by the petitioner to settle the claim against it for $ 750 per tank under the agreement dated July 23, 1940.The petitioner claimed the $ 375,000 as a deduction on its excess profits tax return for 1941. The Commissioner, in determining the deficiency, disallowed the deduction and explained:It is determined that a loss deduction claimed184 by you in the amount of $ 375,000.00 in the year 1941, which deduction arose from the purchase of the stock of Armored Tank Corporation, represented a short-term capital loss, no part of which is deductible in 1941.200 All facts stipulated by the parties are incorporated herein by this reference.OPINION.The Commissioner "contends that the payment was in the nature of an investment, so that if there was a loss in 1941 it was a short term capital loss, not allowable under section 117(d) of the Internal Revenue Code since petitioner had no short term gains." He cites but one case, Armored Tank Corporation ( N. Y.), 11 T.C. 644">11 T. C. 644, in which it was held that the $ 375,000 received by the Delaware I stockholders was an amount realized from the sale of their stock rather than a payment to Delaware I in settlement of its claim against the present petitioner. The Commissioner argues:The theory upon which respondent relied in that litigation was precisely the theory upon which petitioner relies here, namely that the payment of $ 375,000.00 to the stockholders of Delaware I was in settlement with that corporation of the disputed agreement of July 185 23, 1940 rather than a purchase of stock from the shareholders. (11 T.C. 644">11 T. C. 644, 652). The Court decided the issue against respondent.It is submitted that, under the principle of stare decisis, the Court should here follow its ratio decidendi and holding in Armored Tank Corporation ( N. Y.) et al, supra, and order entry of decision for respondent.It is true, as the Commissioner contends and the Court held in the cited case, that the petitioner did not settle the claim against it by a direct deal with and payment of the $ 375,000 to Delaware I and the latter had no income from that payment. Nevertheless, the petitioner effectively relieved itself of all liability under the contract of July 23, 1940, by paying the $ 375,000 for the Delaware I stock and then dissolving that corporation. The cited case is not in point or in conflict here.The evidence clearly shows that the only purpose of the petitioner in paying the $ 375,000 and acquiring the stock was to settle all claims against it under the agreement of July 23, 1940, and it had no intention of buying or holding that stock as an investment. The payment must186 be considered in accordance with the purpose for which the petitioner paid it in determining the tax consequences to the petitioner. Cf. Kimbell-Diamond Milling Co., 14 T. C. 74, affd. 187 F.2d 718">187 F. 2d 718, certiorari denied 342 U.S. 827">342 U.S. 827; cf. Western Wine & Liquor Co., 18 T.C. 1090">18 T. C. 1090; Charles A. Clark, 19 T. C. 48; Hogg v. Allen, 105 F. Supp. 12">105 F. Supp. 12. That purpose was to be relieved of a burdensome contract although the transaction took the form of a stock purchase. The amount is deductible as an ordinary and necessary expense of doing business or as a business loss. Helvering v. Community Bond & Mortgage Corporation, 74 F.2d 727">74 F. 2d 727; Camloc Fastener Co., 10 T. C. 1024; Olympia Harbor Lumber Co., 30 B. T. A. 114, affd. 79 F.2d 394">79 F. 2d 394.Decision will be entered under Rule 50.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623729/	EDISON SECURITIES CORPORATION, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Edison Sec. Corp. v. CommissionerDocket No. 52662.United States Board of Tax Appeals34 B.T.A. 1188; 1936 BTA LEXIS 588; October 21, 1936, Promulgated 588 Where evidence establishes that an agreement to carry out the statutory reorganization ultimately consummated was reached, an exchange made pursuant to and in accordance with the agreement is a part of a plan of statutory reorganization although the agreement had not then been formally expressed in corporate resolution. James O. Wynn, Esq., and C. J. McGuire, Esq., for the petitioner. James D. Head, Esq., and Hugh R. Dowling, Esq., for the respondent. STERNHAGEN 1188 SUPPLEMENTAL REPORT. STERNHAGEN: Pursuant to the mandate of the Circuit Court of Appeals for the Fourth Circuit, and in accordance with the court's opinion, , a further hearing in this proceeding was held, to receive more accurate and detailed evidence to support findings in respect of 1189 the so-called second transaction which occurred in February 1926, in order to determine whether, as petitioner contends, it constituted an exchange made pursuant to a plan for the reorganization which ultimately occurred. As to all else in respect of the reorganization question, both facts and589 the law are taken as settled. The following additional findings are made as the basis of the only question remaining for decision. FINDINGS OF FACT. The agreement set forth in the letter of January 29, 1926, was the culmination of a series of conferences beginning January 15, 1926, to frame a plan for the acquisition by Penn-Ohio of the common shares of Republic, the participants in which were representatives of Eastman, Dillon & Co., Penn-Ohio, and Harper & Turner. On January 29, 1926, an understanding amounting to an agreement was reached by the participants, whereby the demands of Eastman, Dillon & Co. that the preferred shares should be included in any reorganization plan were met. This conference was attended and the understanding therein reached by a substantial majority of the directors of both Republic and Penn-Ohio. Pursuant to and in accordance with the agreement of January 29, 1926, petitioner transferred to Penn-Ohio 5,753 shares of Republic common and Penn-Ohio transferred to petitioner in exchange therefor 11,506 shares of Penn-Ohio, then worth $31.67 a share, and Penn-Ohio bonds of face value of $143,825. The proper certificates covering this exchange were590 issued and the transaction was recorded by the Bankers Trust Co. as depository and as transfer agent of Penn-Ohio, on February 4, 1926. Pursuant to the agreement of January 29, the depository was instructed to discontinue the exchange of securities provided by the earlier arrangement of 1925, and on February 4, 1926, the directors of Republic formally met and by resolution approved the agreement which had been theretofore substantially made on January 29, 1926, whereby Penn-Ohio should offer to the Republic preferred shareholders to exchange one share of Penn-Ohio preferred plus $34.50 cash for one share of Republic preferred. The exchange heretofore described, which was made on February 3, 1926, was made pursuant to the plan of January 29, 1926, to consummate the reorganization which ultimately took place. OPINION. The earlier opinion proceeded upon the view that the plan of statutory reorganization which was ultimately carried through first became definitive on February 4, 1926, when the formal corporate 1190 resolution of the directors of Republic was adopted, there being inadequate evidence in the record as then made to establish that the plan was authoritatively591 adopted at an earlier date. The Circuit Court of Appeals, however, recognizing that the second transaction was so near in point of time and so similar in purpose to the third that there was ground for entertaining the belief that it too was a part of the plan of ultimate reorganization, remanded the proceeding for an ascertainment of the facts, in order that an accurate determination in this respect could be made. Thereupon the parties presented a detailed stipulation of facts showing the evidence to be found in the corporate books and records, and the petitioner supplemented this stipulation with the oral testimony of one of the men who participated in the series of conferences. From this evidence, it is unmistakable that the agreement to carry out the statutory reorganization which was ultimately consummated was reached on January 29, although not formally expressed in corporate resolution until February 4. The exchange of February 3 was not made, as the Commissioner contends, as an added step in the earlier negotiations of 1925, but was only made because on January 29 the authorized representatives of all parties had reached such an agreement as provided satisfactorily for the592 rights of the preferred shareholders represented by Eastman, Dillon & Co., together with other details which had theretofore not been provided for. Thus the transaction of February 3 stands in the same case as the later transactions which have heretofore been held to be part of a plan of statutory reorganization. It results that the exchange on February 3 by petitioner of 5,753 shares of Republic common for 11,506 shares of Penn-Ohio common and $143,825 of Penn-Ohio bonds was a transaction pursuant to a plan of reorganization within the meaning of the statute, and is not to be treated as a nonreorganization exchange as held in the prior opinion of the Board. In its opinion, the court required that the liquidation dividend of $7,500 in 1926 and the net loss of $51,950.73 in 1925 should be properly considered. These have been covered by a stipulation of the parties that the petitioner is entitled to no such net loss deduction and that the distribution of $7,500 is not to be included in petitioner's 1926 income. In accordance with this stipulation and with the holding of the Board upon the matter in issue, Judgment will be entered under Rule 50.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623731/	George Beggs, Petitioner, v. Commissioner of Internal Revenue, Respondent. Francine Beggs, Petitioner, v. Commissioner of Internal Revenue, RespondentBeggs v. CommissionerDocket Nos. 1738, 1739United States Tax Court4 T.C. 1053; 1945 U.S. Tax Ct. LEXIS 197; March 30, 1945, Promulgated 197 Decisions will be entered under Rule 50. In 1934 petitioner conveyed property in trust to his brother for the benefit of his minor children. In 1935, by separate instrument, petitioner conveyed other property to himself and his brother in trust for the benefit of his minor children. Petitioner consistently treated the instruments as creating one trust, although not specifically authorized in the trust instruments. Part of the income of the trust property was used for the support, education, and maintenance of petitioner's minor children; part was used to pay premiums on insurance taken out by petitioner on his own life, which policies were not assigned to the trust, and to pay premiums on other policies owned by petitioner and not irrevocably assigned by him to the trust; substantial amounts were loaned to petitioner in his individual capacity and to a partnership of which he was a member; and trust funds were used to purchase real estate used by petitioner in his business. Held, the income of the trust or trusts is includible in petitioner's community income under section 22 (a) and under the principle of Helvering v. Clifford, 309 U.S. 331">309 U.S. 331.198 Caesar L. Aiello, Esq., for the petitioners.William G. Ruymann, Esq., for the respondent. Arundell, Judge. ARUNDELL1053 This proceeding involves deficiencies in income tax, together with a 5 percent penalty for delinquency in filing returns for the year 1054 1937, determined against each petitioner for the years and in the amounts as follows:5% delinquencyYearDeficiencypenalty1937$ 2,634.58$ 131.7319382,520.0219391,633.3519401,567.1919412,610.73Total10,965.87131.73199 Petitioners allege error in so far as the deficiencies result from including in their community income the income of certain property conveyed in trust by petitioner George Beggs under indentures dated July 9, 1934, and December 20, 1935. Petitioners also plead the statute of limitations as to the years 1937 and 1938. It is agreed, however, that, if the income of the trusts is properly includible in petitioners' income, the extended period for assessment provided by section 275 (c) of the Revenue Act of 1936 and of the Internal Revenue Code is applicable, in which case the notices of deficiency were timely. The cases have been consolidated for hearing, inasmuch as the issues as to each petitioner are identical, petitioner Francine Beggs being involved only because community returns were filed.FINDINGS OF FACT.The petitioners, George Beggs and Francine Beggs, are husband and wife and at all times here material resided at Fort Worth, Texas. For all the years here involved they filed separate returns on the community property basis with the collector of internal revenue for the second district of Texas.In 1931 petitioner acquired a 21/64 interest in the gas, oil, and other minerals200 in certain lands in Rusk County, Texas.In 1930 he acquired land known as the Pursley Ranch for a consideration of $ 59,707.81, of which he paid $ 17,207.81 in cash and gave his promissory note in the sum of $ 42,500 for the balance due.In 1932 he acquired land known as the Foley Ranch for a consideration of $ 75,000, of which he paid $ 3,000 in cash and gave his promissory note in the sum of $ 72,000 for the balance due.At the time petitioner acquired the above property he had in mind creating a trust and he intended to have the income derived from the oil rights pay for the ranch lands.On March 16, 1934, petitioner conveyed to J. E. Beggs, his brother, as trustee, his interest in the oil properties in trust for the benefit of his four children, Deborah Dickey Beggs, born November 20, 1918, George Beggs, Jr., born June 19, 1921, Ed Farmer Garrett Beggs, 1055 born October 21, 1922, and Helen Francine Beggs, born June 27, 1925. This instrument, after describing the property transferred, reads in full as follows:This conveyance is made, in trust, for the use and benefit of my four children, Deborah Dickey Beggs, George Beggs, Jr., Ed Farmer Garrett Beggs, and Helen Francine201 Beggs; and my said trustee is hereby empowered to manage, sell, control, and dispose of said minerals for the use and benefit of my said children, and to pay to them in equal parts the proceeds and revenues therefrom; and the entire beneficial interest in and to said minerals is hereby vested in my said children.In the event of the death or resignation of said trustee, grantor shall have the right to appoint another trustee with all the powers herein granted.Witness my hand at Fort Worth, this the 16th day of March, A. D. 1934.[Signed] Geo. BeggsThis transfer was reported in a gift tax return by petitioner at a value of $ 52,900. A gift tax of $ 21.75 was paid.After the execution of the foregoing instrument, it was found that the trustee thereunder was not empowered to borrow money or to execute mortgages, which powers were essential to petitioner's plan to have the ranch land brought into the trust as hereinafter described. Petitioner wanted to avoid, if possible, any indebtedness of the trust to himself personally and discussed the matter with an attorney. The attorney advised him that it would be necessary to obtain the consent of all parties interested in the matter, including202 the beneficiaries, who were at that time minors, in order to modify the trust instrument. Petitioner, however, did not desire to have the children know the extent of the property which had been conveyed in trust for them or to subject them to a court proceeding and, accordingly, after consultation with an attorney and with the trustee it was decided that the attorney should proceed to correct the instrument without the consent of the beneficiaries. Thereupon, by instrument dated July 6, 1934, the trust property was reconveyed by J. E. Beggs, trustee, to petitioner and on July 9, 1934, the same property was transferred back to the trustee. The corrected instrument, after reciting the description of the property, reads in full as follows:This conveyance is made, in trust, for the use and benefit of my four children, Deborah Dickey Beggs, George Beggs, Jr., Ed Farmer Garrett Beggs, and Helen Francine Beggs; and my said Trustee is hereby empowered to manage, control, dispose of, sell and convey, any part or all of said minerals, and to borrow money thereon, or any part thereof, and pursuant thereto to execute mortgage or mortgages, assignments, transfers and conveyances thereon, for203 the use and benefit of my said children, and to pay to them in equal parts the proceeds and revenue therefrom; and the entire beneficial interest in and to said minerals is hereby vested in my said children.In the event of the death or resignation of said Trustee, Grantor shall have the right to appoint another Trustee with all the powers herein granted.1056 This instrument is a correction Deed in Trust, executed in lieu of and in the place and stead of a certain original Deed in Trust dated March 16, 1934, filed for record and recorded in Vol. 246, at pages 514-15, Deed Records of Rusk County, Texas.Witness my Hand at Fort Worth, Texas, this the 9th day of July, A. D. 1934.[Signed] George Beggs.On December 20, 1935, petitioner conveyed to himself and J. E. Beggs, as trustee, the Pursley and Foley Ranches purchased by him in 1930 and 1932. The trust instrument provided that there should at all times be two trustees; that upon the death, resignation, failure to act, or incapacity of either of the initial trustees, the remaining trustee should immediately appoint a substitute; that upon the thirtieth birthday of the younger of petitioner's two sons the then acting trustees204 should cease to act and the two sons become joint trustees; that, if either of the boys should die before reaching the age of 30, the survivor upon becoming 30 should become trustee and himself appoint a second trustee; that, in the event both boys should die prior to reaching the age of 30, the then acting trustees should continue in that office.That instrument further provides as follows:Second: That the Trustees are to reimburse the said George Beggs for certain indebtedness due and owing by the Trust herein and hereby created, to him, as hereinafter set forth, represented by and equivalent to: The amounts paid by him on the original purchase price of said lands, with interest thereon, plus any amounts that the said George Beggs may hereafter be required to pay on the incumbrances outstanding thereon; and the amounts paid by him on improvements on said lands, plus interest thereon; all of which is reflected by the books of the said George Beggs. But It Is Expressly Stipulated that any and all conveyances executed by said Trustees conveying any or all of said lands, or any interest therein, or any and all Deeds of Trust or mortgages executed by them thereon, pursuant to the terms, 205 provisions, and conditions of this Trust, shall be free and clear of all of said indebtednesses in favor of the said George Beggs without the execution by him of a release thereof or of his joinder in the execution of said conveyances, Deeds of Trust or mortgages.Paragraph third of the trust instrument authorized and empowered the trustee to sell or transfer any part or all of the real estate, to mortgage the lands when necessary for the preservation of the trust estate, to execute oil leases on the trust property and "to manage, control, lease and rent" the trust property. The trustee was further specifically authorized to lease the land to petitioner J. E. Beggs or to either or both of the two sons at rental rates current at the time of such leasing. The proceeds from the sale of land were to be applied first to payment of the existing mortgages and second to be invested and held in trust as part of the corpus of the trust. The proceeds from mineral leases were to be applied first to the payment of mortgages, second to the upkeep of the trust properties, including interest and 1057 taxes, and third to be invested and held as part of the trust corpus, "or, may be treated206 as income and paid by the Trustees to the Beneficiaries hereunder annually or semi-annually as the same accrue and are collected." The proceeds from the leasing of lands and from any other investments were to be applied first to the payment of mortgages, second to make up any deficit in expenses of upkeep, taxes, and interest, resulting from an inadequacy of other sources of income to cover the same, and the balance to be distributed periodically as income to the beneficiaries. It is further provided that any and all income properly paid, credited, or distributed to the beneficiaries under the foregoing provisions shall be chargeable directly to the beneficiaries pro rata.Paragraphs fourth and fifth of the trust instrument provide as follows:Fourth: (a) That during the existence of this trust and until the termination thereof, the beneficial use of said properties shall be, and the same is hereby vested in the four children of the Grantor hereof, to-wit: Deborah Dickey Beggs, George Beggs, Jr., Ed Farmer Garrett Beggs and Helen Francine Beggs, share and share alike, or in the survivors or survivor of them, as hereinafter modified. (b) That in the event of the death of any one 207 or more of said children during the existence of this trust, the beneficial interest or interests of said child or children so dying, shall, subject to the terms and conditions hereof, thereupon pass to and become vested in the lineal descendant or lineal descendants of said child or children so dying, as the case may be, per stirpes, respectively, but in no event shall the same pass to and become vested in the husband or wife of any deceased child or children; but if said deceased child or children leave no lineal descendant or lineal descendants then in that event the beneficial interest or interests of said child or children so dying prior to the termination of this trust shall thereupon pass to and become vested in the survivors or survivor of the said Deborah Dickey Beggs, George Beggs, Jr., Ed Farmer Garrett Beggs and Helen Francine Beggs, share and share alike, which survivors or survivor shall thereupon become the sole beneficiaries under the terms, conditions and provisions of this trust and continue as such until the termination thereof. Provided, however, that in the event of the death of all of the said children, to-wit: Deborah Dickey Beggs, George Beggs, Jr., Ed Farmer208 Garrett Beggs and Helen Francine Beggs, and of all of their lineal descendants, if any, prior to the 27th day of June, A. D., 1990, thus extinguishing all of the Beneficiaries herein named, then in that event this trust shall cease and terminate, and the legal and equitable title to all of the properties herein and hereby conveyed shall thereupon revert and pass to George Beggs, the grantor hereof, his heirs and assigns in fee simple forever.Fifth: That this trust shall cease and terminate on the 27th day of June, A. D., 1990, unless terminated prior thereto as hereinbefore provided, whereupon the legal title to the properties hereinbefore described and all property, both real and personal, forming a part of said trust estate, shall thereupon pass to and become vested in fee simple forever in the persons, who, in accordance with Article Fourth hereof, supra, shall then be entitled to the beneficial or equitable use thereof.It was petitioner's purpose through the medium of the two trust instruments set forth above to purchase the ranch lands with the proceeds from the mineral interests conveyed to J. E. Beggs as trustee 1058 under the trust instrument of March 16, 1934. Although209 the two trust instruments were executed as separate instruments and at different times, petitioner looked upon all of the property as one trust estate, and kept all of the accounts and transactions as a single trust.Additional properties were purchased by the trust with the income received from the gas, oil, and mineral royalties. A small amount of stocks and bonds was also purchased by the trust. Some of these properties were purchased by petitioner and transferred to the trust by him, the purchase price being carried on the books as a credit in his favor.On October 20, 1923, petitioner took out four policies on his life with the Aetna Life Insurance Co., each one in the face amount of $ 12,500, naming separately one of his children in each policy as a beneficiary thereof. From October 8, 1938, through the year 1941 the premiums on these policies were paid by the trust out of trust income. Such premiums amounted to an aggregate of $ 1,152.50 each year. There was no assignment of the policies to the trust. The policies were handled in this manner because petitioner "considered they [the children] would get the benefits of it [them] * ."Prior to 1928 petitioner had acquired210 by assignment an insurance policy on the life of William H. Slay, Sr., of Fort Worth, Texas, issued by the Indianapolis Life Insurance Co. of Indianapolis, in the sum of $ 2,500. The policy had been assigned to petitioner in settlement of a debt of the insured. By a writing dated September 29, 1938, petitioner purported to assign all his right and title in this policy to J. E. Beggs, trustee, for the benefit of his four children. Premiums in the amount of $ 216.25 were paid from trust funds each year from 1938 through 1941. The instrument reads in full as follows:For Value Received, I, George Beggs, hereby assign and transfer unto J. E. Beggs, Trustee for Deborah Dickey Beggs, George Beggs, III, Ed Farmer Garrett Beggs and Helen Francine Beggs, all my right, title and interest in the policy of insurance known as No. 52642 issued by The Indianapolis Life Insurance Company of Indianapolis, Indiana, upon the life of William H. Slay, Sr., of Fort Worth, Texas, and all dividends, benefits, surrender values and advantages to be had or derived therefrom, subject to the conditions and provisions of said policy, and to the Rules and Regulations of the Company.For the purpose of more 211 effectually carrying out this assignment I hereby constitute and appoint said assignee my lawful substitute, and irrevocable Attorney-in-Fact for and in my name, place, and stead to collect from said Company any and all monies which, under said policy, shall become owing or may be collectible thereon, at or before its maturity, whether for dividends, the sum insured, the exercise of any option or otherwise, and to acquit and release said Company as fully as I could do in person.Witness my hand, this 29th day of September, A. D., 1938.[Signed] Geo. Beggs.Prior to 1938 petitioner had acquired by assignment in settlement of a debt of the insured a policy of insurance on the life of U. M. 1059 Simon, in the face amount of $ 25,000, issued by the Southland Life Insurance Co. On April 1, 1940, petitioner executed the following instrument:To Whom It May Concern:Regarding Life Insurance policies Indianapolis Life -- #52642 on the life of W. H. Slay -- Southland Life Ins. Policy U. M. Simon -- #55935.This is to state and serve as evidence that any interest I have had in these policies or may have at this date or any future date is the property of Trusts #1 -- J. E. Beggs and 212 Trust #2 -- J. E. Beggs and Geo. Beggs -- such trusts are for my four children -- Deborah -- George -- Ed Farmer and Francine.The yearly premiums on the Simon policy, in the amount of $ 766.25, were paid by the trust from trust income from 1938 through 1941. Neither of the purported assignments was noted on the policies or on the books of the respective insuring companies.Throughout the entire period here involved only one bank account was kept for the trusts. That account was opened on or about July 30, 1934, in the name of J. E. Beggs, trustee. Petitioner was authorized to draw checks by signing J. E. Beggs, trustee, by Geo. Beggs. Both the trustee and petitioner did draw checks from the beginning. Petitioner used his own discretion in the matter of drawing checks on the account.Financial dealings between the trusts and petitioner have been numerous over the years. The books of the trusts reflect these dealings in the following accounts, hereby incorporated by reference in these findings in their entirety: "Accounts Payable -- George Beggs," "Accounts Receivable -- George Beggs," "Notes Payable -- George Beggs," "Notes Receivable -- George Beggs," and "Notes Receivable -- 213 Beggs Bros." The following table is a summary of loans by the trust to petitioner on open account from the year 1934, together with repayments and year-end balances.Year-endYearLoansRepaymentsbalances1934$ 14,135.79$ 686.03$ 13,449.76193528,269.5820,998.0420,721.3019361,209.80777.7521,153.351937367.10799.15Note for$ 20,721.30The repayments were made partly in cash, but mainly by crediting the accounts receivable with expenditures made by petitioner on behalf of the trusts. The final payment in 1937, closing the account, was made by a credit of $ 799.15, by reason of expenditures made by petitioner on one of the ranches, and by a note in the amount of $ 20,721.30 given the trusts by petitioner on November 19, 1937. This note was thereupon taken into the trust account entitled "Notes Receivable -- George Beggs."1060 Petitioner became indebted to the trust on demand notes, given by him as evidences of advances to him by the trust, as shown in the following table, which is a summary of the "Notes Receivable -- George Beggs" account.Year-endYearNotesRepaymentsbalances1934$ 1,000.00$ 1,000.0019359,000.00$ 8,2601,740.0019364,707.686,447.68193720,721.301,00026,168.98193826,168.98214 In 1939 the notes receivable account was closed and petitioner ceased to be indebted to the trusts by virtue of a transfer of credits to the notes receivable account from the "Accounts Payable -- George Beggs" account. The latter account was set up on June 23, 1939, to reflect expenditures made on the ranch lands by petitioner prior to the transfer in trust on December 20, 1935. Since June 23, 1939, petitioner has always appeared as a creditor on the books of the trusts. As of the close of 1941 the books showed the trusts to be indebted to him on three demand notes, as follows: One note in the amount of $ 50,189.34; one note in the amount of $ 8,359.64; and one note in the amount of $ 46,588.08, making a total indebtedness of $ 105,137.06. Interest was paid by the trusts on all three notes.The advances and loans set forth in the preceding two tables were made in connection with various transactions between petitioner and the trust and on a few occasions advances were made from trust funds to take care of some pressing obligations of petitioner while he was absent. Advances were made to petitioner's wife on four different occasions, but these advances were promptly repaid by 215 petitioner and so were any other advances of a like nature.The trusts also loaned money to Beggs Bros., a partnership engaged in the ranching business and composed of petitioner, J. E. Beggs, and a third brother, W. D. Beggs, which loans were evidenced by demand promissory notes of the partnership. The following summary of the trusts' "Notes Receivable -- Beggs Bros." account shows such loans, the repayments, and the year-end balances. 1Year-endYearLoansRepaymentsbalances1934$ 4,000.00$ 4,000.0019358,300.0012,300.0019362,648.20$ 1,000.0013,948.20193711,953.1110,000.0015,901.31193813,809.9421,967.957,743.3019397,743.307,743.307,743.3019407,743.307,743.307,743.30194111,759.707,743.3011,759.701061 These loans were made for reasons personal to the 216 Beggs Bros. partnership.Since acquisition by petitioner, the Pursley and Foley Ranches have been rented to Beggs Bros. at the prevailing rental price.Upon petitioners' request the time for filing their returns for the calendar year 1937 was extended from March 15 to April 15, 1938. The returns were not actually filed until April 19, 1938. The failure to file the returns within the time prescribed was not due to reasonable cause.During the years 1937 to 1941, inclusive, the following amounts of trust income were expended for the care, education, and maintenance of the minor beneficiaries of the trusts:1937$ 8,030.6119386,573.8819396,302.4519405,893.2419418,169.02Petitioner has either paid the tax due by reason of the expenditures for the benefit of his children in these years or has signed Form 870 with respect thereto.Respondent increased the community income of petitioner by including therein the income of the trusts in each of the years from 1937 to 1941, inclusive. Respondent also determined a 5 percent penalty against each petitioner for failure to file timely returns for 1937.OPINION.The principal issue presented for decision is whether or not217 the income of the trust or trusts created by petitioner George Beggs by instruments dated July 9, 1934, and December 20, 1935, may be treated as the community income of petitioners despite the transfer in trust, under section 22(a) of the Revenue Acts of 1936 and 1938 and the Internal Revenue Code, and under the principle of . As stated in the Clifford case, the issue is whether the grantor, after the trust has been established, may still be treated as the owner of the corpus within the meaning of section 22(a), and the answer to the question depends upon "an analysis of the terms of the trust and all the circumstances attendant on its creation and operation."The complex factors of this case, brought into proper focus, present a relatively simple picture. Petitioner George Beggs, desiring to create a trust for his children, conceived a long range plan for effectuating his desire. His plan was to set up a trust consisting of oil properties and then, as the oil properties were wasting assets, to have the 1062 proceeds thereof pay for ranch lands already owned by him, subject to purchase money mortgages. 218 He was to be reimbursed for the consideration advanced by him in purchasing the ranch lands and for all expenditures made by him on the ranches up to the time of the conveyance in trust and was to be paid interest thereon. In pursuance of this plan the trust, composed of the oil properties, was created March 16, 1934. Some months later petitioner realized that this trust instrument did not empower the trustee to borrow money or to assume mortgages, powers essential to the operation of his plan. Without the consent of the beneficiaries, petitioner summarily directed the reconveyance of the trust property to himself and then under a modified indenture, incorporating the desired powers, he retransferred the property to the same trustee. The following year, by separate instrument, he transferred the ranch lands in trust to himself and to his brother, who was the sole trustee under the first trust indenture. The second instrument stands by itself without reference to the first trust and contains different and more complete terms for the management and disposition of the property subject to it.Petitioner looked upon the two instruments as constituting one trust, used the one bank219 account for both, and maintained a single set of books for the two trusts. In fact the greater part, perhaps almost all, of the income, came from the oil properties constituting the corpus of the first trust.Under the trust instrument of July 9, 1934, J. E. Beggs, petitioner's brother, was sole trustee. However, it appears that petitioner, in fact, acted as cotrustee. The powers conferred upon the trustee by this instrument were "to manage, control, dispose of, sell and convey, any part or all of said minerals, and to borrow money thereon, or any part thereof, and * * to execute mortgage or mortgages, assignments, transfers, and conveyances thereon, * * * and to pay to them [the children] in equal parts the proceeds and revenues therefrom * * ."Under the trust instrument of December 20, 1935, all of the usual broad powers of management ordinarily vested in trustees were conferred upon petitioner and his brother as cotrustees. It may be noted here that there was given them no power to lend trust funds to themselves or to anyone else. (This was also true of the trust instruments dated March 16 and July 9, 1934.) This trust provided specifically for the handling and disposition220 of the trust income, directing the application of the income first to the payment of the mortgage indebtedness and second to the payment of ordinary expenses, upkeep, taxes, and interest. Income over and above these items from the sale of land was to be accumulated and income from 1063 the leasing of mineral interests on the land was to be accumulated or distributed at the discretion of the trustees. Only income from the leasing of land or from sources other than the above in excess of amounts necessary to cover mortgage payments and expenses of upkeep was required to be distributed to the beneficiaries.The parties have argued at length the question of whether one or two trusts are involved here. Petitioner contends it was at all times his intention to create only one trust and that his treatment of the profits placed in trust is consistent with that intention. Respondent points to the separate and independent instruments, the different terms of the instruments, and to the fact that there were two trustees under the second indenture, to establish that there were two trusts actually created. Under our view of the question, however, this point makes but little difference. 221 Upon analysis of the terms of the two instruments, there is nothing therein which could be considered to impeach the absoluteness of the transfers in trust. However, the manner of operation of the trust or trusts is significant. In the first place, the original trust of March 16, 1934, was substantially modified by petitioner without the consent of the beneficiaries. Then he proceeded to borrow large sums from the trust, although the trustee was not authorized to lend money. After the second conveyance in trust in 1935, he continued as trustee to lend to himself, as an individual, large sums of money for personal and business reasons. As trustee he also loaned money to a partnership composed of himself and his two brothers. We are unable to say from an examination of the several accounts offered in evidence that interest was paid on any of these loans, although petitioner insists it was. Petitioner in his individual return claimed no deduction for interest paid in any of the years here involved. The fiduciary returns filed by J. E. Beggs, trustee, included interest received in gross income of the trusts for some of the years here involved, but the sums reported in those years222 bear no relation to the sums claimed to have been paid as interest by petitioner and the Beggs Bros. partnership. On this state of the record, we are unable to find as a fact that any interest was, in fact, paid by petitioner and by his partnership on the various loans to them.Premiums on four policies taken out by petitioner on his own life were paid out of the trust income from 1938 through 1941. These policies were not assigned to the trusts, but petitioner merely considered it proper for the trusts to pay the premiums on these policies, inasmuch as the beneficiaries of the trusts were also beneficiaries under the policies. Petitioners now concede that under the provisions of 1064 section 167 (a) (3) the portion of the trust income so used is includible in their income for those years. In addition, trust income was used to pay premiums on other policies which were not irrevocably assigned to the trust by petitioner. We think these circumstances are factors to be considered along with other indicia of ownership in determining taxability under section 22 (a).Another factor may also be observed relative to the disposition of the trust income. In all of the years here223 involved income in amounts determined by the trustee was used for the support, education, and maintenance of the minor children of petitioner, although there is no provision in the trusts authorizing the use of trust funds for this purpose. Petitioners now concede the propriety of including the income so used in their community income under the rule of , as modified by section 134 of the Revenue Act of 1943. The 1943 amendment, however, does not operate to exclude the discretionary use of income in discharge of the parental obligation from all consideration. Such power still remains one of the factors to be considered among others in determining the applicability of section 22 (a). .Moreover, the ranch lands which petitioner transferred to the trust were continually used in petitioner's business, or that of a partnership of which he was a member.Upon all of these facts, we are of the opinion that petitioner has retained such controls, and has actually enjoyed such direct economic benefits as to justify treating him as the continuing owner of 224 the property transferred in trust, and so taxable on the income thereof. This, we think, is true even though the trust instruments do not spell out the retained controls and economic benefits lodged in petitioner. On this point the respondent is sustained. ;.The second point concerns the correctness of the 5 percent penalty determined by respondent for delinquency in filing the returns for the year 1937. The returns were due March 15, 1938. An extension was granted by the respondent upon request to April 15, 1938. The returns were actually filed April 19, 1938. Section 291 of the Revenue Act of 1936 provides that in case of any failure to file a return within the time prescribed by law or regulation, a 5 percent penalty shall be added to the tax for each 30 days of delinquency, not exceeding 25 percent in the aggregate, unless the failure is shown to have been due to reasonable cause and not to willful neglect. No reason at all has been advanced for the delay in filing the returns for 1937. Therefore, we must sustain the Commissioner in his determination. *225 Decisions will be entered under Rule 50. Footnotes1. There is some confusion in the record as to the exact amounts in this account, but the table sufficiently illustrates the dealings between the trust and the Beggs Bros. partnership.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623732/	Marvin R. Adams, Jr., and Jeanne H. Adams, Petitioners v. Commissioner of Internal Revenue, RespondentAdams v. CommissionerDocket No. 12238-78United States Tax Court74 T.C. 4; 1980 U.S. Tax Ct. LEXIS 155; April 3, 1980, Filed 155 Decision will be entered for the respondent. A small business corporation issued all its stock to a third party. One and one-half years later, the corporation repurchased all its stock and then immediately resold some stock to petitioner's brother who caused the corporation to retire the remaining stock to the status of authorized but unissued stock and to adopt a sec. 1244 plan. Three weeks later, petitioners contracted to purchase a portion of the remaining stock. Five months later, they made final payment on the stock and the corporation issued the stock to them. They have held the stock continuously since that date. Held, petitioners have continuously held the stock from the date of issuance within the meaning of sec. 1.1244(a)-1(b), Income Tax Regs.Held, further, petitioners are not entitled to ordinary loss treatment under sec. 1244, I.R.C. 1954, because they failed to prove that the corporation received any new funds by virtue of the stock sale. Joseph C. Ferrell, for the petitioners.Avery B. Cousins III, for the respondent. Dawson, Judge. DAWSON4 OPINIONRespondent determined a deficiency of $ 22,995 in petitioners' Federal income tax for the year 1975.5 At issue is whether petitioners can treat the loss on their corporate stock as an ordinary loss under section 12441 when the stock had been previously issued to a third party, later repurchased by the corporation which returned it to the status of authorized but unissued stock, and then resold it to petitioners.This case was submitted fully stipulated pursuant to Rule 122, Tax Court Rules of Practice and Procedure. The stipulation of facts and attached exhibits are incorporated herein by this reference. The pertinent facts are set forth below.Marvin R. Adams, Jr., and Jeanne158 H. Adams (petitioners) resided in Bradenton, Fla., at the time they filed their petition in this case. They filed a joint Federal income tax return for 1975 with the Internal Revenue Service Center, southeast region, Chamblee, Ga.In early 1973, W. Carroll DuBose (DuBose) helped found Adams Plumbing Co., Inc. (Adams Plumbing), whose offices are located in Margate, Fla. Adams Plumbing was incorporated in Florida on July 25, 1973. It had an authorized capital of 100 shares of common stock, with a par value of $ 1 per share. The corporate minutes show that the stock was issued to DuBose on July 25, 1973. The first officers were William R. Adams (brother of petitioner Marvin R. Adams, Jr.), president, and J. Lucille Adams, secretary.On August 5, 1974, DuBose was elected chairman of the board of directors of Adams Plumbing, and William R. Adams was elected a director. As of that date, William R. Adams was still the president of the corporation, and then also became vice president; Francine Adams was the secretary-treasurer.On February 10, 1975, Adams Plumbing repurchased the 100 shares from DuBose. On the same day, William R. Adams purchased 10 of the 100 shares of Adams Plumbing. 159 On February 11, 1975, the corporation, pursuant to State law, retired its remaining 90 repurchased shares to the status of authorized but unissued stock. In addition, a written plan complying with the procedural requirements of section 1244 was adopted to issue these 90 shares as section 1244 stock. The corporation at that time was a small business corporation as defined in section 1244.9 On March 1, 1975, Adams Plumbing and petitioners (denominated Rodney J. Adams and Jean Adams in the agreement) entered into a sales agreement 2 for 80 of the 90 shares. Pursuant to the terms of the agreement, 80 shares of the corporate stock were issued to petitioners in their joint names on August 1, 1975. They paid $ 120,000 for the 80 shares. The 80 shares have been held continuously since August 1, 1975.160 On August 9, 1975, the remaining 10 shares were sold to 7 Richard F. Wynkoop and his wife, Marlene. Richard Wynkoop was a friend of petitioner Marvin R. Adams, Jr.An outline of the stock issued by Adams Plumbing is as follows:StockcertificateNumber ofDate ofNo.-sharesRecipienttransfer1100W. Carroll DuBose 17/25/732voided3voided410William R. Adams2/10/755voided610Richard R. and Marlene B.Wynkoop8/9/75760Rodney Adams, Jr., and JeanAdams38/1/758 220Rodney Adams, Jr., and JeanAdams38/1/75920Rodney Adams, Jr., and JeanAdams38/1/75The common stock of Adams Plumbing became worthless in the year 1975. On their joint Federal income tax return for 1975, the petitioners claimed a loss on their investment in Adams Plumbing. They claimed $ 50,000 as an ordinary loss under the provisions of section 1244, and an additional $ 70,000 as161 a capital loss on worthless securities on the Schedule D attached to the return.On April 20, 1976, Francine Adams tendered her resignation as secretary-treasurer of Adams Plumbing, and William R. Adams tendered his resignation as president, vice president, and director of the corporation.Section 1244 provided during the year involved herein that in the case of an individual, a loss on "section 1244 stock" issued to such individual shall be treated as an ordinary loss to the extent of $ 50,000 for a husband and wife filing a joint return. 3162 8 One of the elements of the definition of section 1244 stock is that the stock must be issued by the corporation, pursuant to a plan, for money or other property other than stock and securities. Sec. 1244(c)(1)(D). The regulations promulgated under section 1244 provide that in order to claim a deduction under section 1244 the individual "must have continuously held the stock from the date of issuance." Furthermore, an individual who acquires stock from a shareholder by purchase, gift, devise, or in any other manner is not entitled to an ordinary loss under section 1244 with respect to such stock. 4163 9 The stipulation of facts and the attached exhibits show that petitioners purchased common stock from Adams Plumbing, a corporation qualified as a small business corporation under section 1244. The corporation had initially sold all of its 100 authorized shares of common stock to DuBose in 1973. On February 10, 1975, the corporation repurchased the 100 shares from DuBose, and then sold 10 of the 100 shares to William R. Adams. The remaining 90 shares were retired to the status of authorized but unissued stock. 5 On the next day, February 11, 1975, the corporation adopted a written plan under section 1244 to issue the 90 shares.164 On March 1, 1975, petitioners contracted to buy 80 shares of the corporation's common stock with the consideration to be paid before December 31, 1975. The purchase contract provided that the parties agreed that Marvin's brother, William R. Adams, was president of the corporation, managed all operations, and that 10 the petitioners' stock was to be voted exclusively by William R. Adams on all matters under any and all conditions.On August 1, 1975, the corporation issued two certificates of stock to petitioners pursuant to the contract: one certificate for 60 shares and the other for 20 shares. Petitioners held these shares in their joint names continuously from August 1, 1975. The stock became worthless in December 1975.On these facts, the petitioners argue that they are entitled to ordinary loss treatment under section 1244 on their stock because section 1244(a), section 1244(c)(1)(D), and section 1.1244(a)-1(b), Income Tax Regs., state only that the stock must be issued to an individual and such individual must hold the stock continuously from the date of issuance. Petitioners contend that they have in fact held stock issued by the corporation continuously from the date165 of issuance to the date of loss. They argue that it is irrelevant that DuBose held all the stock of the corporation prior to its resale back to the corporation and that the corporation retired the stock from treasury stock into authorized but unissued stock.Because neither the Internal Revenue Code nor the regulations expressly prohibit, or even address, shares which were previously issued to a third party, then reacquired by the corporation, and retired to the status of authorized but issued, from being eligible for section 1244 stock, petitioners contend that the loss incurred qualifies for section 1244 treatment. They assert that to require a corporation to have additional shares authorized, rather than using authorized but unissued shares which have been retired from treasury shares, would be a useless and needless act for section 1244 eligibility and is not specifically required by the law or the regulations.Stock bought from a stockholder does not qualify as section 1244 stock. Sec. 1244(c)(1); sec. 1.1244(a)-1(b), Income Tax Regs. Petitioners argue that a corporation which sells authorized but unissued stock which had been retired from treasury stock is not a shareholder166 for the purposes of section 1244 because the corporation possessing such stock of its own has none of the powers or duties that the term shareholder or stockholder implies. 6 Moreover, petitioners deny that the corporation served 11 as a conduit for the sale of stock from DuBose to them. They argue that respondent has not alleged that the funds received by DuBose, the prior shareholder, were identical to those paid by petitioners. They point out that on the same day the corporation purchased all its stock from DuBose, William R. Adams purchased 10 shares from the corporation, thus supplying some capital to the corporation. The corporation then adopted a plan to issue section 1244 stock and operated for almost 5 months before receiving final payment for petitioners' 80 shares.167 Respondent contends that because the stock was originally issued to DuBose on July 25, 1973, when he bought all 100 shares of the corporation's authorized stock and DuBose held this stock for over 1 1/2 years until he sold it back to the corporation on February 10, 1975, petitioners have not "continuously held the stock from the date of issuance" as required by section 1.1244(a)-1(b), Income Tax Regs. In so contending, respondent reads the words of the regulation "date of issuance" to mean "date of first issuance."We think this contention is wide of the mark. 7When a corporation retires reacquired shares pursuant to State law to the status of authorized but unissued stock, anyone purchasing such stock from the corporation in a bona fide transaction will be the original holder of the stock. To hold otherwise would require investors in small businesses to pour over the minutes of every board of directors meeting researching the entire stock issuance history looking for tainted stock. This would create unnecessary complications and confusion, especially where the corporation not only retired repurchased (or donated or forfeited or other reacquired) shares to authorized but168 unissued status but also increased its authorized number of shares.Respondent also argues that the corporation here acted merely as a conduit for the sale of shares from DuBose to petitioner. He contends that allowance of an ordinary loss in 12 such a situation under section 1244 would run contrary to the legislative purpose of section 1244.Respondent's support for this argument is found in the following legislative history of the Small Business Tax Revision Act of 1958 which enacted section 1244, Pub. L. 85-866, 72 Stat. 1676:This section provides ordinary loss rather than capital loss treatment on the sale or exchange of small-business stock. This treatment is available only in the case of169 an individual and only if he is the original holder of the stock.This provision is designed to encourage the flow of new funds into small business. The encouragement in this case takes the form of reducing the risk of a loss for these new funds. [H. Rept. 2198, 85th Cong., 1st Sess. (1958), 2 C.B. 709">1959-2 C.B. 709, 711.] [Emphasis supplied.]We agree with respondent. Instead of a flow of new funds into a small business, the minimal facts of this case indicate only a substitution of capital. In the situation of an ongoing business, we think Congress wanted to encourage the flow of additional funds rather than the substitution of preexisting capital before the benefits of section 1244 could be bestowed. This concern is also reflected in the regulations which deny section 1244 treatment where a stockholder has stock issued to him before the enactment of section 1244 and exchanges such stock for a new issuance of stock after the corporation adopts a valid plan but without the stockholder putting in any new capital. Sec. 1.1244(c)-1(f)(2), example (i), Income Tax Regs., states:A taxpayer owns stock of Corporation X issued to him prior to July 1, 170 1958. Under a plan adopted after June 30, 1958, he exchanges his stock for a new issuance of stock of Corporation X. The stock received by the taxpayer in the exchange may not qualify as section 1244 stock even if the corporation has adopted a valid plan and is a small business corporation.Petitioners have the burden of proof here. Welch v. Helvering, 290 U.S. 111 (1933); Rule 142, Tax Court Rules of Practice and Procedure. They have failed to introduce any evidence that there was a net increase in the corporation's capital by virtue of their purchase of stock. They contracted to buy the stock at a set price within 3 weeks after the corporation had repurchased it from DuBose. The stock was plainly not "old and cold." Petitioner's brother, William, was at all relevant times president of the corporation and controlled it from February 10, 1975, until August 1, 1975, by being its sole shareholder, and from August 1, 13 1975, until the stock became worthless in December 1975, by holding petitioners' voting proxies. 8 Despite so close a relationship between the corporation and themselves, petitioners offered no evidence to show a new flow of171 funds into the corporation. The stipulation of facts is silent on the reasons DuBose wanted to sell, the financial terms of DuBose's sale of the stock back to the corporation, and the financial condition of the corporation before and after the sale. We cannot conclude from the stipulated facts that there has been a new and fresh infusion of capital within the legislative purpose of section 1244.Petitioners appear to contend that such a requirement could easily be circumvented by having the corporation authorize new stock, issue the new stock for new funds and then immediately use the proceeds to redeem the old shareholders. The regulations provide that an individual who acquired stock from a shareholder by purchase, gift, devise, or in any other manner is not entitled to an ordinary loss under section 1244. Sec. 1.1244(a)-1(b), Income Tax Regs. Courts have not closed their 172 eyes to events immediately subsequent to a stock sale. Gregory v. Helvering, 293 U.S. 465">293 U.S. 465 (1935). In Smyers v. Commissioner, 57 T.C. 189 (1971), the taxpayers' controlled corporation issued purported section 1244 stock for cash. The corporation then immediately used a portion of the proceeds to repay the taxpayers for advances they had previously made to the corporation. In holding that the taxpayers were not entitled to ordinary loss treatment under section 1244, when stock was issued for an already existing equity interest, we said:The legislative history makes it clear that the congressional intent behind excluding stock or securities of the issuing company as proper consideration for section 1244 stock is that in many cases the equity interest which would be exchanged for the section 1244 stock would be an already existing equity interest in the issuing corporation. In such cases no new capital is being generated. Capital funds already committed are merely being reclassified for tax purposes. * * * [57 T.C. at 196.]Accordingly, the petitioners must treat the loss on their 14 corporate173 stock as a capital loss rather than an ordinary loss under section 1244.Decision will be entered for the respondent. Footnotes1. All statutory references are to the Internal Revenue Code of 1954, as amended and in effect for the year at issue, unless otherwise indicated.↩2. AGREEMENTThis Agreement made this 1st day of March, 1975, by and between ADAMS PLUMBING COMPANY, INC., a Florida Corporation, (hereinafter referred to as Corporation) and RODNEY J. ADAMS and JEAN ADAMS, husband and wife, (hereinafter referred to as Purchasers).Whereas, the parties mutually agree to sell and purchase stock in the Corporation for sums and amounts and times to be set forth herein.Now Therefore, the parties mutually agree as follows:1. The Purchasers shall purchase a maximum of 80 shares of common stock in the Corporation for an amount not to exceed a total purchase price of $ 120,000.2. Upon receipt of monies by the Corporation, the Directors shall issue stock to RODNEY J. ADAMS, JR. and JEAN ADAMS, husband and wife, in their joint names for $ 1,000 per each share of stock for the first 60 shares. The remaining 20 shares shall be purchased at $ 2,700 per share.3. The Purchasers shall make payments to the Corporation for the purchase of the first 60 shares in various amounts over the next four months and shall have paid in the full purchase price for the 60 shares on or before June 20, 1975.4. The remaining 20 shares shall be purchased over the subsequent six months at an average purchase price of $ 2,700 per share and the entire shares must be paid in full on or before December 31, 1975.5. In further consideration for the sale of said shares of common stock of the Corporation, the Purchasers either jointly or individually, shall loan the Corporation various sums to insure the ongoing of the Corporation not to exceed the sums of $ 60,000 at the prevailing interest rate in Bradenton, Florida for loans of like kind and duration. The term of this loan or any loans made under this Paragraph shall not extend for more than five years and shall not be in any balloon payment form. The parties agree that the said loans that shall be made from time to time may be made by demand note or installment note of shorter duration than herein stated.6. The parties agree that William R. Adams is to be the President of the Corporation and manage all operations of the Corporation for the benefit of the Stockholders involved in the Corporation with full authority to make contracts without restriction except as set forth in the By-Laws of the Corporation and as determined and ratified by the Board of Directors.7. All shares that are issued to the Purchasers under this Agreement shall be voted exclusively by Mr. William R. Adams and this Agreement is to serve as a proxy at any Stockholders meeting whether Special or Annual and shall represent the shares as Attorney-in-fact to act on all matters to come before the Corporation without exception under any and all conditions. This proxy expires upon written notification to the Purchasers of non-representation of shares by Mr. William R. Adams. Otherwise, this proxy shall terminate on December 31, 1975 of each year and from year to year after December 31, 1975. Renewal of this option shall be made by written notice to Mr. William R. Adams by the Purchasers that the proxy is to be re-instated for the subsequent year and placed with the Corporate Record Book.↩1. Sold back to Adams Plumbing Co., Inc., on 2/10/75.↩3. Rodney Adams, Jr., is petitioner Marvin R. Adams, Jr., and Jean Adams is petitioner Jeanne H. Adams.↩2. This certificate is missing; joint stock certificate No. 9 was issued to replace No. 8.↩3. SEC. 1244. (a) General Rule. -- In the case of an individual, a loss on section 1244 stock issued to such individual or to a partnership which would (but for this section) be treated as a loss from the sale or exchange of a capital asset shall, to the extent provided in this section, be treated as a loss from the sale or exchange of an asset which is not a capital asset.(b) Maximum Amount for Any Taxable Year. -- For any taxable year the aggregate amount treated by the taxpayer by reason of this section as a loss from the sale or exchange of an asset which is not a capital asset shall not exceed -- (1) $ 25,000, or(2) $ 50,000, in the case of a husband and wife filing a joint return for such year under section 6013.(c) Section 1244 Stock Defined. -- (1) In general. -- For purposes of this section, the term "section 1244 stock" means common stock in a domestic corporation if -- (A) such corporation adopted a plan after June 30, 1958, to offer such stock for a period (ending not later than two years after the date such plan was adopted) specified in the plan.(B) at the time such plan was adopted, such corporation was a small business corporation,(C) at the time such plan was adopted, no portion of a prior offering was outstanding,(D) such stock was issued by such corporation, pursuant to such plan, for money or other property (other than stock and securities), and(E) such corporation, during the period of its 5 most recent taxable years ending before the date the loss on such stock is sustained (or if such corporation has not been in existence for 5 taxable years ending before such date, during the period of its taxable years ending before such date, or if such corporation has not been in existence for one taxable year ending before such date, during the period such corporation has been in existence before such date), derived more than 50 percent of its aggregate gross receipts from sources other than royalties, rents, dividends, interest, annuities, and sales or exchanges of stock or securities (gross receipts from such sales or exchanges being taken into account for purposes of this subparagraph only to the extent of gains therefrom); except that this subparagraph shall not apply with respect to any corporation if, for the period referred to, the amount of the deductions allowed by this chapter (other than by sections 172, 242, 243, 244, and 245) exceed the amount of gross income.Such term does not include stock if issued (pursuant to the plan referred to in subparagraph (A)) after a subsequent offering of stock has been made by the corporation.↩4. Sec. 1.1244(a)-1(b), Income Tax Regs., provides as follows:(b) Taxpayers entitled to ordinary loss. The allowance of an ordinary loss deduction for a loss on section 1244 stock is permitted only to the following two classes of taxpayers:(1) An individual sustaining the loss to whom such stock was issued by a small business corporation, or(2) An individual who is a partner in a partnership at the time the partnership acquired such stock in an issuance from a small business corporation and whose distributive share of partnership items reflects the loss sustained by the partnership.In order to claim a deduction under section 1244 the individual, or the partnership, sustaining the loss, must have continuously held the stock from the date of issuance. A corporation, trust, or estate is not entitled to ordinary loss treatment under section 1244 regardless of how the stock was acquired. An individual who acquires stock from a shareholder by purchase, gift, devise, or in any other manner is not entitled to an ordinary loss under section 1244 with respect to such stock. Thus, ordinary loss treatment is not available to a partner to whom the stock is distributed by the partnership. Stock acquired through an investment banking firm, or other person, participating in the sale of an issue may qualify for ordinary loss treatment only if the stock is not first issued to such firm or person. Thus, for example, if the firm acts as a selling agent for the issuing corporation the stock may qualify. On the other hand, stock purchased by an investment firm and subsequently resold does not qualify as section 1244↩ stock in the hands of the person acquiring the stock from the firm.5. 11 W. Fletcher, Cyclopedia of the Law of Private Corporations, sec. 5088 (1971 rev.):"Under the rule generally prevailing a corporation has the option either to retire reacquired shares and restore them to the status of authorized but unissued shares, or to carry them as "treasury stock," that is, treat them as being still issued and subject to resale."H. Henn, Handbook, Law of Corporations 290-291 (2d ed. 1970):"The capital of a corporation is generally computed on the basis of the shares issued."Not all of the authorized shares, of course, need be issued. Unissued shares might be reserved for property additions, to secure additional funds for share dividends, exercise of share options, or exercise of conversion privilege in securities convertible into shares."Shares which have been issued to the holders thereof are said to be outstanding. When such shares are reacquired by the corporation, by donation, forfeiture, purchase, redemption, conversion, or otherwise, they are frequently called "treasury stock" or "treasury shares". The accounting treatment should be descriptively accurate from the point of view of the applicable corporation law."Legally, "treasury shares" are authorized and issued but not outstanding. However, the corporation may and, under certain circumstances, must restore the shares to unissued status or eliminate the shares from authorized shares by reducing the authorized capital. [Fn. refs. omitted.]"↩6. Florida Stat. sec. 608.13↩(9)(b), in force at the time of the purchase of shares in 1975, provides that "Shares of its own capital stock owned by the corporation shall not be voted directly or indirectly, or counted as outstanding for the purpose of any stockholders' quorum or vote." 11 W. Fletcher, Cyclopedia of the Law of Private Corporations, sec. 5088 (1971 rev.), states that "Treasury shares carry no voting rights or rights as to dividends."7. Compare another provision of sec. 1.1244(a)-1(b), Income Tax Regs., which states: "Stock acquired through an investment banking firm, or other person, participating in the sale of an issue may qualify for ordinary loss treatment only if the stock is not first↩ issued to such firm or person." (Emphasis supplied.)8. William R. Adams officially tendered his resignation as president, vice president, and director of Adams Plumbing on Apr. 20, 1976.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623735/	The Phillips and Easton Supply Company, Petitioner v. Commissioner of Internal Revenue, RespondentPhillips & Easton Supply Co. v. CommissionerDocket No. 31617United States Tax Court20 T.C. 455; 1953 U.S. Tax Ct. LEXIS 143; May 27, 1953, Promulgated 143 Decision will be entered for the respondent. Capital Expenditures or Repairs. -- Petitioner replaced an old floor 46 years old in the building used in its business with a stronger floor. The new floor made the building more valuable for the use of petitioner in its business. It was necessary to move partitions and fixtures to remove the old floor and install the new floor, and to reinstall them on the new floor. Held, that the aggregate cost of installing the new floor and moving and reinstalling partitions and fixtures was capital expenditure. Carl T. Smith, Esq., for the petitioner.David Karsted, Esq., for the respondent. Harron, Judge. HARRON 455 144 The respondent determined deficiencies in income tax for 1944 and 1946 in the respective amounts of $ 4,336.78 and $ 407.16. The question for decision is whether expenditures which were accrued in 1946 in the total amount of $ 10,653.76, or any part thereof, are deductible as ordinary and necessary business expenses under section 23 (a)(1)(A) of the Code. In 1946, petitioner installed a new cement floor in the building in which it conducts its business. The respondent has determined that all of the expenses involved must be capitalized. He disallowed expense deduction and allowed depreciation of capital. As a result of respondent's adjustments for 1946, petitioner realized net income rather than loss for the year. The decision of the question presented in 1946 will determine whether there is a net operating loss for 1946 and whether there is an unused net operating loss which can be carried back to 1944.FINDINGS OF FACT.Petitioner is a Kansas corporation, which is engaged in the conduct of business in Wichita, Kansas. Petitioner keeps its books on an accrual basis. It filed its returns for the taxable years with the collector for the district of Kansas.Petitioner's business145 is the selling of industrial supplies, plumbing supplies, welding shop supplies, heavy contractors' equipment, in general, and contractors' supplies. Petitioner sells about everything used by a general contractor, such as pipe, pipe fittings, welding rod, electric welders, wire and nails, hammers, and other tools. Petitioner sells heavy equipment, such as big concrete mixers and heavy air compressors. Most of the goods and supplies which the petitioner sells are made of either steel or iron, and they are heavy. In the back of petitioner's building is a railroad siding which goes to a landing platform. Goods are purchased, at times, in carload lots weighing as 456 much as 40,000 pounds. Wire and nails are purchased in amounts which have a concentrated weight. During 1945, the petitioner moved over 1 million pounds of welding rod through its building. Petitioner stores its inventories of goods in its building on the first floor. Pipes are stored in an area in the rear of the first floor. Certain materials such as bolts, nuts, and heavy iron are kept in wooden bins which are about 12 feet long, 2 feet wide, and 7 feet high. Some of the equipment which the petitioner 146 sells is displayed in a showroom in its building. In 1946, petitioner enlarged its lines of merchandise. After 1946, the petitioner, again, enlarged its lines of merchandise to include abrasives, such as grinding wheels. Sales of heavy equipment, such as concrete mixers, are made from the petitioner's showroom and such equipment has to be moved in and out of the building.Petitioner has been in business since 1916. It has occupied continuously a 2-story building. The building was constructed in 1900. It is located 4 blocks from the center of the town of Wichita, and, also, it is about 100 yards from the bank of the Arkansas River. The building is not located in a flood area. Petitioner rented the building in question during the years 1916 to 1920; it purchased the land and building in 1920 for $ 22,621.02, of which amount $ 14,621.02 was allocated to the building. All of the cost of the building was recovered through depreciation by December 31, 1945.Petitioner's building is constructed of brick and has a gravel roof and a cement floor. It does not have a basement; the floor rests on sand. The inside floor area is 98 feet wide by 120 feet long. The original cement or concrete147 floor of the building remained in place until 1946, when it was taken out and replaced, except for an area of 225 square feet which was taken out and replaced in about 1943. When a new floor was installed in 1946, the area of 225 square feet was not taken up but remained. The old concrete floor was not reinforced; it was 3 inches thick. The area of 225 square feet of new floor is 5 inches thick. The new concrete floor installed in 1946 is 5 inches thick and is reinforced. The building code of Wichita requires that cement floors shall be 5 inches in thickness.At all times material, before and after the new concrete floor was installed in 1946, the first floor of petitioner's building was utilized in the following way: There were 2 lavatories and washrooms, 3 offices, a showroom, and facilities for storing and keeping inventories. Iron pipes were stored in the area of 225 square feet where the piece of new concrete floor was installed in 1943. About 50 per cent of all of the floor area was devoted to storage bins where nuts, bolts, iron wares, tools, and general inventories were kept. The storage bins were made of wood; they rested on the floor; and they were, in size, 12 feet148 long, 2 feet wide, and 7 feet high. The storage bins were separated by aisles. They were lighted by electric bulbs on hanging cords. Electric light 457 cords rested on top of the bins. Water pipes running to the lavatories were located overhead, not in the floor. About 50 feet from the front of the building is a partition of lath and plaster which runs two-thirds across the building. The offices are enclosed by wood and glass partitions which are 7 feet high and are fastened to the floor, and the office floors were covered with asphalt tile glued to the concrete floor.When the new concrete floor was installed in 1946, all of the above -- the lavatories, offices, partitions, bins, and stocks of goods -- were moved. Petitioner carried on its business throughout the period when the new floor was installed. The new floor was laid in sections of 16 square feet, and all the work of moving equipment, taking out sections of the old floor, and putting in two sections was done in piecemeal fashion, so that the work was done progressively. The only new installation was the floor. Partitions, bins, and lavatories were merely moved and relocated as the new floor was laid, except149 that new tile was required to cover the floor area of the offices, and the plastered partition was, in part, recovered with plaster board. Some amount of painting was done when the work was finished. New electric light fixtures were installed at a cost of $ 233.39, which amount is not involved under the issue presented because petitioner has agreed that such expense must be capitalized.The entire work involved in putting in the new floor was done during the period from March 15 to September 4; the concrete work was finished by May 22. The work was done by a general contractor on a cost-plus basis, and he subcontracted part of the work.In years prior to 1946, the original cement floor in petitioner's building settled. Also, the sand under the floor settled so that in some places the floor did not rest on the sand, and in some places the floor caved in. The floor in the front of the building settled about 7 inches below grade level, and at one place in the back of the building, the floor had settled over 9 inches below grade level. Although the floor had settled, there were no cracks in the wall of the building. During 4 or 5 years before 1946, the cement floor also developed150 cracks. Prior to 1946, the floor was patched in various places. Also, from time to time, water ran in from the ground level onto the cement floor and in order to drain off the water, holes were drilled in the cement floor with a Star drill, and rods were run through the holes to drain the water out of the building.Petitioner followed the practice of drilling holes in the original cement floor during 3 or 4 years before 1946. Rather than to continue patching the floor, the petitioner decided in 1946 to put in a new cement floor throughout the first floor, except for the 225 square feet which had been replaced a few years earlier. From 1920 until about 1940, the petitioner did not have any trouble with the original cement floor. The petitioner had never put very much weight on the floor, but in 458 about 1940 the petitioner commenced to put heavy amounts of weight on the floor.From 1941 through 1945, the petitioner did not have any repair expenses. Its repair expenses from 1947 through 1951, were as follows: $ 100.77 for 1947; $ 1,146.04 for 1948; $ 638.23 for 1949; $ 62.39 for 1950; and $ 404.53 for 1951.The general contractor who did the work in question insisted upon151 a cost-plus contract because the labor cost in moving the storage bins and partitions was something which could not be estimated in advance.The total cost of all of the work in question was $ 10,887.15. Included in the foregoing amount is $ 233.39, the cost of electric fixtures, which petitioner concedes is a capital expenditure. The balance, $ 10,653.76, was the cost of installing the new concrete floor and of moving and reinstalling lavatories, partitions, and bins, and of materials and labor.The respondent allowed petitioner a deduction in 1946 of $ 1,082.25 for repairs, which amount is not at issue.Respondent determined that $ 10,653.76, the cost of installing the new floor and moving and reinstalling that which rested on the floor, represented a capital expenditure consisting of "costs of replacements and betterments," and he disallowed the deduction taken in petitioner's 1946 return. Petitioner reported in its return for 1946, loss in the amount of $ 8,774.91. The respondent's adjustments for 1946, some of which are not contested, resulted in a computation of net income of $ 1,938.84.The installation of the new floor in 1946 represented a replacement. The new floor 152 had a useful life of more than one year. It was necessary to install a new floor because the old floor, after 46 years of use, had caved in at certain places, had worn out, and had gradually deteriorated so that further repairs were not practical. The installation of the new floor made the building more valuable for the use of the petitioner and prolonged the useful life of the building.The moving and reinstalling of the bins, partitions, and fixtures which rested on the floor was a necessary part of the work of removing the old floor and installing the new floor, which work could not have been done without such moving and reinstalling of the fixtures which rested on the floor. The cost thereof was incidental to the cost of installing a new floor.The entire expense in the amount of $ 10,653.76 was a capital expenditure.OPINION.Petitioner contends that all of the expense of installing a new floor in its building in 1946, and of moving and reinstalling the fixtures and partitions which rested on the floor, were expenses of keeping its building in efficient, operating condition, and that 459 the entire expense is deductible under section 23 (a) (1) (A) of the Code. In the153 alternative, the petitioner contends that the expense of moving and reinstalling the fixtures and partitions is deductible. The respondent has determined that the entire expense is a capital expenditure.The issue presents questions of fact. One of the questions of fact to be decided is whether the new floor was installed because of the occurrence of an external, physical phenomenon which caused the floor of petitioner's building to suddenly cave in or crack, or which accelerated its deterioration. The petitioner advances a theory that there was an external condition which caused damage to its floor and that this condition made it necessary to put in a new floor in order to permit it to continue the use of its building in its business. In support of its claim that the expense in question is deductible, petitioner relies on the following cases: American Bemberg Corporation, 10 T. C. 361, affd. 177 F. 2d 200; Midland Empire Packing Co., 14 T.C. 635">14 T. C. 635; and Farmers Creamery Co. of Fredericksburg, Virginia, 14 T.C. 879">14 T. C. 879.The petitioner has failed to establish that 154 there was an accelerated deterioration of the original floor caused by an external condition. The facts of the above-cited cases are clearly distinguishable and they do not control the issue presented. For example, in the case of Farmers Creamery Co., supra, at p. 880, it was found that "The repairs never replaced as much as one-half of any wall, ceiling, or floor * ." The petitioner attempted to establish that the settling of sand under its building had caused the level of the floor to change and the surface of the floor to crack and cave in at various places. The evidence did not develop this picture of an alleged situation and condition.The evidence on the whole shows that the old floor wore out; that it had been patched and repaired to such an extent that further patching was not practical; and that the business of petitioner had expanded to include the handling of heavy goods and equipment which the old floor could not support without the effects of the heavier wear entailed. The floor which was replaced was the original floor of the building, and it was 46 years old. Furthermore, the cost or basis of petitioner's building had been fully155 recovered through depreciation allowances before January 1, 1946, so that the old floor had been completely depreciated.Section 24 (a) (3) of the Code prohibits deduction for "Any amount expended in restoring property or in making good the exhaustion thereof for which an allowance for depreciation is or has been made"; and section 29.24-2 of Regulations 111 provides that amounts paid for making good the depreciation (for which a deduction has been made) of property are capital expenditures and are not deductible. This statutory prohibition defeats petitioner's claim for deduction of the expenditures in question.460 The old floor of petitioner's building was thin and was not reinforced. It was worn out, and, also, it was not strong enough to support the weight of the heavy materials petitioner, before 1946, had introduced into its line of goods. The new floor installed in 1946 was of reinforced concrete; it was thicker than the old floor; it was made for heavy wear. There was replacement of the entire floor, excepting 225 square feet in the rear of the building which had been put in prior to 1946, in about 1943. The evidence shows, clearly, that the new floor represented156 a replacement and an improvement; and that it was not merely a repair which kept the building in ordinarily efficient, operating condition. See Illinois Merchants Trust Co., Executor, 4 B. T. A. 103; and Regs. 111, sec. 29.23(a)-4. The installation of the new floor was an extensive job, and for practical purposes it amounted to putting in an entire floor, because the 225 square feet of new floor in the rear of the building represented only a small and minor part of the entire floor area. The removal of the old floor and the installation of the new floor was a substantial, structural work. Cf. Buckland v. United States, 66 F. Supp. 681">66 F. Supp. 681, 683. The new floor made the building more valuable for the use of the petitioner in its business, particularly because it accommodated the storing, handling, and moving of heavy equipment and inventories. Black Hardware Co. v. Commissioner, 39 F. 2d 460, certiorari denied 282 U.S. 841">282 U.S. 841; Amsterdam Theatres Corporation, 24 B. T. A. 1161.It is held that the expense of installing the new floor157 was a capital expenditure.The petitioner's alternative contention is that the cost of moving and reinstalling the fixtures which rest on the floor is deductible and is not capital expenditure. Petitioner allocates $ 6,615.77 to this expense.The contractor did not allocate the total expense between the cost of the installation of the floor and the cost of moving the fixtures, but even though this could be done, the allocation is immaterial. Assuming that the allocation can be made, the expense of moving the fixtures cannot be treated differently than the expense of installing the new floor. This is not a case where repairs were made which were unrelated to the installation of a capital item as was true in Marble & Shattuck Chair Co., 13 B. T. A. 657, affd. 39 F. 2d 393. On the contrary, the moving and the relocating of the partitions, bins, and fixtures were incidental to and a necessary part of removing the old floor and installing the new floor, and the expense thereof was a capital expenditure. The new floor could not have been installed without moving and relocating the fixtures resting upon the floor. I. M. Cowell, 18 B. T. A. 997;158 Home News Publishing Co., 18 B. T. A. 1008; Ethyl M. Cox, 17 T.C. 1287">17 T. C. 1287.It is held that the entire expense of $ 10,653.76 was a capital expenditure.Decision will be entered for the respondent.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623736/	BUSINESS REAL ESTATE TRUST OF BOSTON, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Business Real Estate Trust v. CommissionerDocket Nos. 33469, 42684, 50305.United States Board of Tax Appeals25 B.T.A. 191; 1932 BTA LEXIS 1560; January 15, 1932, Promulgated 1560 Where sums are paid to procure the unexpired terms of leases held by tenants of buildings already owned in fee and other buildings acquired under 99-year leases and in fee, with the sole object in view of immediately demolishing the buildings to permit the erection of a new building for lease to a known tenant for a long term at a substantial rental, the amounts, under the circumstances, should be treated as a part of the cost of the new building and recovered ratably over its life. John P. Wright, Esq., and Schuyler Dillon, C.P.A., for the petitioner. James L. Backstrom, Esq., for the respondent. ARUNDELL191 These proceedings were consolidated for hearing and report and involve deficiencies in income taxes for the fiscal years ending on September 30, in 1924, 1927 and 1928 in the respective amounts of $129.57, $2,677.10 and $3,081.51. All except one of the issues raised by the petitions have been waived or settled by stipulation. The issues agreed upon will be given effect in the computations to be filed under Rule 50. The question remaining for decision is whether the cost of securing the cancellation of certain leases on buildings1561 to permit their demolition and the immediate erection of a new building on the premises is deductible ratably over the life of the lease subsequently executed for the new building, or, in the alternative, whether the cost should be allowed as part of the cost of the new building and depreciated over the life of the building. FINDINGS OF FACT. The petitioner is a Massachusetts trust formed in 1901. Wm. Filene'sSons Company, a corporation operating a department store in Boston, in 1909 expressed a desire to obtain larger quarters in which to conduct its business. The desire of the corporation in that respect reached petitioner through a real estate broker in Boston. Negotiations subsequently carried on resulted in the execution of 192 an agreement on February 14, 1911, between petitioner and the corporation for the erection of a new building for lease to the latter. This agreement recited that the petitioner was the owner of parcels of land numbered 10 to 20, inclusive, Summer Street, Boston, and intended to acquire by lease or purchase in fee certain other described adjoining properties for the purpose of constructing a new uniform building thereon for lease to the1562 corporation for a period of 34 years and one month, from September 1, 1912. It provided for the accomplishment of certain things before the proposed lease would become effective. Among the conditions imposed was a provision that all of the property not then owned, except one parcel, was to be acquired on or before July 1, 1911, otherwise neither party should become liable to the other. The agreement further provided that petitioner should use all reasonable efforts to complete the building on or before July 1, 1912, and that the rental to be paid would be based upon the cost of the new building and such cost was to include sums paid by petitioner to clear the properties of leases. On or before July 1, 1911, petitioner acquired the premises located at 22-24 Summer Street and 422-424 Washington Street under 99-year leases and the balance of the property in fee. Petitioner expended $18,500 in acquiring the 99-year lease on 22-24 Summer Street. It also paid to the various tenants occupying the buildings on land already owned by it and at this time acquired in fee and by 99-year leases, certain amounts for the early surrender of their leases prior to their date of expiration. There1563 was paid in cash to the several tenants $413,562.57. In addition thereto petitioner allowed the occupancy, rent free for four months, of 12 Summer Street, resulting in a loss of rent of $1,266.68; and 426 Washington Street, resulting in a loss of rent of $3,166.66. It also issued its own capital stock of a par value of $50,000 to various tenants in part payment for the surrender of the leases held by them. The unexpired terms of leases acquired of tenants of the buildings were from eight months to eight years and eleven months. The lease having the longest unexpired term expired on September 1, 1920. It was necessary for petitioner to acquire the leases in order to obtain possession of the properties in time to demolish the old buildings, erect thereon the new building, and to otherwise carry out the provisions of the agreement of February 14, 1911. The improvements located on the parcels owned or acquired as just stated were demolished, and thereafter petitioner erected a single department store building on the site. The parcels of land, together with the new building, were leased to Wm. Filene'sSons Company on September 1, 1912, for a term of 34 years and one month from1564 the date of the lease. 193 It has been stipulated that the cost of the new building was $2,210,413.13, exclusive of the cost of the leases, and the March 1, 1913, value of the building was at least that amount. A reasonable rate of depreciation on the new building is 2 1/2 per cent per annum. OPINION. ARUNDELL: In 1910 petitioner was the owner of certain improved property located in the business section of Boston. Wm. Filene'sSons Company was the operator of a large department store in the neighborhood and it was in the market for larger quarters. Negotiations were entered into between petitioner and Filene's and a tentative accord arrived at to the effect that, if petitioner should be able to acquire sufficient property adjoining that then owned by it and would on such property erect a suitable building, Filene's would enter into a long term lease for such property at a substantial rental. To that end petitioner acquired in fee certain adjoining property and on other property it acquired 99-year leases. But the property so acquired by it, as well as the property already owned in fee, was improved and occupied by tenants. Time was of the essence of the agreement1565 with Filene's, and if the deal was to be consummated it was necessary that immediate possession be obtained in order that the old buildings might be demolished and a new structure completed by a definite date. To secure the surrender of the leases by the tenants occupying the properties large sums were paid them to move. The problem for solution is the proper treatment to be accorded the sums paid the various tenants in order to secure immediate possession of the premises so that a new building might be erected and leased to Filene's. Whether or not expenditures of this character should be treated as losses, ordinary and necessary business expenses or capital expenditures to be added to the cost of the land or recovered over a period has been determined very largely from the purpose which prompted the expenditure. In , we treated an amount paid by the fee owner to its tenant for the surrender of the lease as an ordinary and necessary business expense where the purpose of the owner was to itself enter into the use of the surrendered property for business purposes. 1566 In , where the owner paid for the cancellation of a lease in order to rent the same property to another at a higher rental, the amount so expended was permitted to be recovered over the term that the canceled lease had left to run. In the case of , where the owner of a 99-year lease paid a sum to the sublessee to surrender his sublease in order that it might erect on the property 194 another building in compliance with a provision of the long-term lease, we said such an amount should be spread over the 99-year lease on the theory that the benefit would run for so long a time. Other cases where a somewhat similar problem was treated by the Board are , and . See also . A question closely analogous has arisen as to the proper treatment of demolished buildings. Article 142 of Regulations 45 and similar provisions of all later regulations of the Commissioner provide that a loss may be taken upon a voluntary demolition1567 of an old building. It is provided, however, in a case where property has been acquired with a building on it which the purchaser intended to raze and put the property to some other use, that no loss may be taken on the demolition of the building, but that the entire cost should be treated as having been paid for the land. A view similar to that expressed in article 142 will be found in , and ; and . The respondent, in reliance on , would have the expenditures here involved spread over the remaining life of the canceled leases and as the expiration dates of these leases have long since passed, no allowance would be permitted during the taxable years before us. Petitioner, on the other hand, asks that the expenditures be spread over the term of the lease to Filene's and, if this can not be done, then over the life of the new building. There is no dispute between the parties that the expenditures in controversy were made solely in order to prepare the way for the new building to be leased to Filene's. It is1568 equally clear that time was of the essence and that unless immediate possession of the entire property was had the deal could not be put through. That such possession could only be had by the expenditures in quqestion is clear. We do not believe that these expenditures made under the circumstances here present should be added to the cost of the land, title to some of which had been owned in fee long before this transaction arose. Nor were the benefits of the expenditures to inure permanently, or in the cases of the 99-year leases over their term. The payments were made to the tenants to obtain immediate possession so that the new building might be erected for lease to Filene's, and for no other purpose. It is the building that is to produce the income and it seems to us both just and reasonable that these expenditures should be added to the building cost and recovered over its life of 40 years. The petitioners contend that the expenditures made by them were in the amount of $486,495.91. This amount is arrived at, however, 195 by including certain expenditures which in the present state of the record may not, in our judgment, be included. The sum of $18,500 was expended1569 as a bonus to obtain the 99-year lease on 22-24 Summer Street, and should be treated as a cost of that leasehold estate, recoverable ratably over its term. In one case rents for four months, amounting to $1,266.68, were waived in consideration of the lessee's agreement to cancel the remaining term of his lease. In another instance the lessee was permitted to occupy the leased premises for four months free and there was refunded to him the sum of $1,583.33 for rent paid for April, 1911. This sum, together with a like amount, a total of $3,166.66, is alleged to be the cost of procuring the cancellation of the lease. We have not been informed whether or not petitioner treated the rents accruable under the leases as income and we may not regard the sums as the cost of acquiring the unexpired terms of the leases. In four cases petitioner's own capital stock of a total par value of $50,000 was given in addition to cash for the cancellation of leases. No attempt was made to establish the fair market value of the stock so paid, nor was any evidence offered as to the extent of the stock outstanding or the value of the net assets behind the stock. Accordingly, we must exclude this item1570 as a part of the cost of the building. After making allowance for these items, there remains for recovery ratably over the life of the new building the sum of $413,562.57. Decision will be entered under Rule 50.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623739/	LEE WILSON & COMPANY, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Lee Wilson & Co. v. CommissionerDocket No. 33826.United States Board of Tax Appeals25 B.T.A. 840; 1932 BTA LEXIS 1465; March 11, 1932, Promulgated 1465 1. Taxes for interest on bonds and for maintenance, repairs and expenses of drainage, levee and road district, not of a kind tending to increase the value of the property assessed, are deductible under section 234(a)(3) of the Revenue Acts of 1921 and 1924. 2. Unit rate for depletion and amount of timber cut determined. George H. Goodner, Esq., and F. C. Rohwerder, C.P.A., for the petitioner. Eugene Harpole, Esq., and E. M. Niess, Esq., for the respondent, VAN FOSSAN 841 The income taxes in controversy in this proceeding are the amounts of $6,121.26, $18,260.53, and $16,335.38 asserted by the respondent as deficiencies for the fiscal years ended January 31, 1922, 1923, and 1924, respectively. The petitioner alleges that the respondent's determination is in error: 1. In that the assessment and collection of the proposed deficiencies for the years ended January 31, 1922 and 1923, were barred by the statute of limitations prior to the date when the deficiency notice was mailed. 2. In overstating by the amount of $13,590.84 the income from petitioner's Blytheville Branch. 3. In disallowing as a deduction in each of said1466 years, those portions of taxes assessed against petitioner by drainage, road and levee districts which were used to pay interest, repairs, maintenance and other expenses. 4. In not allowing as a deduction in each of said years the full amount of depletion sustained as to petitioner's timber. The respondent alleges that the statutory period for the assessment and collection of taxes for the years ended January 31, 1922 and 1923, has been waived by both parties, who have entered into proper consents in writing; and the respondent further alleges that he erred in allowing the petitioner a deduction of $2,568.69 for the year ended January 31, 1922, and of $1,957.76 for the year ended January 31, 1923, as depletion upon timber upon the Chapman and Dewey tract. FINDINGS OF FACT. The petitioner is a trust, designated and known as Lee Wilson & Company, which was created on February 5, 1917, by a written declaration of trust. Since that date is has engaged in the business of lumbering, lumber manufacturing, farming and merchandising, with its principal office at Wilson, Arkansas. For many years prior to the creation of the trust the same business was conducted by Lee Wilson1467 & Company, an Arkansas corporation, the majority of the stock of which was owned by R. E. Lee Wilson, Sr. All of the said corporation's stock was surrendered and canceled and all of the corporation's assets and business were conveyed to Wilson and the corporation dissolved. The declaration of trust made on February 5, 1917, states in part, "that I, R. E. Lee Wilson, do hereby declare that I hold the property, real, personal and mixed, this day conveyed to me by Lee Wilson & Company, a corporation * * , for the following uses and purposes, and 842 upon the following trusts, to wit: * * ." R. E. Lee Wilson, Sr., became the sole trustee and the certificates of interest were issued in equal amounts to Wilson, his wife and their three children. On February 28, 1923, the petitioner filed with the collector of internal revenue at Little Rock, Arkansas, a fiduciary return on Form 1041 for income for the fiscal year ended January 31, 1922, and as to that year the following waivers were executed and filed: INCOME AND PROFITS TAX WAIVER December 21, 1926. In pursuance of the provisions of existing Internal Revenue Laws Lee Wilson & Company - R. E. Lee Wilson, Sr., Trustee, 1468 a taxpayer of Wilson, Arkansas, 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 (or years) ended January 31, 1922 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, 1927, and shall then expire. R. E. LEE WILSON, SR., Trustee Taxpayer.By D. H. BLAIR, Commissioner.INCOME AND PROFITS TAX WAIVER Wilson, Ark., Dec. 24th, 1926. In pursuance of the provisions of existing Internal Revenue Laws Mr. R. E. Lee Wilson, Sr., Trustee for Lee Wilson & Company, Trust, a taxpayer of Wilson, Arkansas, 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 (or years) ended January 31, 1922, under existing revenue acts, or under prior revenue acts. This waiver of the time for making any assessment1469 as aforesaid shall remain in effect until December 31, 1927, and shall then expire. R. E. LEE WILSON, SR., Trustee, Taxpayer.APPROVED December 31, 1926. Date By D. H. BLAIR, Commissioner.On May 28, 1923, the petitioner filed with the said collector a fiduciary return on Form 1041 for income for the fiscal year ended January 31, 1923, and as to that year the following waiver was executed and filed. 843 INCOME AND PROFITS TAX WAIVER December 21, 1926. In pursuance of the provisions of existing Internal Revenue Laws Lee Wilson & Company, R. E. Lee Wilson, Sr., Trustee, a taxpayer of Wilson, Arkansas, 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 (or years) ended January 31, 1923 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, 1927, and shall then expire. R. E. LEE WILSON, SR., Trustee, Taxpayer.By D. H. BLAIR, Commissioner.1470 The respondent ruled that petitioner was taxable as an association in the same manner as a corporation and on November 29, 1926, advised the said collector that petitioner's returns for all years should be filed on Form 1120 A. On March 24, 1927, the deputy collector under provisions of section 3176, R.S., prepared returns on Form 1120 A for this petitioner for the years ended January 31, 1922 and 1923. The respondent's deficiency notice was mailed to petitioner on November 17, 1927, and the petitioner filed its petition with the Board on January 11, 1928. The parties have agreed and stipulated that the net income as determined by the respondent for the fiscal year ended January 31, 1924, is overstated by the amount of $13,590.84, which represents excessive profits from petitioner's Blytheville Branch, included therein. Certain drainage, road improvement and levee districts, created and operated pursuant to the Statutes of Arkansas, extended through the petitioner's property. The parties hereto have agreed and stipulated to the various amounts of local-benefit taxes levied and assessed by the respective districts, numbering 11 in all, for the fiscal years ended January 31, 1922, 1923, 1471 and 1924. The taxes were for the sole use and benefit of such districts and the property situated therein and were imposed in their entirety on the property located within such districts in proportion to the ratio of benefits derived, or to be derived. The said stipulation of the parties included a detailed schedule setting forth the total amount of taxes assessed and levied, the total amount of bonds matured and paid, the total amount of interest accrued and paid, and the amount of taxes paid by petitioner with respect to each of the various districts in each of the said three years. The total amount of the taxes paid by petitioner to the 844 various districts during the years in question and a proper allocation thereof as to the purposes for which such taxes were paid, are as follows: Special Year endedTotal taxMaintenancemaintenanceJan. 31paidBondsInterestand expensesand levy1922$ 41,258.54$ 10,977.22$ 20,517.04$4,706.18$5,058.10192346,985.2813,058.0622,259.226,729.804,938.20192442,258.9914,338.0423,381.494,539.46None of the said taxes have been allowed by the respondent1472 as deductions in computing petitioner's net income for the said years. There was no new construction in any of the said districts during the three years involved in this proceeding and all of the taxes levied and collected were used to pay bonds maturing and interest accruing on outstanding bonds during each of those years and for general maintenance, repairs and expenses which recurred annually. The recurring maintenance, repairs and expenses included the cost of cleaning out drainage ditches so that the water would run, repairs to levees and roads and other expenses incurred regularly in the management operation of such districts. At the time of the dissolution of the corporation, Lee Wilson & Company, its entire business and property, consisting of standing timber, land, sawmills, railroads, lumber stock, merchandise, supplies, and interests in other businesses, passed to R. E. Lee Wilson, Sr., who, by the written declaration of trust of February 5, 1917, declared that he held all of said property conveyed to him by the corporation in trust for certain uses and purposes and designated the trust as Lee Wilson & Company, the petitioner herein. The said assets included a large1473 area of timberlands known as the Wilson tract, comprising some 15,000 to 20,000 acres of standing timber, located in the northeast corner of Arkansas, in Mississippi County. Logging conditions were good throughout the greater portion of the Wilson tract, and the petitioner owned spur railroads used in hauling logs to its mill. Since February 5, 1917, petitioner has continuously engaged in the business of cutting its own logs and in addition thereto, purchasing logs from others, of manufacturing rough lumber which it sold in the general market, and of selling the small timber left standing, called bolt timber, to manufacturers of barrel staves, who would cut and remove such small timber. On February 5, 1917, the petitioner's Wilson tract contained 86,142,746 feet of saw timber, which had a fair market value on that date of $5 per thousand feet, and 62,297,591 feet of bolt timber, which had a fair market value on that date of $3 per thousand feet. 845 During the years here in controversy the following amounts of timber were cut from the petitioner's lands, the Wilson tract: Fiscal year ended Jan. 31 - Saw timberBolt timberFeetFeet19223,413,0602,400,48619236,653,1951,245,66419242,922,1221,425,5431474 Sometime in 1916 a tract of timberlands known as the Chapman and Dewey tract was purchased by R. E. Lee Wilson, acting as an individual, for a consideration of $75,603.40. That tract contained 3,829.89 acres and 26,427,998 feet of standing timber, of which two-thirds was saw timber and one-third was bolt timber. This tract adjoined the timberlands of the petitioner and its standing timber was comparatively equal in available sizes and species with the standing timber on the Wilson tract. The parties who sold to Wilson were also in the business of lumbering, with their principal seat of operations at a place called Marked Tree, which was 50 or 60 miles from this tract by nearest railroad route. They had been accustomed to float the logs they cut on the Chapman and Dewey tract down the local streams to their mills at Marked, Tree, but the construction and operation of drainage ditches resulted in lowering the level of the waters in said streams to such an extent as to render that practice impossible. In purchasing the said timberlands at the price paid, Wilson drove a good bargain. The vendors could not profitable cut logs and haul them to their mill and the acreage involved1475 did not justify the erection of a mill to saw the logs cut only from that tract. Wilson purchased the tract for the purpose of supplying Lee Wilson & Company, the corporation, with additional saw timber. The corporation never acquired title to the said timberlands, but it did purchase from R. E. Lee Wilson all of the saw timber which the corporation cut. Payment was made to Wilson by a credit to Wilsons' personal account carried on the books of the corporation. The proceeds of the sales of the standing bolt timber and also of the cut-over lands of the said tract, were also credited to Wilson's personal account. In making the purchase of the Chapman and Dewey tract, Wilson gave his personal notes therefor and when such notes fell due, the corporation paid such notes and charged the amounts so paid to Wilson's personal account. After the dissolution of the corporation and the creation of the trust, the petitioner continued to purchase from Wilson the logs cut from said tract in the same manner that the corporation had done. The Chapman and Dewey tract never became a part of the trust property, although petitioner handled the disposition of the following amounts of timber cut therefrom: 1476 Fiscal year ended Jan. 31 - Saw timberBolt timberFeetFeed19222,148,117624,6371923171,0501,942,2261924846 In determining the deficiencies in question the respondent has, for each of the said years, computed depletion at a rate of $3.75 per thousand feet for saw timber and $0.9264 per thousand feet for bolt timber, on the basis of the alleged March 1, 1913, value of the Wilson tract and the cost of the Chapman and Dewey tract. The respondent has allowed deductions in the amounts of $2,568.69 and $1,957.74 for the fiscal years ended January 31, 1922 and 1923, respectively, for depletion for certain amounts, other than as shown above, of timber cut from the Chapman and Dewey tract. OPINION. VAN FOSSAN: The first issue raises the question of whether the assessment and collection of deficiencies for the fiscal years ended January 31, 1922 and 1923, were barred by the statute of limitations prior to the date when the final deficiency notice was mailed on November 17, 1927. Our findings set forth the facts that as to the said years waivers were executed prior to the expiration of the four-year period of limitations provided1477 for by section 250(d) of the Revenue Act of 1921, and reenacted in the later revenue acts, and that such waivers, if valid, extended the period until December 31, 1927, which is subsequent to the date when the deficiency notice was mailed. The petitioner disputes the validity of these waivers and argues that the respondent has failed to establish that such waivers were signed by the Commissioner personally or by some one properly authorized to sign his name, and, further, that respondent has failed to establish the date on which the Commissioner's name was signed on the waivers and whether they were signed before or after December 31, 1927. The signature of R. E. Lee Wilson, Sr., Trustee, affixed to each of the three waivers, is not disputed, nor is there any dispute as to the dates during the month of December, 1926, appearing at the head of the waivers. One waiver, pertaining to the year ended January 31, 1922, shows that it was approved by the Commissioner or his deputy on December 31, 1926. A waiver is not a contract and the Commissioner's signature is required purely for administrative purposes and not to convert into a contract what is essentially a voluntary, unilateral1478 waiver of a defense by a taxpayer, , and , and there can be no doubt that 847 the Commissioner may authorize one or more persons to sign his name to meet the exigencies of such purely administrative duties. There is nothing in the requirement for the Commissioner's signature which limits the period during which a waiver may be effectively given, , and the signature of a Commissioner to a waiver of limitations is presumed to have been placed there by his authority, Trustees for ohio and . Each of the waivers here in question is regular on its face and the petitioner has not proven any irregularity as to signature or date. The waivers are valid. Cf. . Accordingly, assessment and collection of the deficiencies for the years ended January 31, 1922 and 1923 are not barred. Also cf. 1479 ; affd., ; certiorari denied, ; . The case of , relied on by petitioner, is clearly distinguishable from the instant case on the facts. The second issue has been disposed of by the stipulation of the parties to the effect that the net income of petitioner as determined by respondent for the fiscal year ended January 31, 1924, is overstated by the amount of $13,590.84. The third issue involves the question of whether petitioner is entitled to deductions, in each of the years in question, of certain portions of taxes assessed by drainage, road and levee districts which extended through petitioner's lands. We have briefly set forth in our findings of fact the allocation of the said taxes paid by petitioner in each of the years in question, which allocation is based upon the stipulation, testimony and records submitted in evidence. Section 234(a)(3) of the Revenue Acts of 1921 and 1924 provides that, in computing the net income of corporations subject to the tax1480 imposed by section 230 of such acts, there shall be allowed as a deduction "taxes paid or accrued within the taxable year except (c) taxes assessed against local benefits of a kind tending to increase the value of the property assessed." The Commissioner's Regulations 62 and 65, articles 133 and 561, provide that taxes assessed against local benefits such as sidewalks, streets and other improvements are not deductible under the above quoted section of the revenue acts, and also that: * * Assessments under the statutes of California relating to irrigation and of Iowa relating to drainage, and under certain statutes of Tennessee relating to levees, are limited to property benefited, and when it is clear that the assessments are so limited, the amounts paid thereunder are not deductible as taxes. When assessments are made for the purpose of maintenance or repair of local benefits, the taxpayer may deduct the assessments paid as an 848 expense incurred in business, if the payment of such assessments is necessary to the conduct of his business. When the assessments are made for the purpose of constructing local benefits, the payments by the taxpayer are in the nature of1481 capital expenditures and are not deductible. Where assessments are made for the purpose of both construction and maintenance or repairs, the burden is on the taxpayer to show the allocation of the amounts assessed to the different purposes. If the allocation can not be made, none of the amounts so paid is deductible. No question has been raised as to the fact that the amounts paid to the said districts by petitioner constituted taxes duly assessed and collected by the several districts pursuant to the statutes of Arkansas. Our only question is whether that portion of such taxes used for interest, maintenance, repairs and expenses is deductible for the purpose of determining petitioner's net income. In the case of , we held that a tax, assessed and paid to an Idaho irrigation district for the purpose of meeting interest on that district's bonds, was not a tax of a kind tending to increase the value of the property assessed, and, therefore, was deductible as a tax under section 214(a)(3) of the Revenue Act of 1921. Under authority of that decision we hold that the portion of taxes paid by this petitioner and allocated to interest for1482 each of the years is deductible, namely, the amounts of $20,517.04, $22,259.22 and $23,381.49 for the years ended January 31, 1922, 1923 and 1924, respectively. The Commissioner's regulations have provided for the deduction of that portion of such local benefit taxes as may be allocated to maintenance and repair of local improvements such as irrigation works, levees and drainage ditches. We agree that such amounts should be allowed as deductions. Respondent has aribitrarily classed such items as expenses incurred in business, although in fact they were paid out as taxes. Since either is allowable as a deduction it is unnecessary to decide which is the correct terminology. We are of the opinion that the portion of taxes paid by this petitioner and allocated to maintenance, repairs and expenses for each of the years is deductible, namely, the amounts of $9,764.28, $11,668 and $4,539.46, for the fiscal years ended January 31, 1922, 1923 and 1924, respectively. The fourth issue involves the question of deduction for each of the years for depletion of timber. The respondent in his determination of the deficiencies in question has allowed certain deductions for each of the years1483 for depletion of timber on the Wilson tract and also has allowed deductions of $2,568.69 and $1,957.74 for the fiscal years ended January 31, 1922 and 1923, respectively, for depletion of timber on the Chapman and Dewey tract. The petitioner contends that respendent has not allowed sufficient depletion, while 849 respondent, by amendment to his answer to conform to the proof, avers that he erred in allowing any deductions for depletion of timber on the Chapman and Dewey tract. The record in this proceeding discloses that the Chapman and Dewey tract of timberland was purchased in 1916 by R. E. Lee Wilson, Sr., as an individual, that it was never owned by the corporation which transferred all of its property to Wilson on February 5, 1917, and that Wilson, in creating this petitioner, declared that he held in trust all of the property transferred to him by the corporation. The record does not disclose any proof that the Chapman and Dewey tract ever became a part of the trust property, but, on the contrary, shows that Wilson remained the individual owner thereof and that during the years in question the petitioner purchased from Wilson the logs which it cut from the said tract. 1484 Accordingly, upon the facts of record, it is clear that petitioner is not entitled to any deductions for depletion of timber on the Chapman and Dewey tract and that respondent erred in allowing such deductions for the years ended January 31, 1922 and 1923. The petitioner was created on February 5, 1917, as an operating trust and the certificates of interest were issued in equal amounts to Wilson, his wife, and their three children. On that date petitioner acquired numerous assets, by a transfer in trust, among which was a large tract of timberland known as the Wilson tract. There is no question but that for each of the three years in question petitioner is entitled to a deduction for depletion of its timber on the Wilson tract pursuant to section 234(a)(9) of the Revenue Act of 1921 and section 234(a)(8) of the Revenue Act of 1924, based upon the fair market value of the timber standing on said tract on February 5, 1917. ; section 204(a)(4), Revenue Act of 1924. The record includes both opinion and documentary evidence as to value. The opinions of petitioner's witnesses were strikingly harmonious in the values fixed for saw1485 timber and make slight reference to bolt timber. Certain of this testimony was materially weakened by cross-examination, when the values were translated into acreage and residual values. Of more than ordinary importance are the values fixed by petitioner itself in the year 1922 in a sworn statement supplied to the bureau of internal revenue before the present tax controversy arose. See . Respondent's witnesses fixed a higher value than that employed in the computation on which the notice of deficiencies was based. After careful consideration of all the evidence we have found as a fact that the fair market value of such timber on February 5, 1917, was $5 per thousand feet of saw timber and $3 per thousand feet of 850 bolt timber. We have set forth in our findings the number of feet of saw timber and bolt timber cut from the Wilson tract during each of the years in question and the allowable deduction for depletion should be computed on such amounts at the unit rate of $5 per thousand feet of saw timber and $3 per thousand feet of bolt timber. Decision will be entered under Rule 50.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623740/	EDITH SCOVILLE, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT. LOIS CHURCH WARNER, PETITIONER, v. COMMISSIONER OR INTERNAL REVENUE, RESPONDENT. GRACE SCOVILLE, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT. MARY F. MCCHESNEY, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Scoville v. CommissionerDocket Nos. 24457-24459, 24461.United States Board of Tax Appeals18 B.T.A. 261; 1929 BTA LEXIS 2087; November 19, 1929, Promulgated 2087 A corporation was organized to take over the business of another corporation, and taxpayers prior to the taxable year received preferred stock of the former in exchange for bonds of the latter. They surrendered one-half of the preferred stock so acquired during the taxable year and asserted that they thereby sustained a deductible loss. Held: (1) Since the evidence did not show that all of the stockholders did not likewise surrender their stock, the value inherent in the stock surrendered was absorbed by the stock retained, and there was no more loss than there is a gain in the case of a stock dividend. (2) The contention that this principle does not apply to preferred stock must be rejected for want of evidence of the terms of the stock or the corporation's capital structure. (3) In the absence of evidence that the stock was surrendered to persons other than the corporation, the converse application of the stock dividend rule was proper. (4) The loss was not deductible for the further reason that there was no evidence as to the measure of the loss in the taxable year, if any, because of the possible inference, consistent with the evidence, that part or all of the2088 loss may have occurred and been deductible in the year in which the exchange was made. Courtland Kelsey, Esq., for the petitioners. Eugene Meacham, Esq., for the respondent. STERNHAGEN 262 These proceedings, which present substantially identical issues of fact and law, were consolidated upon petitioners' motion at the hearing. The respondent determined deficiencies in income tax for 1922 as follows: Edith Scoville$7,037.18Lois Church Warner7,692.36Grace Scoville2,459.72Mary F. McChesney9,176.55The question presented is whether petitioners sustained deductible losses of stock, representing one-half petitioners' holdings which were surrendered to procure financial aid for the issuing corporation. FINDING OF FACT. The petitioners are individuals with address at 250 Park Avenue, New York City. On February 2, 1903, petitioner Edith Scoville acquired fifty 5 per cent bonds of the Barnum Richardson Co. at a cost of $50,416.66; on February 19, 1917, she purchased at par twenty-five 6 per cent bonds of said company at a cost of $25,000. Interest on these bonds was paid from the dates of purchase until July, 2089 1918. In 1920 and 1921 all the bonds were exchanged for 5,513 shares of the preferred stock of the Salisbury Iron Corporation. The par value of this stock was $10 a share. On February 19, 1917, petitioner Louis Church Warner acquired at par 6 per cent bonds of said company of the value of $25,000, and on April 24, 1917, additional 6 per cent bonds of the value of $50,000, all of which she exchanged during 1920 and 1921 for 3,750 shares of the preferred stock of the Salisbury Iron Corporation. 263 On July 15, 1898, petitioner Grace Scoville acquired at par 6 per cent bonds of the aforesaid company of the value of $25,000. A later assessment of $275 for reorganization expenses raised the debit against these bonds to $25,275. Petitioner received interest on them until June, 1918. In 1920 she exchanged them for 2,000 shares of the preferred stock of the Salisbury Iron Corporation. On May 7, 1904, petitioner Mary F. McChesney purchased at par fifteen 5 per cent bonds of the aforesaid company of the value of $15,000, and on February 19 and April 24, 1917, purchased at par 6 per cent bonds of the respective values of $25,000 and $34,000. Upon these bonds she received2090 interest until June, 1918. During 1920 and 1921 they were exchanged for 4,358 shares of the preferred stock of the Salisbury Iron Corporation. Petitioners Mary F. McChesney and Edith Scoville each purchased 2,600 shares of the preferred stock of the Barnum Richardson Co., paying therefor $25 a share. The Barnum Richardson Co. was a closely held family corporation, dating back to the Revolution. It was engaged in the operation of a car wheel foundry and a general casting foundry at Lime Rock, Conn.; it also operated two blast furnaces for local ores with charcoal until the cost of this fuel made it impractical. The Company then, through an affiliated firm, built a wood chemical plant near the furnaces a few years prior to the World War. Shortly after the entrance of the United States into the war, the demand for wood and the price regulation of products by the Government caused economic difficulties. Prior to 1917 the company had consistently enjoyed a fair average of properity and nothing had happened to impair the value of its bonds. In 1919 the Salisbury Iron Corporation was organized to take over the business of the Barnum Richardson Co., and preferred stock of the2091 Salisbury Co. was exchanged for bonds of the Barnum Co. In September, 1922, each of the petitioners surrendered one-half of the number of shares of preferred stock which she had thus acquired in exchange for the bonds. According to an entry in petitioner Grace Scoville's ledger, this surrender was made "to the company to be contributed by it to the company's loan syndicate to advance to the company funds needed to prevent foreclosure and receivership which would destroy any value of the company's preferred stock." In Mary Frances McChesney's journal the entry stated "surrendered to the company to be used by it with their other stock in inducing a loan syndicate (H. W. Davis & Co., Managers) to advance funds necessary to prevent a foreclosure which would destroy and possible value in the preferred stock." The ledgers of the other two petitioners described the surrender as to the syndicate. 264 After the surrender of the preferred stock petitioner's books showed no reduction of the original investments. Losses were not normally transferred on the books to a profit and loss account. OPINION. STERNHAGEN: The petitioners contend that when in 1922 they "surrendered" one-half2092 of their preferred stock in the Salisbury Co. they thereby sustained a loss deductible under the Revenue Act of 1921. They do not specify the particular section or subsection of the statute upon which they rely for the deduction. In the condition of the evidence it can not, in our opinion, be said that in 1922 a loss was sustained. It is entirely consistent with the evidence to infer that the petitioners, with all other stockholders, surrendered half their stock to the corporation. If so, and nothing further was done, the remaining stock absorbed the value inherent in the surrendered certificates and there was no more loss than there is a gain in a stock dividend. ; . Counsel suggests in brief that this would not be true as to preferred stock even if it were true as to common. But we know nothing of the terms of the stock or the corporation's capital structure, and hence we must take the omission as against petitioners, since the burden was upon them. That counsel was fully aware of this question and the inadequacy of the evidence to make the situation clear is indicated2093 by his brief. Petitioners also argue that the stock dividend rule may not be conversely applied, because the so-called surrender was made to an alleged syndicate and not to the corporation. The evidence fails to establish the identity of the transferee of the stock as other than the corporation, although the bookkeeping entries are ambiguous and further evidence by petitioners might have supported their view of this question of fact. But, going further, there is lack of evidence as to the measure of the loss in 1922, if any, because of the possible inference, consistent with the evidence, that part or all of the loss may have occurred and been deductible at the time of the exchange in 1919. If the exchange of 1919 resulted in loss and such loss was to any extent deductible then, it could not be carried forward to 1922. Petitioners say that no loss was deductible in 1919 because the transaction in that year was within section 202(b), Revenue Act of 1918. There is but one fact tending to support this, and that is that the Salisbury Co. "was organized to take over the business" of the Barnum Co. This does not, in our opinion, go far enough to establish a situation within section2094 202(b), any more than it would have done were the deduction in 1919 directly here in issue. We need not decide that a loss was 265 sustained in 1919, but only that such a possibility prevents a decision that the loss claimed occurred and was deductible in 1922. All of these omissions in the evidence were matters of fact within the ability presumably of the petitioners to prove. The failure of proof requires that Judgment be entered for the respondent.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623741/	MARINA A. BRANCH and MALCOLM H. BRANCH, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, RespondentBranch v. CommissionerDocket No. 18957-82.United States Tax CourtT.C. Memo 1985-296; 1985 Tax Ct. Memo LEXIS 337; 50 T.C.M. (CCH) 176; T.C.M. (RIA) 85296; June 20, 1985. Malcolm H. Branch, pro se. Thomas J. Miller, for the respondent. GOFFEMEMORANDUM OPINION GOFFE, Judge: The Commissioner determined deficiencies in petitioners' Federal income taxes for the taxable years 1976, 1977, 1978, and 1979, and additions to tax under sections 6651(a) 1 and 6653(a) as follows: TaxableAdditions toYearDeficiencySec. 6651(a)Sec. 6653(a)1976$4,843.13$1,424.88$290.90197757,430.5914,157.652,930.5319781,446.00138.85189.1419793,056.35428.41253.13The issues for decision are: (1) whether petitioners have substantiated the claimed deductions, expenses, credit, and bases disallowed by the Commissioner; (2) whether petitioners are liable for additions to tax under section 6651(a) for failure to timely file Federal338 income tax returns for the taxable years 1976, 1977, 1978, and 1979; (3) whether petitioners are liable for additions to tax under section 6653(a) for underpayment of income tax for the taxable years 1976, 1977, 1978, and 1979, due to negligence or intentional disregard of regulations. Findings of Fact None of the facts in this case were stipulated despite respondent's continued efforts to meet with petitioners or otherwise arrange for the preparation of stipulations. Respondent served requests for admissions upon petitioners on July 11, 1984. When petitioners failed to deny the factual allegations set forth in respondent's request for admissions, the matters contained therein were deemed admitted. Rule 90(c). Marina A. Branch 2 and Malcolm H. Branch (hereinafter referred to as Marina and Malcolm, respectively, or petitioners, collectively) were residents of Tahlequah, Oklahoma, at the time the petition in this case was filed. Petitioners filed339 joint Federal income tax returns for the taxable years 1976, 1977, 1978, and 1979 with the Internal Revenue Service Center in Austin, Texas, on the following dates: TaxableYearDate Filed1976December 26, 19791977May 21, 19791978June 15, 19791979July 14, 1980Petitioners claimed the following deductions on their Federal income tax returns for the taxable years 1976, 1977, 1978, and 1979: 3Taxable YearItem1976197719781979Car and truck expenses$1,999.79$1,393.96$1,906.73Travel expenses708.23$1,210.80Loss on sale ofoffice equipment6,385.00Depreciation294.00Interest on businessindebtedness1,400.00Other business expenses14,569.926,276.986,834.6013,033.57Livestock expenses4,786.87Rental property expense5,069.91Schedule A deductionsin excess of standarddeduction12,650.387,836.755,458.395,081.39340 Petitioner also reported a net long-term capital gain of $24,015.71 with respect to capital assets sold during the taxable year 1977, and an investment tax credit in the amount of $98.10 for the taxable year 1979. During the taxable years at issue, Malcolm was an attorney-at-law engaged in the general practice of law in Duncan and Tahlequah, Oklahoma. On May 20, 1982, the Commissioner issued a statutory notice of deficiency to petitioners for the taxable years 1976, 1977, 1978, and 1979. The Commissioner disallowed the following deductions because they were not substantiated: Taxable YearItem1976197719781979Car and truck expenses$1,999.79$1,393.96$1,906.73Travel expense$1,210.80Loss on sale ofoffice equipment6,385.00Depreciation294.00Interest on businessindebtedness1,400.00Livestock expenses4,786.87Rental property expenses5,069.91Schedule A deductionsin excess of standarddeduction7,836.755,458.395,081.39The Commissioner also disallowed, as being unsubstantiated, claimed bases of $174,984.29 with respect to capital assets sold during the taxable year341 1977, and an investment tax credit in the amount of $98.10 for the taxable year 1979. ULTIMATE FINDINGS OF FACT Petitioners are not entitled to deduct any of the expenses or deductions disallowed by the Commissioner, nor are they entitled to claim an investment tax credit in the amount of $98.10 for the taxable year 1979. Further, petitioners' basis in each of the capital assets sold during the taxable year 1977 is zero. OPINION The Commissioner's determination in his statutory notice of deficiency is presumptively correct, and petitioners have the burden of disproving each individual adjustment. Welch v. Helvering,290 U.S. 111">290 U.S. 111 (1933); Rule 142(a). Marina argues that she did not file tax returns for the taxable years at issue. Petitioners bear the burden of proof on this issue, Rule 142(a), and no evidence was presented in contradiction of the joint returns before the Court. Accordingly, the returns before this Court are the joint returns of Marina and Malcolm. Deductions are a matter of legislative grace, and petitioners have the burden of proving that they are entitled to deductions in excess of the amounts allowed by the Commissioner. Deputy v. du Pont,308 U.S. 488">308 U.S. 488 (1940);342 New Colonial Ice Co. v. Helvering,292 U.S. 435">292 U.S. 435, 440 (1934); Welch v. Helvering,supra. Petitioners presented no documentary evidence in support of the disallowed deductions, bases for assets sold, and investment tax credit. Petitioner Malcolm H. Branch's testimony was vague and unhelpful, even when respondent attempted to elicit verbal support for the claimed items. Specifically, Malcolm stated that any records maintained with respect to the expenditures made in the taxable years 1976, 1977, 1978, and 1979 were unavailable, and that he was unaware of the whereabouts of the records. He claimed to have receipts for some items, but did not know where they were; had not attempted to obtain available documentation from third parties such as mortgage companies; and in some instances, had no independent recollection whatsoever of the basis for the amounts claimed. His usual answer was that an item "would have been" as claimed, despite the fact that he could not remember any specifics or provide any corroboration or documentation. Similarly, Malcolm was unable to offer any proof of petitioners' basis in any of the capital assets sold during the343 taxable year 1977. He was even unsure of the acreage of one of the properties sold. Petitioners claim that a portion of documentation is within respondent's possession, as supplied by petitioners' C.P.A., and that petitioners no longer have possession of the documentation requested. Respondent agrees that some documentation was provided, but asserts that the materials supplied were inadequate substantiation of the claimed deductions, expenses, credit, and basis items. Petitioners have failed to provide the Court with even minimal documentation and substantiation by, for example, contacting their mortgage company for verification of the interest paid. Further, petitioners' C.P.A. did not testify, nor was he subpoenaed to testify. When corroboration of petitioners' unsupported testimony was readily available, but was not provided to the Court, the reasonable inference is that the testimony or documentation would not have been favorable to petitioners. Wichita Terminal Elevator Co. v. Commissioner,6 T.C. 1158">6 T.C. 1158, 1165 (1946), affd. 162 F.2d 513">162 F.2d 513 (10th Cir. 1947). We find that petitioners have failed to carry their burden of proof on the disallowed344 items. The Commissioner's determination as to the deficiencies in income tax for each of the taxable years 1976, 1977, 1978, and 1979 is sustained. Rule 142(a). Petitioners also bear the burden of proof with respect to the additions to tax. Luman v. Commissioner,79 T.C. 846">79 T.C. 846, 860 (1982); Bixby v. Commissioner,58 T.C. 757">58 T.C. 757, 791 (1972). Petitioners stated that their failure to timely file their Federal income tax returns for the taxable years at issue was because Malcolm was under criminal investigation for the taxable years 1973, 1974, and 1975. Petitioners offered no evidence that the investigation hindered them in the preparation of their tax returns for the taxable years 1976, 1977, 1978, and 1979. A criminal investigation for earlier taxable years, standing alone, does not constitute reasonable cause for failure to timely file tax returns for the taxable years at issue. Knollwood Memorial Gardens v. Commissioner,46 T.C. 764">46 T.C. 764 (1966); Glowinski v. Commissioner,25 T.C. 934">25 T.C. 934 (1956), affd. 243 F.2d 635">243 F.2d 635 (D.C. Cir. 1957). Accordingly, the Commissioner's determination that petitioners are liable for345 additions to tax under section 6651(a) for the taxable years 1976, 1977, 1978, and 1979 is sustained. The same justification, i.e., that Malcolm was under criminal investigation for prior taxable years, was offered for petitioners' failure to abide by the substantiation requirements for the deductions, credit, and bases claimed in each of the taxable years at issue. Petitioners did not, however, contest the Commissioner's determination that a part of the underpayment of taxes for each of the taxable years 1976, 1977, 1978, and 1979 was due to negligence or intentional disregard of the rules and regulations. As an attorney, Malcolm should have been aware of petitioners' obligation to either retain or at least attempt to re-create the documentation or other records in support of the claimed items. Cobb v. Commissioner,77 T.C. 1096">77 T.C. 1096 (1981), affd. without published opinion 680 F.2d 1388">680 F.2d 1388 (5th Cir. 1982); see Fihe v. Commissioner,265 F.2d 511">265 F.2d 511, 513 (9th Cir. 1958), affg. a Memorandum Opinion of this Court. The fact that a criminal investigation was proceeding as to earlier tax years does not explain petitioners' failure to keep records*346 to substantiate the deductions, expenses, credit, and basis claims made on returns for taxable years not under investigation. Petitioners have the burden of showing that they exercised due care, and have failed to carry that burden. Bixby v. Commissioner,supra.The additions to tax under section 6653(a) are sustained. Rule 142(a). Petitioners contend that respondent is estopped from obtaining the additions to tax or interest as to Malcolm, because of Malcolm's discharge as a debtor on September 8, 1983, by the United States Bankruptcy Court for the Northern District of Oklahoma. The Federal taxes in question were not discharged in the above bankruptcy proceeding. Additions to tax and interest with respect to the nondischargeable taxes are also not discharged. See 11 U.S.C. 523(a)(7) (1983). See also In Re:Program Management and Design Associates, Inc.,51 AFTR 2d 83-398 (1982), 83-1 USTC par. 9145. 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 relevant years, and all Rule references are to the Rules of Practice and Procedure of this Court.↩2. Marina A. Branch joined in the filing of the petition in this case and also filed a reply to respondent's answer, but did not appear at the trial.↩3. The amount of petitioners' gross income from their earnings, investments, and business ventures in these taxable years is not at issue in this case.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623742/	Donald A. Aherron v. Commissioner.Aherron v. CommissionerDocket No. 4878-69 SC.United States Tax CourtT.C. Memo 1970-189; 1970 Tax Ct. Memo LEXIS 169; 29 T.C.M. (CCH) 863; T.C.M. (RIA) 70189; July 6, 1970, Filed Hudson Branham, 1022 i/2 Hull, Richmond, Va., for the petitioner. Douglas O. Tice, Jr., for the respondent. FORRESTERMemorandum Findings of Fact and Opinion FORRESTER, Judge: Respondent has determined a deficiency in petitioner's 1967 income tax in the amount of $504.28 by denying his claimed dependency exemption deductions for his four children. Petitioner conceded at trial that he was not entitled to the claimed exemption deduction for his eldest child and consequently170 the sole remaining issue is whether he is entitled to the other three under section 151(e)(1)(B) and (3) and section 152(a)(1) and (e). 1Findings of Fact Some of the facts have been stipulated and are so found. The stipulation and attached exhibits are incorporated herein by this reference. At the time the petition herein was filed petitioner was a resident of Richmond, Virginia. He filed his 1967 individual income tax return by mail with the Internal Revenue Service, Regional Service Center in Philadelphia, Pennsylvania. At the time of such filing petitioner was a resident of Richmond, Virginia. Petitioner and Eunice Strader (Eunice) were married in 1948. Four children were born of such marriage whose attained ages during 1967 were: Linda, 17 years; Jane, 15 years; Penny, 6 years; and Donald, Jr., 4 years. During 1967 petitioner, Eunice and their family lived in a 63 feet long, 3-bedroom trailer which they maintained and parked in a trailer court in the Richmond area. Petitioner was employed as a crane operator in 1967 with a payday each Friday, but he was rarely at home between Friday and the171 following Monday or Tuesday when he would return to the trailer because he had run out of money. His contributions to the support of his household and family were negligible. Eunice was employed full-time by the West Virginia Pulp and Paper Company during the year in issue and earned slightly more than $5,900 in such year. In about June 1967 Eunice commenced divorce and support proceedings against petitioner and he left their trailer home on July 5, 1967. They have remained separated ever since that date. On July 5, 1967, a support order was entered by the Juvenile and Domestic Relations Court of Chesterfield County, Virginia, the memorandum of which issued by the Clerk of such court provides in pertinent part: The COMMONWEALTH OF VIRGINIA vs. Donald A. Aherron On July 5, 1967, you were placed under a support order by this court, which requires you to pay $75.00 each week to the Clerk of this court. The first payment is due by the 7th day of July, 1967. Pursuant to this order petitioner paid only $1,015 into such court between July 7, 1967 and December 31, 1967. The three younger children, Jane, Penny and Donald, Jr., continued to reside with Eunice in the trailer home172 for the remainder of the year following petitioner's departure on July 5, 1967. Their entire support for the year was furnished by Eunice and petitioner. On November 2, 1967, a decree of divorce from bed and board was entered by the Circuit Court of Chesterfield County, Virginia, reading in pertinent part as follows: EUNICE STRADER AHERRON Plaintiff Vs. DONALD ADELL AHERRON Defendant DECREE This cause, which has been regularly matured, docketed and set for hearing, * * 864 Upon Consideration Whereof, the Court finds from the evidence, * * * that the charge of wilful desertion of the plaintiff by the defendant on the 21st day of July, 1967, has been fully proven by the evidence, and that the plaintiff is entitled to the relief prayed for. The Court doth ADJUDGE, ORDER and DECREE that the plaintiff, Eunice Strader Aherron, be, and she is hereby, divorced from the defendant, Donald Adell Aherron, from bed and board, on the aforesaid ground of wilful desertion; with leave to have the same merged into a decree of divorce from the bond of matrimony as provided by law. It is further ADJUDGED, ORDERED and DECREED that custody of * * * Jane Adell Aherron, Penny Ann Aherron173 and Donald Adell Aherron, Jr., infant children of the parties hereto, be, and the same is awarded to the plaintiff; and it appearing that the defendant is under a legal duty to support said children, the Court doth divest itself of further jurisdiction concerning future questions of custody and support of the said children with leave to the plaintiff to proceed in the appropriate Juvenile and Domestic Relations Court regarding such questions in accord with any applicable law. This decree of divorce from bed and board was later merged into a decree of absolute divorce, entered by the same court on September 27, 1968. Such final decree reiterated the finding of willful desertion on the part of petitioner herein and continued the custody of the children in Eunice. During the year in issue petitioner provided approximately $325 each toward the support of his children, Jane, Penny, and Donald, Jr., and during that same year Eunice contributed more than double that amount toward the support of each such child. Opinion Petitioner and Eunice have each claimed their children, Jane, Penny, and Donald, Jr., as dependency exemption deductions for the year 1967. The applicable portions174 of section 152 provide that the term "dependent" as used in section 151 (which grants the exemption) means a son or a daughter of the taxpayer over half of whose support for the calendar year was received from the taxpayer, or is treated under subsection (e) as received from the taxpayer. Subsection (e) provides that if such son or daughter is in the custody of one or both of his parents for more than one-half of the calendar year, such child shall be treated as having received over half of his support for that year from the parent having custody for a greater portion thereof, "unless he [the child] is treated, under the provisions of paragraph (2), as having received over half of his support for such year from the other parent." Said paragraph (2) provides for exceptions regarding written agreements or decree provisions as to the exemption deduction, and for special rules if the parent not having custody provides a minimum of $1,200 for support. The facts of the instant case do not qualify under any of the paragraph (2) exceptions. Both petitioner and Eunice testified as witnesses herein. It is clear from our findings that Eunice had custody of Jane, Penny, and Donald, Jr., for*175 the greater portion of the year in issue and that petitioner provided less than a total of $1,200 for the support of his children during such year. It is also clear from our findings that Eunice provided far more toward the support of these same children during the year in issue than was provided by petitioner. Therefore, Decision will be entered for the respondent. Footnotes1. All statutory references are to the Internal Revenue Code of 1954.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623743/	Meyer J. Safra and Rivka Safra, Petitioners, v. Commissioner of Internal Revenue, RespondentSafra v. CommissionerDocket No. 29823United States Tax Court30 T.C. 1026; 1958 U.S. Tax Ct. LEXIS 109; August 11, 1958, Filed 109 Decision will be entered under Rule 50. 1. Petitioners' income determined on the basis of the net worth plus nondeductible expenditures method.2. Petitioner is not collaterally estopped to deny a determination of additions to tax for fraud under section 293 (b), I. R. C. 1939, by reason of a prior conviction for criminal fraud under section 145 (b), I. R. C. 1939.3. A portion of the deficiencies determined for 1943, 1944, 1945, 1946, and 1948 is due to fraud with intent to evade tax. A. Louis Mechlowitz, Esq., for the petitioners.W. Preston White, Jr., Esq., for the respondent. Withey, 110 Judge. WITHEY1026 Respondent has determined deficiencies in the income taxes of petitioners and additions to tax under section 293 (b) of the Internal Revenue Code of 1939 for the indicated years as follows:YearDeficiencyAdditionto tax1943$ 6,766.45$ 3,383.2219445,726.732,863.37194514,051.787,025.891946$ 10,743.33$ 5,371.6719479,256.384,628.1919481,600.22800.11The issues presented for our determination are the correctness of the respondent's action in determining (1) that the income of the petitioners was understated for each of the years 1943 to 1948, inclusive; (2) that petitioners are collaterally estopped to deny that some part of the deficiency determined for each of the taxable years here involved was due to fraud with intent to evade tax; and (3) that, in the event that petitioners are not so estopped, some part of the deficiency for each of the years in issue was in fact due to fraud with intent to evade tax.Additional issues presented by the pleadings have been abandoned by petitioners.GENERAL FINDINGS OF FACT.Some of the facts have been stipulated and are found accordingly.The petitioners, husband and wife, 111 residing in Dade County, Florida, filed their joint income tax returns for 1943 to 1948, inclusive, with the collector of internal revenue for the district of Florida. Inasmuch as the activities of Meyer J. Safra are those with which we are here primarily concerned, "petitioner" or "Safra" as hereinafter used has reference to him.1027 Issue 1. Deficiency.FINDINGS OF FACT.In 1924 the petitioner, together with his wife, his mother, brother, and 2 sisters, left Russia, the country of his birth, and emigrated to Bucharest, Rumania. Later in that year the petitioners emigrated to Toronto, Ontario, Canada, where they lived for over 1 year. While living in Toronto, Safra was employed for a few weeks as a rabbi at a salary of $ 10 a week. After petitioner's mother, brother, 2 sisters, and brother-in-law had emigrated to Toronto at his expense, he and his wife moved permanently to the United States in March 1926 and resided in Philadelphia, Pennsylvania, for 3 years. While living in Philadelphia, Safra learned to read and write English and he served as a rabbi to three different congregations at salaries ranging from $ 20 per week to $ 35 per week.In 1929 petitioner and112 his wife and son moved to Miami, Florida, where he obtained a position as rabbi at a salary of $ 35 per week. Safra served as a rabbi in Miami for or about 2 years.In April 1931, Safra went to Chicago where he enrolled in the Northern College of Optometry which he attended for 2 years. During their 2-year stay in Chicago a second child was born to petitioner and his wife. Petitioner was unemployed during the time he spent in Chicago attending the Northern College of Optometry.After graduating from the Northern College of Optometry, Safra obtained a position as rabbi at Ann Arbor, Michigan, for approximately 4 months at a salary of or about $ 25 per week.In 1934 Safra and his wife returned to Miami, Florida, and have resided in Dade County, Florida, since that time. The petitioner passed the examination given by the Florida Optometry Board in 1934 and he subsequently opened his office for the practice of optometry.In 1943 petitioner went to the office of the collector of internal revenue in Miami, Florida, and inquired as to whether or not he would be required to pay any taxes on money which he had brought into the United States from another country, and he was advised by that113 office that he would not be liable for any taxes thereon.During the years 1943 through 1948 Safra received income from his practice as an optometrist and from his practice as a naturopath, treating eye, ear, nose, and throat conditions, rentals from apartment buildings, and the disposition of real estate.In the fall of 1949 respondent contacted the petitioner and advised him that the income tax returns filed jointly by him and his wife for the years 1947 and 1948 would be audited and investigated. Accordingly, respondent's agent made an appointment with Safra to examine his records. The petitioner appeared at the office of the respondent 1028 and brought only a single-entry ledger which did not contain original entries but only a summary of annual income and expenses which had been entered at the end of each year. The respondent's agent advised petitioner that his records were inadequate. Subsequently Safra returned to respondent's office with his accountant but did not bring additional records. However, the respondent's agent was furnished with a ledger which had been reconstructed by petitioner's accountant who told the agent that he was unable to prove the amount of114 income received by the petitioner because his records were incomplete.In February 1950, a special agent entered the investigation and attempted to determine whether or not the petitioner possessed adequate records of his income and expenses. From the records that were furnished the agent by petitioner (a journal, 2 rewritten ledgers, and canceled checks for the years 1947 and 1948), he was unable to verify any of the petitioner's income or expense items. The agent was informed by Safra that he had not maintained any records of the income of his optometry business and he was further informed that petitioner possessed a substantial amount of undeposited cash in his residence. Consequently, the respondent elected to utilize the increase in net worth plus nondeductible expenditures method of reconstructing income.In the statutory notice of deficiency the respondent determined that the petitioners understated their net taxable income for the years and in the amounts as follows:NetCorrectUnderstatementYearincomenetof netdisclosedincomeincomeon return1943$ 2,384.43$ 20,572.76$ 18,188.3319442,862.0618,367.4315,505.3719454,147.4032,524.2728,376.871946$ 4,977.92$ 30,664.43$ 25,686.5119474,979.6926,344.9821,365.2919484,987.3512,615.167,627.81115 The petitioner maintained a personal checking account at the Mercantile National Bank of Miami Beach, Florida, from December 15, 1943, to April 4, 1946. As of December 31 of each of the years 1943 to 1945, inclusive, the balance in that account was as follows:YearAmount1943$ 222.741944181.5919452.20From February 4, 1946, through December 31, 1948, the petitioner maintained another bank account at the Mercantile National Bank, Miami Beach, Florida. As of December 31 of each of the years 1946 to 1948, inclusive, the balance appearing in that account was as follows: 1029 Amount1946$ 698.321947265.421948541.73From September 13, 1943, and continuing through the year 1948, the petitioner maintained a bank account at the Miami Beach First National Bank of Miami Beach, Florida. At the end of each of the years 1943 to 1948, inclusive, the balance appearing in that account was as follows:YearAmount1943$ 1,951.711944771.8719453,012.521946370.20194754.771948The petitioners maintained a bank account at the First National Bank of Miami, Miami, Florida, from June 28, 1947, through December 31, 1948. At the end of the116 years ended December 31, 1947 and 1948, the balance in that account was as follows:YearAmount1947$ 0.541948627.52During the year ended December 31, 1942, petitioner maintained a bank account at the Florida National Bank, Miami, Florida, and a special checking account at the Miami Beach First National Bank, Miami Beach, Florida. The balance appearing as of December 31, 1942, in the account maintained at the Florida National Bank was $ 111.09 and the balance in the special checking account in the Miami Beach First National Bank as of December 31, 1942, was $ 12.25.At the end of each of the years 1942 to 1948, inclusive, petitioner had merchandise inventory in the amounts as follows:YearAmount1942$ 4,356.0019438,323.0019448,973.0019458,343.0019468,516.0019479,159.45194810,650.00At the end of each of the years 1942 to 1948, inclusive, petitioner had office equipment in the amounts as follows:YearAmount1942$ 1,200.0019431,200.0019441,200.0019451,200.0019461,200.0019471,396.2519481,559.951030 At the end of each of the years 1942 to 1948, inclusive, petitioner owned Government bonds as follows:YearAmount1942$ 93.75194375.0019441945262.50194619471948117 The petitioner kept in a money belt and in a piece of 3/4-inch water pipe in his clothes closet a substantial amount of cash which he had brought with him at the time he entered the United States and had never deposited in a bank. As of December 31, 1942, the petitioner had in his possession undeposited cash in the amount of $ 85,000. He gradually brought his undeposited cash into circulation by borrowing as much as he could upon purchasing parcels of real estate and subsequently discharging the outstanding mortgages and promissory notes with cash withdrawn from his cash hoard. The petitioner began to circulate his undeposited cash extensively in this manner in 1943. Since January 1, 1943, the petitioners have executed promissory notes and real estate mortgages on the dates and in the amounts as follows:Date of noteand mortgageFace amountDec. 8, 1943$ 5,000.00Dec. 8, 194314,544.35June 8, 19448,000.00June 28, 194414,000.00Apr. 12, 19469,000.00Apr. 12, 194658,200.00Apr. 24, 194638,000.00June 23, 19477,700.00In addition to the foregoing, during the period from December 6, 1943, to June 5, 1947, the petitioner borrowed the total amount of $ 80,750118 from the Miami Beach First National Bank, Miami Beach, Florida, on open account. Further, from April 29, 1946, to October 30, 1947, he borrowed the total amount of $ 33,000 from the Mercantile National Bank, Miami Beach, Florida, on open account.The majority of the foregoing loans, both secured and unsecured, were repaid with interest at a time considerably in advance of their maturity.During each of the years 1943 to 1947, Safra executed a sworn financial statement in connection with his application for a bank loan. In those statements the petitioner disclosed the amount of his cash and net worth as follows: 1031 Cash inDatehand andNet worthbanksDec. 3, 1943$ 7,500$ 48,000May 31, 194413,30063,600Feb. 13, 19452,00090,800Apr. 4, 1946$ 35,000$ 124,500May 5, 19473,000168,000The petitioner made payments out of undeposited cash on outstanding real estate mortgages and promissory notes during the years and in the amounts as follows:YearAmount1943$ 3,00019446,151194519,117194618,916194737,816On the following dates the petitioner had undeposited cash on hand in the indicated amounts:DateAmountJan. 1, 1943$ 85,000Dec. 31, 194382,000Dec. 31, 194475,849Dec. 31, 194556,732Dec. 31, 194637,816Dec. 31, 1947Dec. 31, 1948119 Petitioner's reserve for depreciation for the years 1942 to 1948, inclusive, as stipulated by the parties was as follows:1942194319441945194619471948Buildings$ 1,658$ 1,939$ 3,304$ 6,544.80$ 6,870$ 8,957.10$ 14,424.01Officefurniture600720840960.00Officeequipment1,0801,219.631,243.35OPINION.The respondent has determined petitioners' income by the increase in net worth plus nondeductible expenditures method and thereby has determined that their taxable income as reported on their returns was understated.The petitioners contend that the increases in net worth reflected in the net worth statement prepared by the respondent are attributable to the expenditure of undeposited cash on hand as of January 1, 1943, for which the respondent gave them no credit in the net worth statement.The petitioner asserts that on January 1, 1943, he had in his possession $ 145,000 in bills of $ 500 and $ 1,000 denominations which he 1032 had brought with him to Toronto, Ontario, Canada, from Bucharest, Rumania, in 1924. Safra's explanation of the method of acquiring his cash hoard is unique. He testified that in 1919, at the120 age of 19, he obtained a position as assistant to the assistant superintendent in a 350-bed hospital in Elisretgrad, Russia. In addition to his salary, he stated that he was able to accumulate substantial amounts of cash, jewelry, and other valuables by appropriating unclaimed personal property found in the possession of deceased persons who had died while under treatment in the hospital. Further, upon being promoted to superintendent of the hospital, Safra testified that it was his responsibility to purchase food supplies for the patients and that he was able to reap a substantial personal profit from the cash allotments made available by the hospital for such purchases. After termination of his employment as superintendent of the hospital, the petitioner stated that he joined the Russian Cheka, or secret police, and while traveling throughout the country he made a considerable profit by purchasing and reselling currency in the various provinces.According to petitioner's testimony, he left Russia by way of the underground in 1924, together with his wife, mother, brother, and 2 sisters, and emigrated to Bucharest, Rumania. He testified that he sold most of his jewelry and exchanged121 his Russian currency into United States and Canadian currency while staying in Bucharest. He further testified that he concealed his currency in the lining of his suitcase, between the pages of books, and in a money belt which he wore around his waist, during his trip from Bucharest, Rumania, to Toronto, Canada, in 1924. He stated that he had between $ 180,000 and $ 200,000 in currency in 1924.Joseph Shaffer, petitioner's brother-in-law, and a cousin of petitioner Rivka Safra, testified that he counted between $ 120,000 and $ 140,000 in 1924, while assisting the petitioner in packing the money in the lining of his suitcase in Bucharest. Because of the obvious bias of Joseph Shaffer, however, and because of the remoteness in time between the trial herein and the occasion to which his testimony refers, we are unable to rely fully upon his testimony.Benjamin Friedman, whose testimony as given before the United States District Court for the Southern District of Florida was admitted herein by stipulation, testified that in 1925 the petitioner showed him a bundle of $ 500 bills and a bundle of $ 100 bills in the city of Toronto, Ontario, Canada. Friedman, however, did not count any122 of the money he stated he had seen and consequently his testimony is of little value.Henry Daverman, a friend of Safra's whom he had offered to assist in setting up in business, testified that in 1938 in New York City he (Daverman) counted $ 50,000 which the petitioner took from a belt around his waist. Daverman further stated that he saw more 1033 money in the petitioner's possession at that time which he did not count.Rabbi Hirsch Horowitz testified that in 1942 the petitioner brought to him in Miami Beach, Florida, a belt containing a sizable amount of cash which he did not count but which he laid his hands upon for the purpose of pronouncing a blessing thereon. Rabbi Horowitz stated that he saw some $ 500 bills but did not count the money because of the provisions of Talmudic law, according to which the effectiveness of clerical blessing would have been destroyed by counting or evaluating the temporal accumulation. We think the testimony of this witness is credible.Samuel Daverman, a friend of petitioners', was stationed near Miami Beach, Florida, as a member of the United States Air Force in 1943. Daverman had had considerable training as an accountant and he also123 had had some experience in that field. He was a frequent visitor in the home of the petitioners' during 1943, visiting them several times a week. The petitioner discussed some of his financial problems with Daverman and when he expressed disbelief at the size of petitioner's claimed cash accumulation, Safra took a length of pipe from his clothes closet and removed a money belt from around his waist and deposited their cash contents on the table. Daverman testified that he personally counted $ 80,000 in cash during May 1943 and stated further that there definitely was more cash in the accumulation contained in the pipe and money belt which he did not count. He did not estimate, however, the amount of the additional uncounted cash.Because of the petitioner's manner of testifying and demeanor on the witness stand, together with certain discrepancies in his testimony, we are unable to accept his story in many of its aspects. We are not convinced from the record that Safra actually possessed undeposited cash in the amount of $ 145,000 on January 1, 1943. However, the facts that petitioner was able to finance the transportation of his mother, brother, 2 sisters, and brother-in-law124 from Bucharest, Rumania, to Toronto, Ontario, Canada, in 1925; that he was able to support himself, his wife, and family of 2 children from 1925 to 1934 while being employed only periodically at a nominal salary; that he moved from Toronto to Philadelphia, Pennsylvania, to Miami, Florida, to Chicago, Illinois, and back to Miami; and that he was able to attend for 2 years the Northern College of Optometry in Chicago, Illinois, without earnings, all indicate that he at those times possessed funds in a substantial amount. On the basis of the extraneous and apparently unbiased testimony of Henry Daverman who counted $ 50,000 worth of petitioner's cash accumulation in 1938, the testimony of Rabbi Horowitz who saw and laid his hands upon a substantial cash accumulation brought to him by petitioner 1034 in 1942, and the supporting testimony of Samuel Daverman who counted $ 80,000 of petitioner's cash in 1943, we are persuaded that the petitioner had undeposited cash on hand in the amount of $ 85,000 as of January 1, 1943.The petitioners have not attempted to establish the amount of undeposited cash on hand at the end of each of the years in issue. Nor have they shown the amount 125 of such cash that was expended during those years for assets listed on the net worth schedule prepared by respondent. However, the petitioner testified that in 1943 he began to circulate extensively his undeposited cash by borrowing as much as he could upon acquiring real estate and subsequently discharging the notes and mortgage obligations with cash withdrawn from his cash hoard. Since there is no evidence in the record that any cash was expended by the petitioner for any purpose other than payments on notes and mortgages, we have determined in our findings of fact the amount of the payments made in each year out of undeposited cash in an amount equal to the annual reduction in outstanding notes and mortgages, and we have determined the amount of undeposited cash on hand at the end of each year accordingly.Issue 2. Collateral Estoppel.FINDINGS OF FACT.On April 3, 1952, Meyer Safra was indicted for willfully and knowingly attempting to evade a portion of the Federal income tax due and owing by him for the years 1945 to 1948, inclusive, by filing false and fraudulent income tax returns for the foregoing years in violation of section 145 (b) of the Internal Revenue Code of126 1939. After a trial by jury in the United States District Court for the Southern District of Florida, Miami Division, in the case of United States of Americav. Dr. Meyer J. Safra, the petitioner was found guilty on all counts as charged in the indictment for each year. On February 20, 1956, the United States District Court for the Southern District of Florida, Miami Division, entered its judgment to the effect that Safra had been convicted of attempting to defeat and evade a portion of his income taxes due for the years 1945 to 1948, inclusive, by filing false and fraudulent returns for those years; that he was guilty as charged and convicted; that he pay the United States a fine in the amount of $ 1,000; and that he be committed for imprisonment for a period of 1 year, but that the confinement sentence be suspended. No appeal was taken from this judgment.OPINION.In his amended answer, the respondent has asserted that inasmuch as the petitioner was convicted in the United States District Court 1035 for the Southern District of Florida of attempting to defeat and evade a portion of his income taxes for 1945 to 1948, inclusive, he is collaterally estopped from litigating127 in the Tax Court the correctness of the respondent's action in determining additions to tax for fraud under section 293 (b) of the 1939 Code. If the respondent's position is correct, the question raised by the pleadings of whether or not a part of the deficiencies determined herein was due to fraud with intent to evade tax is not properly before us, and we are without jurisdiction to determine the existence or nonexistence of fraud in any case in which the taxpayer previously has been convicted of tax fraud in a United States District Court.In Helvering v. Mitchell, 303 U.S. 391">303 U.S. 391, the Supreme Court held that an acquittal in a United States District Court under an indictment charging the taxpayer with willfully attempting to evade or defeat tax under section 146 (b) of the Revenue Act of 1928 was not a bar to the assessment by the respondent of an addition to tax for fraud under section 293 (b) of the Revenue Act of 1928. The Supreme Court pointed out that sections 146 (b) and 293 (b) of the Revenue Act of 1928, providing penalties and additions to tax for criminal and civil fraud, are essentially different in character, were enacted for wholly 128 different purposes, and differ widely in their language. To hold, therefore, as the respondent contends, that a jury conviction for willful evasion of tax under section 145 (b) of the Internal Revenue Code of 1939 estops the taxpayer from petitioning the Tax Court to redetermine the correctness of the respondent's action in determining additions to tax under section 293 (b) of the Code would appear to be inconsistent with the holding of the Supreme Court in Helvering v. Mitchell, supra.An issue similar, if not identical, to the one here presented was raised in Eugene Vassallo, 23 T. C. 656, where the respondent submitted a motion for judgment by estoppel as to the question of fraud based on the conviction of the taxpayer for criminal fraud in the United States District Court. We there held that the taxpayer's conviction under section 145 of the 1939 Code was not res judicata in proceedings before the Tax Court.We are aware of no decision which holds that a conviction for criminal fraud in a United States District Court estops a taxpayer from denying a determination of additions to tax for fraud in a Tax Court proceeding, 129 and respondent has cited none. We therefore are of the opinion that our decision in Eugene Vassallo, supra, is dispositive of this issue and we accordingly hold that the petitioner is not collaterally estopped to deny that a portion of the deficiencies herein was due to fraud with intent to evade tax.1036 Issue 3. Fraud.FINDINGS OF FACT.The petitioner's records consisted of a single-entry ledger which did not contain original entries but disclosed a summary of annual income and expenses which had been entered at the end of each year. Safra did not maintain records of his optometry business.The petitioners understated their net income on their Federal income tax returns for each of the years ended December 31, 1943, to December 31, 1946, inclusive, and the year ended December 31, 1948, by at least the following amounts:YearAmount1943$ 10,169.0019443,926.0019455,035.0019464,178.00194719486,374.31A portion of the deficiency for each of the foregoing years is due to fraud with intent to evade tax.OPINION.The final question presented for our determination is whether the understatements of gross income by petitioner130 for 5 of the 6 years in issue were in fact due in whole or in part to fraud with intent to evade tax.A strong indication of petitioner's intention is found in the consistent pattern of understatements of income over a period of years. For the years 1943, 1944, 1945, 1946, and 1948, petitioners understated their net income on their Federal income tax returns in amounts ranging from $ 3,926 to $ 10,169 each year. The understatements of income were so consistent and of sufficient magnitude as to preclude the inference that they were omitted due to oversight.Moreover, petitioner's records consisted only of a single-entry ledger containing a summary of annual income and expenses which had been entered at the end of each year. No records were maintained by the petitioner in connection with his optometry business. The failure on the part of petitioner to maintain adequate books and records, when coupled with other evidence of record, provides convincing evidence of his fraudulent intention to evade taxes. Arlette Coat Co., 14 T.C. 751">14 T. C. 751.Accordingly, on the basis of the foregoing evidence, we are convinced that some portion of the deficiency determined131 for each of the years was due to fraud with intent to evade tax.*1037 With respect to the liability of Rivka Safra on the joint income tax returns filed with Meyer Safra for each of the years in issue, where a taxpayer is guilty of fraud in failing accurately to report income for a given taxable year and, for that year, the taxpayer and his wife filed a joint income tax return, the spouses are jointly and severally liable for the entire tax, together with additions thereto. Myrna S. Howell, 10 T. C. 859, affd. 175 F.2d 240">175 F. 2d 240. The consequences of the filing by Meyer Safra of the fraudulent income tax returns for 1943, 1944, 1945, 1946, and 1948 therefore attach to Rivka Safra as well.Decision will be entered under Rule 50.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623745/	APPEAL OF MABEL ELEVATOR CO.Mabel Elevator Co. v. CommissionerDocket No. 1110.United States Board of Tax Appeals2 B.T.A. 517; 1925 BTA LEXIS 2371; September 8, 1925, Decided Submitted August 5, 1925. 2371 The time within which deficiencies of tax under the 1918 Act must be assessed runs from the date of filing the original return, if such return is not false or fraudulent. Filing an amended return does not extend such time. After the period of limitations for assessing tax has expired, such tax may not be assessed upon the theory that a taxpayer, who made his returns on a fiscal year basis, should have made them upon a calendar year basis and that therefore the returns required by statute had not been filed by the taxpayer. Charles H. Preston, C.P.A., for the taxpayer. John D. Foley, Esq., for the Commissioner. PHILLIPS 517 Before GRAUPNER, TRAMMELL, and PHILLIPS. Taxpayer appeals from a determination of a deficiency of $2,915.73, income and profits taxes for the period from July 31, 1917, to December 31, 1917. 518 FINDINGS OF FACT. 1. The taxpayer was incorporated May 25, 1914, under the laws of the State of Minnesota. 2. It filed its income and profits-tax returns annually from its incorporation to July 31, 1923, on the basis of a fiscal year ended July 31. 3. The taxpayer, during the period from 1914 to 1923, 2372 closed its books on or about July 10 or July 15 of each year. Practically no business is transacted between these dates and July 31. 4. The taxpayer did not file a return for the five months' period beginning August 1 and ending December 31, 1917. On October 29, 1918, before the passage of the Revenue Act of 1918, taxpayer filed its return for the period from August 1, 1917, to July 31, 1918. On April 21, 1919, after the 1918 Act became effective, taxpayer filed a second return for the same period. On August 12, 1921, taxpayer filed a so-called "amended return," for the same period. 5. On May 28, 1924, the taxpayer was instructed by the Commissioner of Internal Revenue to file returns for years subsequent to 1918 on a calendar year basis. On September 25, 1924, this instruction was revised so as to require the taxpayer to file a calendar year return for the year 1918, also. 6. The Commissioner prepared a tax return for the taxpayer for the five months' period ended December 31, 1917, and on December 3, 1924, the Commissioner forwarded to the taxpayer by registered mail a 60-day letter proposing the assessment of additional income and profits taxes of $2,915.72 for2373 the five months' period beginning August 1 and ending December 31, 1917. The proposed deficiency is predicated upon an income of $16,294.50 and an invested capital of $22,893.18, both being upon a 12 months' basis, the tax being reduced to the basis of a period of five months. DECISION. The deficiency determined by the Commissioner is disallowed. OPINION. PHILLIPS: On October 29, 1918, taxpayer filed a return of its income for the period from August 1, 1917, to July 31, 1918. Thereafter the Revenue Act of 1918 was passed, affecting a part of the year for which such return had been filed and subsequently on April 21, 1919, taxpayer filed a second return for this same period, apparently for the purpose of complying with the provisions of that Act. Such second return was required by the 1918 Act if taxpayer was correct in filing its return on the basis of a fiscal year ending July 31, 1918. 519 Section 277(a)(2) of the Revenue Act of 1924 provides that the amount of income or profits taxes imposed by "the Revenue Act of 1917, the Revenue Act of 1918, and by any such Act as amended, shall be assessed within five years after the return was filed." The deficiency2374 letter from which this appeal was taken was mailed to the taxpayer more than five years after the return was filed on April 21, 1919, and the limitation of time within which taxes must be assessed had expired. The Commissioner urges two contentions upon which he relies to avoid this limitation: (1) It appears that on August 12, 1921, taxpayer filed what purported to be an amended return for the period from August 1, 1917, to July 31, 1918. It has already been held by this Board that the filing of an amended return does not toll the period of limitations set out in section 277(a)(2) of the Revenue Act of 1924. . (2) It is urged that since the return filed by the taxpayer was made upon a fiscal year basis, while the law required a return upon a calendar year basis, the return filed was not the return required by the law and could not operate to start running the statutory period of limitations. With this we can not agree. The return filed purported to be made in accordance with the law; it purported to and did include the income of the taxpayer for the period in question. In the absence of any evidence2375 or claim that such return was false or fraudulent with intent to evade tax, it became the duty of the Commissioner to determine, within the time provided by law, whether or not such return was erroneous in any respect. There can be no doubt that such limitations are placed on assessments for the purpose of assuring the taxpayer, who has made an honest return, that after such period his tax liability will not be reopened; otherwise the business of the country would always have before it the threat of additional taxes against the income of years long past whenever a new theory for interpreting the tax law or for the application of accounting principles occurred to the taxing authorities. If the limitation can be avoided on the plea that the return filed was not such a return as is required by law, although filed in good faith, there is no such assurance for the taxpayer and the limitation becomes of doubtful value at least. If the statute requires any interpretation great weight must be given to the purpose which it was obviously intended to accomplish. Reaching the conclusion that we do, it is not necessary to consider whether taxpayer was entitled to make and file its return*2376 for the period in question on the basis of a fiscal year ending July 31. ARUNDELL not participating.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623747/	E. G. SORIA, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, RespondentSoria v. CommissionerDocket No. 23579-85.United States Tax CourtT.C. Memo 1986-206; 1986 Tax Ct. Memo LEXIS 402; 51 T.C.M. (CCH) 1048; T.C.M. (RIA) 86206; May 21, 1986. Darryl V. Rippy, for the petitioner. George Nassif, for the respondent. BUCKLEYMEMORANDUM OPINION BUCKLEY, Special Trial Judge: This matter was assigned to the undersigned pursuant to Rules 180, 181 and 183, Tax Court Rules of Practice and Procedure. It is before us on respondent's motion to dismiss for lack of jurisdiction. Petitioner on July 5, 1985, filed a petition to this Court in regard to his 1982 taxable year. He alleged therein that he had not received a notice of deficiency from respondent for that year and stated that he believed that records of the403 Internal Revenue Service indicated that such a notice was mailed. He also alleged that if such notice was mailed, it was not sent to petitioner's last known address in accordance with section 6212. 1 Petitioner resided at Fountain Valley, California, at the time of filing his petition herein. A statutory notice of deficiency was mailed by certified mail to petitioner on July 19, 1984, regarding his 1982 taxable year. The notice was mailed to him at 18642 Libra Circle #1, Huntington Beach, California. That address was the one shown on petitioner's 1982 tax return. If respondent's notice was sent to petitioner's last known address, the petition to this Court must have been filed on or before October 17, 1984, in order for it to be timely and for this Court to have jurisdiction over this matter. Sec. 6213. As noted, the petition in fact was filed July 5, 1985. Petitioner's 1983 Federal income tax return was filed on or before April 16, 1984. The address shown on that return was 17320 Euclid, Fountain Valley, California. Petitioner contends that respondent at the time404 of mailing the notice of deficiency to petitioner on July 19, 1984, had notice of petitioner's new address at Fountain Valley as a result of the new address shown on petitioner's 1983 return. Thus, petitioner contends that the notice of deficiency was not sent to petitioner's last known address and hence is invalid. Our question is therefore whether respondent had reasonable knowledge of the fact that petitioner's address had changed from Huntington Beach to Fountain Valley when respondent mailed the deficiency notice. This is, of course, a question of fact. Maxfield v. Commissioner,153 F.2d 325">153 F.2d 325, 327 (9th Cir. 1946). The Internal Revenue Service, as a general rule, is entitled to treat the address appearing on the return for the year in question as the last known address, absent "clear and concise notification" of a new address. Alta Sierra Vista, Inc. v. Commissioner,62 T.C. 367">62 T.C. 367, 374 (1974), affd. without published opinion 538 F.2d 334">538 F.2d 334 (9th Cir. 1976). We recognize that the "last known address" to which the notice of deficiency is mailed assumes great importance in the taxpayer's ability to obtain a prepayment judicial redetermination405 of his tax liabilities. Unfortunately, the phrase "last known address" is not defined in the applicable Code section or attendant regulations. We held in Brown v. Commissioner,78 T.C. 215">78 T.C. 215, 218-219 (1982), that this phrase means: the taxpayer's last permanent address or legal residence known by the Commissioner, or the last known temporary address of a definite duration to which the taxpayer has directed the Commissioner to send all communications during such period. Weinroth v. Commissioner,74 T.C. 430">74 T.C. 430, 435 (1980); Alta Sierra Vista, Inc. v. Commissioner,62 T.C. 367">62 T.C. 367, 374 (1974), affd. without published opinion 538 F.2d 334">538 F.2d 334 (9th Cir. 1976). Stated otherwise, it is the address to which, in light of all the surrounding facts and circumstances the respondent reasonably believed the taxpayer wished the notice to be sent. Weinroth v. Commissioner,supra;Looper v. Commissioner,73 T.C. 690">73 T.C. 690, 696 (1980). The relevant focus is thus on the Commissioner's knowledge rather than on what in fact may have been the taxpayer's actual address in use. Alta Sierra Vista, Inc. v. Commissioner,supra.406 We have held, generally, that the filing of a subsequent return with a change of address does not constitute such clear and convincing evidence. Weinroth v. Commissioner,74 T.C. 430">74 T.C. 430, 436-437 (1980); Budlong v. Commissioner,58 T.C. 850">58 T.C. 850, 852-853 (1972). However, we follow, for purposes of this matter, 2 the holdings of the Ninth Circuit to the effect that a subsequently filed tax return with a new address does give the Internal Revenue Service notice of the new address. See, e.g., United States v. Zolla,724 F.2d 808">724 F.2d 808, 810 (9th Cir. 1984). We must face the question here, however, as to just when the Internal Revenue Service had such notice, whether on the filing date of the 1983 return or at some other time subsequent thereto. If the Internal Revenue Service did not have effective notice until after July 19, 1984, of a change of address, our jurisdiction over this matter must fail. Petitioner's 1983 return was timely filed on or prior to April 16, 1984, with the Fresno Service Center of the Internal Revenue Service. The transcript of the Internal Revenue Service's National Computer Center indicates that petitioner's new address407 as indicated on his 1983 tax return was not posted until August 27, 1984, some 39 days after the issuance of the notice of deficiency. The delay between the return's timely filing date of April 16, 1984, and the computer posting of petitioner's 1983 return was, therefore, at least 19 weeks, or approximately four and one-half months. Respondent's procedure for the posting of return information, during the peak processing period, is to set aside returns that come in fully paid in order to process first returns upon which refunds are claimed. After the refund returns are posted, the Service Center then turns to the handling of non-refund returns. Petitioner's 1983 return was such a return. Not until August 27, 1984, did the information contained on the return about petitioner's new address become available to respondent for discovery. Respondent's transcript indicates that petitioner's408 1983 return was handled by the Service Center in the normal course of its business. The mere fact that the 1983 return was filed on or before April 16, 1984, does not serve to provide respondent with actual notice of petitioner's change of address. It would be unreasonable to ascribe respondent with notice solely because of physical control of the return at the Fresno Service Center. We take notice of the fact that the Fresno Service Center handled great numbers of returns during this period. Petitioner does not allege that he notified the Internal Revenue Service of an address change nor that the notice of deficiency was returned to the Internal Revenue Service from his Huntington Beach address so as to give them notice of an address change. We note that even had it been returned to the Internal Revenue Service after its issuance, petitioner's new address would not have been available to them until August. See Singer v. Commissioner,T.C. Memo. 1986-193. Nothing occurred in this matter to alert the Internal Revenue Service that the notice had not in fact been received by petitioner. Compare Wallin v. Commissioner,744 F.2d 674">744 F.2d 674 (9th Cir. 1984).*409 Under the circumstances herein, we find that the Internal Revenue Service acted reasonably in mailing the notice of deficiency to Huntington Beach. Petitioner had not, as a practical matter, advised the Internal Revenue Service of his change of address as of the date of mailing of the notice. See Bagwell v. Commissioner,T.C. Memo. 1984-93. There is nothing in the record to indicate that prior to the issuance of the statutory notice, respondent had any communication with petitioner at his new address. Cf. Ryo v. Commissioner,83 T.C. 626">83 T.C. 626 (1984).Further, no information whatsoever has been presented to indicate that the Internal Revenue Service knew that petitioner did not receive the notice. Since our jurisdiction is predicated upon the timely filing of a petition to this Court within 90 days of the issuance of the deficiency notice (sec. 6213) and since petitioner failed to so file, we must grant respondent's motion to dismiss for lack of jurisdiction. An appropriate order will be issued.Footnotes1. Section references are to the Internal Revenue Code of 1954, as amended, unless otherwise indicated.↩2. Golsen v. Commissioner,54 T.C. 742">54 T.C. 742 (1970), affd. 445 F.2d 985">445 F.2d 985 (10th Cir. 1971), cert. denied 404 U.S. 940">404 U.S. 940↩ (1971). Since any appeal herein lies to the Ninth Circuit, we follow that Court for purposes of our determination of jurisdiction herein.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623748/	GERMAN CLAVIJO AND BERTHA CLAVIJO, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, RespondentClavijo v. CommissionerDocket No. 2946-79.United States Tax CourtT.C. Memo 1980-529; 1980 Tax Ct. Memo LEXIS 53; 41 T.C.M. (CCH) 449; T.C.M. (RIA) 80529; December 1, 198053 In 1976, petitioners sold Residence 1 and purchased Residence 2; later in that year, petitioners sold Residence 2 and purchased Residence 3 as a result of petitioner-husband's transfer by his employer to a new principal place of work. Gain from the sale of Residence 1 was "rolled over" under sec. 1034(a), I.R.C. 1954. Held: Respondent's determination that petitioners must recognize gain from the sale of Residence 2 is sustained. Sec. 1034(d), I.R.C. 1954(pre-1978). German Clavijo, pro se. Sara W. Dalton, for the respondent. CHABOTMEMORANDUM FINDINGS OF FACT AND OPINION CHABOT, Judge: Respondent determined a deficiency in Federal individual income tax against petitioners for 1976 in the amount of $1,691. After concessions by petitioners, the issue for decision is whether the gain realized by petitioners from the sale of their second personal residence in 1976 is to be recognized in the year of sale or is to be "rolled over" pursuant to section 1034(a). 1FINDINGS OF FACT Some of the facts have been stipulated; the stipulation and the stipulated exhibits are incorporated herein by this reference. When the petition in this case was filed, petitioners German Clavijo (hereinafter sometimes referred to as "Clavijo") and Bertha Clavijo, husband and wife, resided in Houston, Texas. Before March 8, 1976, petitioners resided in a home they owned (since 1971) at 1702 Aberdeen Road, Baltimore, Maryland (hereinafter55 referred to as "Residence 1"). Petitioners sold Residence 1 on March 8, 1976, and realized $ 9,302 gain from this sale. 2On January 5, 1976, petitioners purchased for $ 56,000 a residence located at 20701 York Road, Parkton (Baltimore County), Maryland (hereinafter referred to as "Residence 2"). After Residence 1 was sold, petitioners resided in Residence 2 until it was sold on August 6, 1976. Petitioners realized $ 9,052 gain from the sale of Residence 2. 3On August 16, 1976, petitioners purchased a residence located at 1907 Roanwood Drive, Houston, Texas (hereinafter referred to as "Residence 3"). Petitioners' total cost for Residence 3 was $ 72,900. After moving into Residence 2, Clavijo was transferred to Houston by his employer, 56 Exxon Company of U.S.A. At the time of his transfer, Clavijo had been employed by Exxon for approximately six years. Residence 2 was sold in connection with the commencement of work by Clavijo at a new principal place of work. On their 1976 income tax return, petitioners gave no notice of the sales of Residence 1 and Residence 2. They neither reported their gains from these sales nor claimed deferral of recognition of their gains. OPINION Petitioners claim they are entitled to defer recognition of the gains from the sales of both Residence 1 and Residence 2 under section 1034(a). Respondent does not challenge petitioners' rollover of their gain from the sale of Residence 1. Respondent maintains that section 1034(d) precludes the deferral of gain from the sale of Residence 2 under section 1034(a). Consequently, respondent asserts, petitioners are required to recognize in 1976 their gain on the sale of Residence 2. Petitioners reply that section 1034(d) does not deny petitioners the benefit of section 1034(a) since Residence 2 was sold in connection with the commencement of work by Clavijo at a new principal place of work and section 1034(d) was subsequently amended to57 allow nonrecognition treatment under such circumstances. We agree with respondent. Petitioners realized gain from the 1976 sale of Residence 2; under the general rules of sections 1001(c) and 1002 4 they are required to recognize that gain. Petitioners maintain that section 1034(a)5 (which is in the same subtitle--subtitle A--as section 1002) provides otherwise, specifically that they are entitled to "roll over" their gain58 from the sale of Residence 2 by virtue of their acquisition of Residence 3. Since petitioners sold Residence 1 (on March 8, 1976) within 18 months before the date Residence 2 was sold (on August 6, 1976), and the gain from59 the sale of Residence 1 was not recognized by reason of section 1034(a), the plain language of section 1034(d)6 prevents section 1034(a) from applying to the gain from Residence 2. Aagaard v. Commissioner,56 T.C. 191">56 T.C. 191, 206 (1971). Petitioners assert that section 1034(d) produces an inequitable result because the sale of Residence 2 was necessitated by Clavijo's transfer to a new principal place of work. Petitioners point out that the Congress viewed section 1034(d) as too restrictive in such circumstances and subsequently amended section 1034(d) to allow section 1034(a) to apply to a60 subsequent sale of a residence connected with work at a new principal place of work. 7 Sec. 405(a) of the Revenue Act of 1978, Pub. L. 95-600, 92 Stat. 2870. However, as petitioners recognize, this change is effective only for sales and exchanges after July 28, 1978, in taxable years ending after that date. Sec. 405(d) of the 1978 Act, 92 Stat. 2871. 61 The committee reports, in describing then present law, make it plain that section 1034(d) applied to sales such as petitioners' which has taken place before the effective date of the new provisions. H. Rept. 95-1445, p. 137, n. 2, 1978-3 C.B. (Vol. 1) 311; S. Rept. 95-1263, p. 199, n. 2, 1978-3 C.B. (Vol. 1) 497. Since petitioners' taxable year before us is 1976, petitioners are not eligible for application of the 1978 Act relief provision to this case and we have no authority to grant relief where the Congress has denied it. We hold for respondent. In light of petitioners' concessions and the conclusions reached herein. Decision will be entered for respondent.Footnotes1. Unless indicated otherwise, all section references are to sections of the Internal Revenue Code of 1954 as in effect for the taxable year in issue.↩2. Petitioners' gain from the sale of Residence 1 is computed as follows: ↩Selling price$ 37,900Less: expense of sale4,598Amount realized$ 33,302Less: basis24,000Gain$ 9,3023. Petitioners' gain from the sale of Residence 2 is computed as follows: ↩Selling price$ 72,000Less: expense of sale5,948Amount realized$ 66,052Less: cost plusimprovements57,000Gain$ 9,0524. SEC 1001. DETERMINATION OF AMOUNT OF AND RECOGNITION OF GAIN OR LOSS. (c) Recognition of Gain or Loss.--In the case of a sale or exchange of property, the extent to which the gain or loss determined under this section shall be recognized for purposes of this subtitle shall be determined under section 1002. SEC. 1002. RECOGNITION OF GAIN OR LOSS. Except as otherwise provided in this subtitle, on the sale or exchange of property the entire amount of the gain or loss, determined under section 1001, shall be recognized. [Emphasis added.] [The subsequent revisions of these provisions (by secs. 1901(a)(121) and 1901(b)(28)(B)(i) of the Tax Reform Act of 1976, Pub. L. 94-455, 90 Stat. 1784, 1799) do not affect the instant case.]↩5. SEC. 1034. SALE OR EXCHANGE OF RESIDENCE. (a) Nonrecognition of Gain.--If property (in this section called "old residence") used by the taxpayer as his principal residence is sold by him after December 31, 1953, and, within a period beginning 18 months before the date of such sale and ending 18 months after such date, property (in this section called "new residence") is purchased and used by the taxpayer as his principal residence, gain (if any) from such sale shall be recognized only to the extent that the taxpayer's adjusted sales price (as defined in subsection (b)) of the old residence exceeds the taxpayer's cost of purchasing the new residence. [The subsequent amendments of the heading of section 1034 and the text of section 1034(a)↩ (by sec. 405(c)(1) of the Revenue Act of 1978, Pub. L. 95-600, 92 Stat. 2871, and sec. 1901(a)(129)(A) of the Tax Reform Act of 1976, Pub. L. 94-455, 90 Stat. 1785, respectively) do not affect the instant case.]6. SEC. 1034. SALE OR EXCHANGE OF RESIDENCE. (d) Limitation.--Subsection (a) shall not apply with respect to the sale of the taxpayer's residence if within 18 months before the date of such sale the taxpayer sold at a gain other property used by him as his principal residence, and any part of such gain was not recognized by reason of subsection (a) or section 112(n) of the Internal Revenue Code of 1939. [The subsequent amendment of this provision by sec. 405(a) of the Revenue Act of 1978, Pub. L. 95-600, 92 Stat. 2870, is discussed infra.↩]7. So amended, section 1034(d) reads as follows: (d) Limitation.-- (1) In general.--Subsection (a) shall not apply with respect to the sale of the taxpayer's residence if within 18 months before the date of such sale the taxpayer sold at a gain other property used by him as his principal residence, and any part of such gain was not recognized by reason of subsection (a). (2) Subsequent sale connected with commencing work at new place.--Paragraph (1) shall not apply with respect to the sale of the taxpayer's residence if-- (A) such sale was in connection with the commencement of work by the taxpayer as an employee or as a self-employed individual at a new principal place of work, and (B) If the residence so sold is treated as the former residence for purposes of section 217 (relating to moving expenses), the taxpayer would satisfy the conditions of subsection (c) of section 217 (as modified by the other subsections of such section).↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623749/	WILLIAM ELMORE, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, RespondentElmore v. CommissionerDocket No. 16961-80.United States Tax CourtT.C. Memo 1981-647; 1981 Tax Ct. Memo LEXIS 100; 42 T.C.M. (CCH) 1627; T.C.M. (RIA) 81647; November 4, 1981. 100 William Elmore, pro se. Eric B. Jorgensen, for the respondent. GOFFEMEMORANDUM FINDINGS OF FACT AND OPINION GOFFE, Judge. The Commissioner determined a deficiency in petitioner's Federal income tax for the taxable year 1978 in the amount of $ 207. The sole issue for our decision is whether the tax laws discriminate against petitioner by requiring him to file a separate return because his wife will not join in the filing of a joint return. FINDINGS OF FACT Petitioner filed a U.S. Individual income tax return for the taxable year 1978 with the Internal Revenue Service. He resided at Morganton, North Carolina, when he filed his petition. Petitioner was married throughout the taxable year 1978. His wife filed a U.S. Individual income tax return for the taxable year 1978. Petitioner, on his income tax return for the taxable year 1978, indicated his filing status to be single and computed his income tax liability to be $ 947 based upon adjusted gross income of $ 9,481.50 and two personal exemptions. The Commissioner, in his statutory notice of deficiency mailed to petitioner, determined that petitioner was required to utilize the filing status of101 a married person filing separately and recomputed petitioner's income tax liability. OPINION Petitioner first contends that he should not be required to pay income tax in excess of that which he reported on his return because he has paid more than his fair share in prior taxable years. His contention is not based upon having sustained net operating losses in prior years but, instead, upon equitable considerations. This contention has no merit. Petitioner next contends that because his wife would not join him in filing a joint return, the tax laws discriminate against him because he is being forced to file as a married person filing separately and is accordingly taxes at a higher rate than he would be taxed on a joint return. We have recently held that the so-called "marriage penalty" is not unconstitutional and that under circumstances identical with those in the instant case, a married taxpayer filing a separate return must utilize the tax table applicable to a married person filing separately. Druker v. Commissioner, 77 T.C. (Oct. 15, 1981). Decision will be entered for the respondent.	01-04-2023	11-21-2020

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